The purpose of this study is to investigate the impact of the institutional environment on the capital ratios of banks operating in the South Asian Association for Regional Cooperation (SAARC) area. We apply the Hausman-Taylor methodology to unbalanced panel data of 145 banks (109 conventional and 36 Islamic banks) for the period 2010 to 2019. The findings demonstrate that banks with greater creditors’ rights have a low regulatory capital ratio. Similarly, banks are reluctant to hold a high regulatory capital ratio as a result of greater corruption perception. However, countries with more financial openness hold higher regulatory capital ratios to present greater financial strength. We also provide evidence that the impact of creditors’ rights is more distinct in conventional banks than in Islamic banks. Finally, we demonstrate that with more financial openness, small banks hold a higher regulatory capital ratio than large banks.