Page 514 - ISC PROCEEDINGS 21.4

operations rely heavily on trust and regulatory credibility, stakeholder confidence is
closely tied to institutional resilience.
From this perspective, ESG engagement can be viewed as a governance mechanism
shaping managerial behavior. Integrating environmental, social, and governance
considerations into core activities may enhance transparency, mitigate agency conflicts,
and constrain excessive risk-taking (Ferrell et al., 2016). These effects support more
prudent management and help reduce exposure to financial distress over time.
ESG practices may also generate reputational capital. Firms that maintain strong
stakeholder relationships are often better positioned to retain support during periods of
stress (Lins et al., 2017). For banks, whose stability depends on depositor and investor
confidence, such reputational strength can act as a buffer against shocks. Empirical
evidence further indicates that higher ESG performance is associated with lower risk and
greater stability (Neitzert & Petras, 2021).
Legitimacy theory complements this argument by suggesting that firms adopt ESG
practices to align with societal expectations and maintain public trust (Suchman, 1995).
When embedded in governance structures, ESG engagement is more likely to enhance
credibility and contribute to financial stability rather than remain symbolic. In the context
of digitalization, greater data availability and regulatory scrutiny further reinforce the
importance of governance, enabling ESG considerations to be more systematically
incorporated into risk assessment and decision-making processes.
2.2. Institutional quality, corruption, and digital governance
While firm-level governance is important, it operates within a broader institutional
environment. Institutional theory emphasizes that economic outcomes are shaped by
formal rules and enforcement mechanisms (North, 1990). Strong institutions support
effective supervision, reduce uncertainty, and enhance financial stability (La Porta et al.,
1999).
In contrast, weak institutional environments are associated with greater agency
problems and weaker regulatory discipline. Corruption represents a key manifestation of
such weaknesses, reflecting deficiencies in accountability and enforcement.
In the banking sector, corruption can distort credit allocation and weaken screening
standards, leading to higher risk exposure (Chen et al., 2015). To capture institutional
quality, this study relies on the Corruption Perceptions Index (CPI), which provides a
widely used cross-country measure of perceived corruption, with higher values indicating
stronger corruption control.
In the context of digital financial systems, the increasing complexity of financial
activities places greater demands on regulatory oversight. When institutional capacity is
weak, digitalization may amplify risks rather than mitigate them. Strong institutions
therefore remain essential for maintaining stability.
2.3. Operational efficiency and risk management
Operational efficiency is another key determinant of bank stability. The efficiency
ratio reflects cost discipline and managerial effectiveness, with more efficient banks
generally exhibiting stronger internal controls (Berger & Humphrey, 1997).
Lower efficiency can weaken profitability and reduce capital buffers, making banks
more vulnerable to adverse shocks. This deterioration in financial resilience is typically
reflected in lower stability.
Digital transformation has the potential to improve efficiency by enhancing
information processing and reducing operational costs. However, it also intensifies

513