Impact of Exchange Rate Fluctuations on the Financial Soundness of Iranian Banks: The Role of Bank Size and Soundness Levels

Ahmadyan, Azam

doi:10.30699/ijf.2026.517792.1512

Impact of Exchange Rate Fluctuations on the Financial Soundness of Iranian Banks: The Role of Bank Size and Soundness Levels

Document Type : Original Article

Author

Azam Ahmadyan

Assistant prof, Department of Banking, Monetary and Banking research institute, Tehran, Iran.

10.30699/ijf.2026.517792.1512

Abstract

This empirical study investigates the impact of exchange rates on the financial soundness of Iranian banks from 1996 to 2023, utilizing financial soundness indicators, financial statement data, and macroeconomic variables. The selection of Iran is based on the significant role of exchange rate fluctuations in the financial soundness of its banking sector. Financial strategies and risk management adaptations are required as a result of these fluctuations, which have an impact on profitability, liquidity, and lending behavior. In contrast to the existing literature, which focuses on specific financial soundness indicators, this research establishes a composite metric informed by the International Monetary Fund's financial soundness indicators. This metric enables the analysis of exchange rate effects across a range of financial soundness levels. The study employs ARDL and quantile methodologies to investigate the differential effects on banks by their scale and the distinct impacts of official and unofficial exchange rates. The findings reveal intricate relationships, including inverse U-shaped dynamics between exchange rates and financial soundness through bank size, as well as varying effects across various quantiles of financial soundness. These insights provide crucial guidance for policymakers and financial institutions in stabilizing the banking sector in the face of economic uncertainties and underscore the necessity of customizing strategies to account for the bank size and the dynamics of exchange rates.

Keywords

ARDL

Exchange Rate

Financial Soundness

Size of Banks

Abbas Elhussein, N. H. & Elfaki Osman, O. E. (2019). Exchange Rate fluctuations and Financial Performance of Banks: Evidence from Sudan. International Journal of Economics and Finance, 11(12), 15–27. https://doi.org/10.5539/ijef.v11n12p15

Abdi Seyyedkolaee, M., Ehsanfar. M. H., & Mozaffari Ahangarkolaei, F.(2021). The Effect of Exchange Rate Fluctuations on the Bank's Lending Power in Iran. . Journal of Islamic Economics & Banking, 10 (34), 7–34. (In Persian).

Agarwal. (2018). Banks' Foreign Currency Exposure and the Real Effects of Exchange Rate Shocks (June 4, 2018). Paris, December 2018 Finance Meeting EUROFIDAI - AFFI, Retrieved from SSRN: https://ssrn.com/abstract=3190647 or http://dx.doi.org/10.2139/ssrn.3190647

Angela Obiageli, I. (2021). Exchange Rate and Performance of Deposit Money Banks in Nigeria. International Journal of Innovative Finance and Economics Research, 9(1), 158–170. www.seahipaj.org

Bani Yousef, A.N., Taha, R., Nurian Muhmad, S., & Zainul Abidin, A. F. (2024). Foreign Exchange risk and Performance: Evidence from MENA Banks. International Journal of Business and Society, 25(3), 1054–1071. https://doi.org/10.33736/ijbs.8558.2024.

Cheluget, J., Sile, I., & Amoi, A.K. (2023). Effect of Exchange Rate and Inflation Rate on the Financial Performance of Banks in Kenyan: A Case of Co. Bank Limited. International Journal of Research Publication and Reviews, 4(2), 628-642, February 2023

Delani, A., & Tutgut, T. (2020). Impact of Inflation and Exchange Rate on the Financial Performance of Commercial Banks in South Africa. MPRA Paper No. 101383, posted 29 Jun 2020, https://mpra.ub.uni-muenchen.de/101383/

Ebrahimi, P., Fekete-Farkas, M., Bouzari, P., & Magda, R. (2021). Financial Performance of Iranian Banks from 2013 to 2019: A Panel Data Approach. Jornal of Risk and Financial Management, 14(6), 257, https://doi.org/10.3390/jrfm14060257

IMF. 2019 .Financial Soundness Indicators Compilation Guide. https://www.imf.org/en/Data/Statistics/FSI-guide

International Monetary Fund. (2007). Managing the Transition to a Market Economy. International Monetary Fund, https://www.elibrary.imf.org/display/book/9781589064416/ch004.xml, https://doi.org/10.5089/9781589064416.058

Işık, S., & Şendeniz-Yüncü, İ. (2022). Effects of dollarization on bank performance: Analysis for Turkey. Hacettepe University Journal of Economics and Administrative Sciences, 40 (1), 58-86. https://doi.org/10.17065/huniibf.929924

Jackson, E. A., Barrie, M. S., & Johnson, L. (2021). Impact Exchange Rate and Inflation on Commercial Bank’s Performance in Sierra Leone. Journal of Smart Economic Growth, 6(3), 67–95. https://ssrn.com/abstract=3944548

Keshtgar, N., Pahlavani, M., & Mirjalili, S. H. (2020). The Impact of Exchange Rate volatility on Banking Performance (case of Iran), International Journal of Business and Development Studies,12(1), 39–56.https://doi.org/10.22111/ijbds.2020.5436.

Koenker, R., & Gilbert, B. J. (1982a). Robust Tests for Heteroskedasticity Based on Regression Quantiles, Econometrica, 50(1), 43–62.

Mohammadi, T., Shakeri, A., Taghavi, M. & Samanipour, H. (2020). Exchange Rate Threshold Affecting Financial Stability of Iranian Banks. Financial Management Strategy, 8(4), 1–22. doi: 10.22051/jfm.2020.29180.2261.

Newey, W. K., & James L. P. (1987). Asymmetric Least Squares Estimation, Econometrica, 55(4), 819–847.

Saleh, S.Y., Mahmood, A., & Bahjet, S.N. (2022). Measuring the Effect of Foreign Currency Exchange Rate on Bank’s Financial Performance with Early IFRS 9 Compliance. American Journal of Economics and Business Management. 5(2), 42–62. https://doi.org/10.31150/ajebm.v5i3.935.

Seifollahi, H,. & Abrishami, H. 2021. Investigating the Effect of Exchange Rate Risk and Economic Growth Rate on Banks' Performance. Iranian Journal of Agricultural Economics and Development Research, 52(2), 389–404. https://doi.org/10.22059/ijaedr.2021.317731.669004

Sinaga, J. S., Muda, I., & Syahputra Silahi, A. (2020). The Effect of BI Rate, Exchange Rate, Inflation and Third Party Fund (DPK) on Credit Distribution and Its Impact on Non Performing Loan (NPL) on XYZ Commercial Segment Bank. Universal Journal of Accounting and Finance, 8(3), 55-64. https://doi.org/10.13189/ujaf.2020.080301

Tamizi, A.R. (2020). The effect the volatility exchange rate on bank deposits Iran. Journal of Development and Capital, 5(2), 123-136 [In Persian]. https://doi.org/10.22103/jdc.2020.16146.1100

Wulandari, D., & Harjito, A. (2021). The effect of interest rates, exchange rates and capital structure on banking profitability of BUMN and Private Go Public in Indonesia. Intrernational Journal of Research in Business and Social Science, 10(3), 338–351. https://doi.org/10.20525/ijrbs.v10i3.1086