CHAPTER ONE INTRODUCTION 1.1 Background to the Study work - Emodi, A.O..pdf · integrating vectors...

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CHAPTER ONE

INTRODUCTION

1.1 Background to the Study

The precise link and direction of causation between financial development and economic growth

has remained at the centre of empirical debates for decades. The debate arguably gathered

momentum with the empirical works of King and Levine (1993) who, in a cross country study

comprising data from 77 countries over the period 1960-1989, found that the level of financial

development stimulates economic growth. Deidda and Fattouh (2002) with the same data but a

threshold regression confirm the positive relationship between the level of financial depth and

economic growth for countries with high income per capita but no significant relationship for

lower-income countries, which is consistent with the non-monotonic relationship implied in the

model.

Again, Rousseau and Sylla (2001) in their cross-country study covering 17 countries over the

period 1850-1997 also find evidence of a leading role for finance. Their result was further

supported by Rousseau and Wachtel (1998) who, examining the links between the financial and

real sectors for five countries that underwent rapid industrialization over the 1870-1929 period,

are able to confirm that financial intermediation Granger-cause real output, especially before the

Great Depression, with little evidence of feedback from output to intermediation.

Allesandra (2010) has argued that the strongest critique to all these studies comes from Arestis

and Demetriades (1997). The authors, using King and Levine's (1993:3) data underline that the

question of causality cannot be satisfactorily addressed in a cross-section framework. More

specifically, they conclude that:

…we have warned against the over-simplified nature of results obtained from

cross-country regressions in that they may not accurately reflect individual

country circumstances such as the institutional structure of the financial

system, the policy regime and the degree of effective governance. The

econometric evidence we have reviewed using time-series estimations on

individual countries suggests that the results exhibit substantial variation

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across countries, even when the same variables and estimation methods are

used. Thus, the 'average' country for which cross-country regressions must,

presumably, relate to may well not exist.(Allesandra,2010:2)

Some scholars have also approached the subject from the perspective of time series in a bid to

find a common ground of consensus but here also, the results have been contentious. For

instance, Harrison, Sussman and Zeira (1999) using a panel of data for 48 US states from 1982-

1994, find a feedback effect between the real and the financial sector that helps to explain intra-

national differences in output per capita. Luintel and Khan (1999) using the VAR technique on

10 developing countries with yearly data from the 1950s to the mid-1990s find two co-

integrating vectors identified as long-run financial depth and output relationship linking financial

development to economic development. They also find causality between the level of financial

development (depth) and growth in per capita income in all sample countries. This confirms the

findings of Demetriades and Hussein (1996) who, with data on 16 developing countries, with 30

to 40 yearly observations from the 1960s, find that in most countries evidence favours bi-

directional causality and in quite a few countries economic growth systematically causes

financial development.

Also Shan, Morris and Sun (2001), using quarterly data from the mid-70s to 90s for 9 OECD

countries, find evidence of reverse causality, namely from growth to financial development, in

some countries and bi-directional causality in others, but no evidence of one-way causality from

financial development to growth.

Allessandra (2010) further argued the fact that many time-series studies yield unreliable results

due to the short time spans of typical data sets cannot be ignored. It was for this reason that

Christopoulos and Tsionas (2004) analyze 10 developing countries but resorted to a panel

context that increases the sample size. With panel unit root tests and panel co-integration

analysis the authors find a single a unique co-integrating vector, implying one-way causality

from financial development to economic growth. From the foregoing, it seems that despite

works on the contrary, there is a broad consensus that financial development spurs economic

growth.

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1.2 Statement of the Problem

Economic growth has long been considered an important goal of economic policy with a

substantial body of research dedicated to explaining how this goal can be achieved. One of the

earliest works on banking performance and economic growth was by Schumpeter (1959) who

argued that financial (banking) services are paramount in promoting economic growth. In his

view production requires credit to materialize and one can only become an entrepreneur by

previously becoming a debtor. What the entrepreneur first wants is credit. The entrepreneur

according to Schumpeter, is the typical debtor in a capitalist society.

Based on this strong background laid by Schumpeter, a lot of empirical works have been

conducted especially in advanced economies to ascertain the relationship between banking sector

performance and economic growth. Most of these empirical studies focused on explanatory

variables selected on the basis of their relevance to policymakers or because of other theoretical

predictions (see for instance, Barro, 1991; Levine and Renelt, 1992). Indeed, it could be said that

empirical literature/works on the purported relationship between banking sector performance and

economic growth is broad in advanced economies; transition economies of Central and Eastern

Europe and the Baltics.

In Nigeria, empirical works that focused explicitly on banking sector performance and economic

growth have yielded mixed results. Some of these works suggest that banking sector

performance has impacted positively and significantly on economic growth (see;

Adelakun,2010) while others reported an insignificant relationship between banking sector

performance and economic growth (see. Ekpeyong & Acha,2011; Odeniran & Udeaja,2010 ). A

major problem in these works are the authors’ selection of explanatory variables that do not

explicitly underpin banking sector performance. An example is Balogun’s (2007) work on

banking industry performance and the Nigerian economy where bank branches were used as one

of the explanatory variables in his modelling. Given multiple channels of accessing banking

services such as internet banking; telephone banking; mobile banking; and use of automated

teller machines and point of sale machines; the relevance of the number of bank branches as a

determinant of economic growth is clearly uncertain. Therefore, a case can be made for a more

robust empirical modeling with variables that are more broad based and that underpin actual

banking performance.

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Ayadi et., al. (2013) also suggest that financial development has been intensively studied in

developed countries, with result indicating a strong and positive relationship between growth and

financial sector development. They also affirm that studies in developing countries are sparse

and where they exist, tend to support a negative and insignificant relationship between banking

sector performance and economic growth. Given the foregoing, there still exist a research gap for

an empirical evaluation of the impact of banking sector performance on economic growth using

more robust and broad based explanatory variables.

1.3 Objectives of the Study

The overall objective of this study is to investigate how commercial banks’ performance affects

economic growth using data from Nigeria. The study strives to accomplish the following specific

objectives:

i. To evaluate the impact of bank credit on economic growth in Nigeria.

ii. To appraise the impact of growth in liquid liabilities (M2) of banks on economic growth

in Nigeria.

iii. To ascertain the impact of Net Interest Margin in banks on economic growth in Nigeria.

1.4. Research Questions

The following questions will aid the research objectives:

i. How far does bank credit advancing have effect on economic growth in Nigeria?

ii. To what extent does growth in liquid liabilities of banks have effect on economic growth

in Nigeria?

iii. How does Net Interest Margin in banks affect economic growth in Nigeria?

1.5 Research Hypotheses

Based on these objectives, the following hypotheses were formulated:

i. Bank credit does not exert positive and significant impact on economic growth in

Nigeria.

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ii. Growth in liquid liabilities of banks does not exert positive and significant impact on

economic growth in Nigeria.

iii. Net Interest Margin of banks does not exert positive and significant impact on economic

growth in Nigeria.

1.6 Scope of the Study

Based on theoretical considerations, annual time series data from 1999 – 2012 (14 years) was

used in the study. The Nigerian banking system in modern times could be classified into two

major eras. The first era spans 1999 – 2005(pre-consolidation era) and second period spans 2006

to Date(post-consolidation). The country was under a military rule for an uninterrupted period of

16 years before power was handed over to the civilian administrators in 1999. The hand-over of

power to civilians in 1999 brought a new lease of life to the economy, especially the financial

services sector. One notable innovation in the financial architecture of the country within this

period was the introduction of universal banking which empowered the banks to operate in all

aspects of financial services and subsequently, the policy reversal. This has far reaching

implication for the financial services industry in Nigeria. Thus, the choice of 1999 as base year

is appropriate and significant in many respects. Borrowing extensively from other works along

this line, the study focused mainly on banking structure and performance indicators. The data for

the analysis was collated mainly from the Nigerian Stock Exchange fact books, the Nigerian

Stock Exchange annual report and statements of account (various), Central Bank of Nigeria

Statistical Bulletin, Central Bank of Nigeria Annual Reports and Statements of Accounts

(various).

1.7 Significance of the Research

The study differs significantly from most works along this line in that it utilized a broad measure

of banking industry performance indicators and thus robustly track the impact of banking

industry performance on economic growth. Given this orientation, the result of the work will be

of importance to the following:

• Financial Sector Regulators: The core essence of banking regulation is to ensure best

practice and efficient performance. The recent experience from the global financial crisis has

further underscored the imperatives of countries to embark on performance reviews on a regular

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basis. The world economy was hit by an unprecedented financial and economic crisis in 2007-

2009 that resulted in a global recession. This crisis led to the collapse of many world-renowned

financial institutions and even caused an entire nation to go bankrupt. This episode has once

again thrown up the challenge of periodic banks’ performance review. This work will provide an

academic view and unbiased critique of banks’ performance in the Nigerian economy, which will

aid policy makers in decision making - policy reversals, amendments or enactment. Moreover,

the result of this work will provide some learning curves and may provide further information to

financial sector regulators to adapt or which can be redesigned to suit industry and country

specific challenges.

• Academia and General Public: The banking industry occupies a vital position in the

financial system and plays a crucial role in the intermediation process through mobilizing funds

from the surplus areas to the deficit sectors. In Nigeria, the ability of the banking industry to

play its role has been periodically punctuated by its vulnerability to systemic distress and

macroeconomic volatility, making policy fine-tuning and reversals inevitable. The literature on

financial development in Nigeria has a long pedigree and has evolved in four stages. The first

stage can be described as the unguided laissesz faire phase (1930-59). The second stage was the

control regime (1960-85) during which the Central Bank of Nigeria ensured that only fit and

proper persons were granted banking license, subject to the prescribed minimum paid up capital.

The third stage was the Structural Adjustment Programme (SAP) or de-control regime of 1984-

2004, during which the neo-liberal philosophy of free entry was over-stretched and banking

licenses were dispensed by the political authorities on the basis of patronage. The emerging

fourth stage is the era of consolidation which started in 2004 with major emphasis on

recapitalization and proactive regulation based on risk-based or risk-focused supervisory

framework. Since that time, several empirical studies have been carried out examining the

impact of these banking reforms on banking performance and economic growth. The result of

this work may act as the spring board for other researchers to do more episodic studies on the

impact of bank performance on economic growth. It may also add to the existing body of

knowledge on the subject. The general public may also find the result of the work invigorating

and possibly extend the frontiers of knowledge on bank performance and long run economic

growth.

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REFERENCES

Adelakun, O. J. (2010). “Financial Sector Development and Economic Growth in Nigeria”,

International Journal of Economic Development Research and Investment, Vol. 1, No. 1,

April 2010.

Allesandra, D. C. (2010). “Finance Growth Nexus: Does Causality Withstand Liberalization?

Evidence from Cointegrated VAR”, Discussion Paper, No. 102, Banca Prossima,

Financial Budgeting and Risk Management Unit.

Arestis, P. and Demetriades, P. (1997). “Financial Development and Economic Growth:

Assessing The Evidence”, Economic Journal, 107.

Ayadi, R., Arbak, E., Ben-Naceur, S. and Pieter De Groen, P. (2013). Financial Development,

Bank Efficiency and Economic Growth across the Mediterranean. MEDPRO Technical

Report No. 30. March 2013

Balogun, E. D. (2007). "A Review of Soludo's Perspective of Banking Industry Reforms in

Nigeria," MPRA Paper 3803, University Library of Munich, Germany

Barro, Robert J. (1991). "Economic Growth in a Cross Section of Countries," The Quarterly

Journal of Economics, MIT Press, Vol. 106(2)

Christopoulos, D. K. and Tsionas, E. G. (2004). “Financial Development and Economic Growth:

Evidence from Panel Unit Root and Cointegration Tests”, Journal of Development

Economics, 73, 51-65.

Deidda, L. and Fattouh, B. (2002). “Non-linearity Between Finance and Growth”, Economic

Letters, 74(3), 34-70.

Demetriades, P. O. and Hussein, K. A. (1996). Does Financial Development Causes Economic

Growth? Time Series Evidence from 16 Countries, Journal of Development Economics,

51, 221-237.

Ekpeyong, D. B. and Acha, I. A. (2011). “Banks and Economic Growth in Nigeria” European

Journal of Business Management. 3(4), 120-131.

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Harrison, P., Sussman, O. and Zeira, J. (1999). “Finance and Growth: Theory and New

Evidence” Federal Reserve Board Discussion Paper No. 35.160 Middle Eastern Finance

and Economics - Issue 8.

King, R. G. and Levine, R. (1993). "Finance and Growth: Schumpeter Might Be Right," The

Quarterly Journal of Economics, 108(3), 717-737.

Levine, R. and Renelt, D. (1992).“A Sensitivity Analysis of Cross-Country Growth

Regressions,” American Economic Review, 82(4), 942-963.

Luintel, K. B. and Khan, M. (1999). “A Quantitative Reassessment of the Finance-Growth

Nexus, Evidence from a multivariate VAR” Journal of Development Economics, 60, 453-

466.

Odeniran, S. O. and Udeaja, E. A.(2010). Central Bank of Nigeria. “Financial Sector

Development and Economic Growth: Empirical Evidence from Nigeria”. Economic and

Financial Review, 48(3), 94-116.

Rousseau, P. L. and Sylla, R. (2001).“Financial Systems, Economic Growth and Globalization”,

NBER Working Paper, Vol. 8.

Rousseau, P. L. and Wachtel, P. (1998). “Financial Intermediation and Economic Performance:

Historical Evidence from Five Industrialised Countries.” Journal of Money, Credit and

Banking, 30(4), 334-347.

Shan, Z. J., Morris, A.G., & Sun, F. (2001). “Financial Development and Economic Growth: an

Egg-and-Chicken Problem?”,Review of International Economics, 9(3) 2123-2141.

Tuuli, Koivu, (2002). “Do Efficient Banking industrys Accelerate Economic Growth in

Transition Countries” (December 19, 2002). BOFIT Discussion Paper No. 14/2002.

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CHAPTER TWO

REVIEW OF RELATED LITERATURE

2.1 Theoretical Review

2.1.1 The Banking System

In his work on financial intermediation by banks and economic growth, Badun (2009) notes that

there might be some confusion with the terms used in existing research on financial

intermediation and growth. He noted that different terms like financial intermediation, finance,

financial development, financial system, financial markets and so on, have been used by different

authors. However, in almost all papers same indicators are used and all refer to financial

intermediation by banks.

According to Otto et al. (2012), there are four vital components of a financial system. These

include; financial institutions, financial markets, the regulatory authorities and financial

instruments. The study also noted that the system in Nigeria has undergone remarkable changes

in terms of ownership structure, the depth and breadth of instruments employed, the number of

institutions established, the economic environment and the regulatory framework within which

the system operates currently. The Nigerian financial system include banks, capital markets,

insurance, pension asset managers and other financial institutions with the Central Bank as the

apex institution. The banking industry in Nigeria is dominated by the commercial banks. The

commercial banks dominate in both size and profitability

In Nigeria, the financial system is the hub of productive activity, as it performs the vital roles of

financial intermediation and effecting good payments system, as well as assisting in monetary

policy implementation. Ofanson et al. (2010) note that the process of financial intermediation

involves the mobilization and allocation of financial resources, through the financial (money and

capital) markets by financial institutions (banks and non-banks) and by the use of financial

instruments (savings, securities and loans). They also suggest that the efficiency and

effectiveness of financial intermediation in any economy depend critically on the level of

development of the country’s financial system. In effect, the underdeveloped nature of the

financial system in most developing countries accounts largely for the relative inefficiency of

financial intermediation in those economies. In these countries the financial system is dominated

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by banks, which are typically oligopolistic in structure and tend to concentrate on short-term

lending as against investments with long-term gestation period. The alternative/complementary

source for financing development projects is the development of debt or equity markets which at

best, is at the rudimentary stage of development. It is in this regard that specialized financial

institutions, including government owned development banks have been established in Nigeria to

bridge the gap.

An efficient and reliable payments system is important for promoting economic efficiency and

the proper functioning and integration of financial markets. The payments system acts as a

conduit through which financial and non- financial firms and other economic agents can impact

the overall financial stability, as well as accelerate the pace of financial deepening and efficiency

of financial intermediation. Over the course of history the payments system has evolved from

trade by barter to the use of commodity money, cheques to electronic money. As the repository

of the economy’s immediate liquidity, the financial system, especially banks, constitute the

backbone of the payments system.

Efforts to improve the efficiency and soundness of the financial system are often geared towards

supporting macroeconomic and monetary performance. That is because a reasonably sound,

competitive and responsive financial system is critical to the effective conduct of monetary

policy and efficiency of the transmission mechanism. In this regard, the maintenance of

financial sector stability is complementary to monetary and price stability. Both go hand in hand

and are key ingredients for economic confidence upon which investment, growth and prosperity

depend. Recent experiences have established the importance of financial sector stability from the

perspective of macroeconomic performance. Such experiences illustrate the extent to which

unsound and uncompetitive financial systems resulting from inadequate regulatory frameworks

can weaken efficient credit allocation, distort the structure of interest rates, disrupt monetary

policy signals and impose significant financial costs, with adverse consequences for

macroeconomic stabilization and balance (Ofanson et al., 2010).

According to Harper (2011) “the health of our banks and the health of our economy are

inseparable”. This statement buttresses the fact that the activities of banks impact every sector of

the economy and that in all economies, the banking industry plays a vital role. In addition to their

primary role of providing a range of financial services, the banking industry is a major

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contributor to the gross domestic product (GDP), employment and Information Technology (IT)

investment. The banking industry also supports the economy by paying taxes and dividends to

shareholders annually.

Levine et al., (1997) as quoted in Badun(2009) distinguish five basic functions of financial

system, and these include;

i. Facilitation of risk management

ii. Allocation of resources

iii. Monitoring of managers and control over corporate governance

iv. Savings mobilization

v. Causing the exchange of goods and services

They also assert that financial systems differ in how successfully they are performing these

functions.(Badun, 2009).

The sophistication of the banking industry, is an element of a developed economy, In recent

times, series of policy reforms have been experienced in the Nigerian banking system, all in a bid

to enhance performance and sophistication of the Nigerian banks.

2.1.2 The Banking Industry Performance Indicators

There are varied indicators of the level of banking industry performance . Several authors have

adopted different traditional and non-traditional indicators, however, this study will closely

review the following: (i) Size, (ii) Credit to Private Sector (iii) Asset Ratio, and (iv) Profitability

/ Efficiency

2.1.2.1 Size / Liquid Liabilities

Some works adopted the size of the formal financial intermediary sector relative to economic

activity, to measure financial sector development. King and Levine(1993) posits that users of this

measure of financial development hypothesize that the size of financial intermediaries is

positively related to the provision of financial services. The concept of financial sector

development is also referred to as financial depth. One measure of financial dept as noted by

King and Levine (1993) equals the ratio of liquid liabilities of the financial system to GDP.

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Similarly, Khan &Senhadji (2000) also identified liquid liabilities of the banking system as a key

indicator of financial depth. Their study however, notes that researchers are shifting from

narrower monetary measures (M1 and M2) to broader definitions, such as M3, which is generally

referred to as the liquid liabilities of the banking system. Beck et. al. (1999) also adopted liquid

liabilities as a measure of financial performance. Writing on Finance and the Sources of Growth,

the authors notes that;

...one traditional measure of financial development used is liquid liabilities of

the financial system, calculated as currency plus demand and interest-bearing

liabilities of financial intermediaries and nonbank financial intermediaries

divided by GDP.(Beck et. al., 1999:18)

2.1.2.2 Loans to Private Sector

King & Levine (1993) suggest that a financial system that simply funnels credit to the

government or state owned enterprises may not be evaluating managers, selecting investment

projects, pooling risks and providing financial services to the same degree as financial systems

that allocate credit to private sector. Consequently, they computed the proportion of credit to

private enterprises by the financial system to access its impacts on the economy. The study

excluded financial private sector credits. King & Levine (1993:17) states that:

…this measure equals the ratio of claims on the non-financial private sector

to total domestic credit (excluding credit to money banks), and we call this

indicator PRIVATE. We also measure the ratio of claims on the non-financial

private sector to GDP and term this variable PRIVY

Beck et. al.(1999)also believe that credit to private sector, termed “Private Credit” impacts

significantly on other measures of financial development. They suggest that it will be valuable to

construct a measure of financial intermediary development that identified credits issued by

privately owned financial intermediaries. Additionally, the study also used “Bank Credit” which

equals credit by deposit money banks to the private sector as a share of GDP. This variable

seems less comprehensive measure of financial intermediary development than Private Credit,

because Bank Credit does not include nonbank credit to the private sector.

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Khan &Senhadji(2000) also concur that more recently, credit to private sector has been favoured

as an alternate measure of financial intermediation. According to Khan &Senhadji (2000:78),

…the main advantage of this indicator is that by excluding credit to the public sector, it

measures more accurately, the role of financial intermediaries in channeling funds to the private

sector.”

2.1.2.3 Domestic Asset Ratio

King &Levine(1993) proffer that measurement of relative importance of specific financial

institutions could be used as a financial development indicator. The study focuses on the ratio of

deposit money banks domestic asset to deposit money banks domestic asset plus Central Bank

domestic asset. This was called “Variable Bank”

2.1.2.4 Profitability / Efficiency

Khan &Senhadji (2000) posits that there are no general theoretical model that can explain why

financial intermediaries exist. However, they suggest that there are fundamental frictions that

give rise to their existence, which are either of a technological or an incentive nature.

Technological friction prevents individuals from having access to economies of scale, while the

incentive friction occurs because information is costly and asymmetrically distributed across

agents.

According to Khan&Senhadji(2000:125) financial intermediaries relax these frictions by “…(i)

Facilitating the trading, (ii)efficiently allocating resources, (iii)monitoring managers and

exerting control, (iv) mobilizing savings, and (v)facilitating the exchange of goods and services.

Summarily, financial system facilitates the allocation of resources over space and time. Their

efficiency in executing these intermediation functions are often seen in the spread between

income for clients from the deficit and surplus ends.

In their study on financial structure and bank profitability, Kunt&Huzinga (2001)considered two

measure of bank performance, : Bank profitability (measured as profits, divided by assets) and

Bank Interest Margin (measured as net interest income divided by assets.

Bank interest margin equals (pre-tax) profits plus bank operating cost, plus loan loss

provisioning (and minus non-interest income). Kunt&Huzinga(2001:78) noted that “bank

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profitability and bank interest margins can be seen as indicators of the (in)efficiency of the

banking system, as they drive a wedge between the interest rate received by savers on their

deposits and the interest paid by lenders on their loans”

Consequently, these variables will affect the cost of bank finance for firms, the range of

investment projects they find profitable and thus, economic growth.

2.1.3 The Concept of Economic Growth

Economic growth can be defined as an increase in a nation’s output, which is most commonly

measured by the gross domestic product (GDP). The benefits stemming from economic growth

are wide ranging. (Harper, 2011)

Ekpeyong and Acha (2011) also affirm that expansion of economies with intent to improving the

welfare of citizens is a desirable goal and this further explains why economic literature is replete

with theories and studies investigating variables required by economies to achieve sustainable

growth.

Economic growth remains one of the macroeconomic goals of every government and there are

several studies on the subject. Harper (2011) however suggests that to achieve economic growth,

that two options are available. These options are;

…Using resources ‘extensively’ (that is producing more by using more of the

available resources) or ‘intensively’ (that is producing more, while using the

same amount of available resources). However, the key to sustainable

economic growth is to use resources ‘intensively’, that is to realize

productivity gains (Harper, 2011:89).

Cecchetti & Kharroubi (2012) states that one of the principal conclusions of modern economics

is that finance is good for growth. They affirm that the idea that an economy needs

intermediation to match borrowers and lenders, channeling resources to their most efficient uses,

is fundamental to our thinking.

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2.1.4 Bank Performance and Economic Growth

Amongst other indices, banks’ performance is basically evident in their level of efficiency and

ability to manage costs and post healthy profit figures, but more importantly money creation.

Performance reflects in several ways, which include; improved lending to various sectors of the

economy, due to enhanced capital base; stronger banks with healthier balance sheets; innovation

in banking products / service delivery; improvement in technology and globalization of

operations in the industry; employment generation especially at the middle and lower levels of

the industry in the short and long run; increased branch network, thereby aiding employment of

both capital and labour; more challenges on the supervisory authorities especially in terms of

capacity and capability thereby aiding better management of the banking / financial aspect of the

economy; adherence to preferential treatment (by policy direction) on certain priority sectors

(like agriculture and manufacturing).

The apex regulatory body has a major role in ensuring optimal performance by the banks.

Developing the real sector of any economy is not a matter that should be left to chance variables,

the CBN has to intervene to ensure that the objectives of monetary policy are consistently

achieved. Defaulting debtors should be pursued through legislation to ensure public funds are

not subjected to waste and also to instill discipline in the behavior of borrowers. These will

ensure banks perform optimally as more funds are channeled into productive investment and

there will be increased vibrancy in the money and capital markets, thus enhancing economic

growth.

2.2 EMPIRICAL REVIEW

The key assumption of neoclassical economic theory, also known as the Solow–Swan growth

model, is that the long-run rate of economic growth is dependent only on the rate of

technological progress and the rate of labour force growth and that capital is always subject to

diminishing returns. Thus, given a fixed stock of labour, the impact on output of the last unit of

capital accumulated will always be less than the one before. Assuming for simplicity, no

technological progress or labour force growth, diminishing returns implies that at some point the

amount of new capital produced is only just enough to make up for the amount of existing capital

lost due to depreciation. With this scenario, it is difficult to contemplate a situation of economic

growth without technological progress and growth in labour force.

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The more recent endogenous growth theory suggests that a strong banking industry promotes

economic growth and holds that policy measures can have an impact on the long-run growth rate

of an economy. Schumpeter (1934) for example, argued that the banking industry plays a crucial

role in channeling finance and investments to productive agents within the economy and thus act

as catalysts of economic growth. The main implication of this theory therefore, is that banking

policies which embrace openness, competition, change and innovation will enhance banks’

performance and promote economic growth. Conversely, policies which have the effect of

restricting or slowing banking reforms by protecting or favouring particular industries or firms

are likely, over time, to lead to unsustainable economic growth.

According to Howitt (2007) “Sustained economic growth — even if one narrowly defines it as

sustained growth in income per person — is everywhere and always a process of continual

transformation”. He further avers that the economic progress that rich nations have enjoyed since

the industrial revolution would not have been possible had people not undergone wrenching

changes. Economies that cease to transform themselves are destined to fall off the path of

economic growth (Howitt, 2007).

Cecchetti and Kharroubi (2012) studied the complex real effects of financial development and

came to two important conclusions:

i) Financial sector size has an inverted U-shaped effect on productivity growth. That is,

there comes a point where further enlargement of the financial system can reduce real growth.

ii) Financial sector growth is found to be a drag on productivity growth. The study believes

that because the financial sector competes with the rest of the economy for scarce resources,

financial booms are not, in general, growth-enhancing.

Trew (2006) argues that applied and theoretical research on any question in economics cannot be

considered in isolation from each other. He argued that theoretical, contemporary econometric

and historical literature on the finance-growth nexus are if not contradictory then at best simply

disconnected. The research also believes that an attempt to reconcile will need to move beyond

the concentration on contemporary econometrics, beyond the assumption of static information

asymmetry, and beyond the conception of aggregate variables alone. However, the study suggest

identification of the key features of the interaction between finance and growth over continuous

periods, such as the industrial revolution.

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In clear support of Trew’s (2006) assertions, Badun (2009) posits that it is possible that due to

data limitations, the role of finance in economic growth is exaggerated. He notes that there are

unresolved issues in the link between financial intermediation by banks economic growth. The

study suggests that researches should do more careful robustness checks in terms of proxies and

data sources they employ. In addition, the study suggest that more attention should be paid to

possible nonlinearities and heterogeneity in growth processes across countries, as well as to the

dark side of finance.

In their study of the impact of financial sector performance and economic growth in Nigeria,

Otto et al. (2011) infer that there is a positive relationship between the financial system and

economic growth in Nigeria, especially within the 24 year period (1985 – 2008) studied. They

conclude that the study aligns well with the apriori expectation and confirms the importance of

the financial sector to economic development. In contrast, Ekpeyong&Acha (2011) studied the

role of banks on economic growth in Nigeria for the period 1980 – 2008 (28 years) and conclude

that banks’ contribution to economic growth within the period is insignificant. Their findings led

to the deduction that other factors (human resource, standard of education, political stability,

power supply and other social infrastructure) may be playing more important role in growing the

Nigerian economy.

2.2.1 Banking Industry Performance and Economic Growth – Explanatory Variables and

Causation

Although there exist an extensive body of literature on the link between finance sector

development, economic growth and poverty reduction, there is no consensus on the effect of

explanatory variables on economic growth. See for example, King and Levine (1993), Levine

and Zervos, (1998), Rajan and Zingales, (1998) and Levine, Loayza and Beck, (1999).

The direction of causal relationship between economic growth and the banking industry is one

area of contention amongst economists. Schumpeter (1934) for example was a strong advocate of

the role of the banking industry in stimulating economic growth. He noted that the banker stands

between those who wish to form new combinations and the possessors of productive means. He

is essentially a phenomenon of development, though only when no central authority directs the

social process. He makes possible the carrying out of new combinations, authorises people, in

18

the name of the society as it were, to form them. He is the ephor of the exchange

economy.(Schumpeter, 1934)

Harrison et al (1999) however argue that banking activity and profitability are a function of

economic growth. Agreeing with this assertion, Bayraktar and Wang (2006), suggest that

banking industry openness had a direct and indirect affect on economic growth through a

combination of improvement in access to financial services, and the efficiency of financial

intermediaries as both of these cause a lowering of costs of financing which in turn stimulates

capital accumulation and economic growth. Bayraktar and Wang (2004) demonstrated that the

role of foreign banks was both statistically and economically significant in increasing growth and

improving the operations of local banks. However, Berglof and Roland (1995) find that soft

budget constraints and repeated bank bailouts by governments were a function of poor quality of

loan portfolios, the absence of collateral, low bank capitalization, and political pressure to

refinance unprofitable firms in transitional economies. Güryay et al (2007) also find that the

effect of financial development on economic growth of Northern Cyprus although positive, was

negligible. Economic literature is replete with possible qualitative and quantitative explanatory

variables that impact the growth rate of per capita output over time relevant. Tuuli (2002) for

example, uses the ratio of banks’ claims on the private sector to GDP, annual consumer price

index, and the interest rate margin to analyse the relationship between finance and economic

growth. The models specified by Balogun’s (2007) theoretical models were more expansive and

included money supply, minimum rediscount rates, private sector credit, ratio of banking

industry credit to government, ratio of stock market capitalization to credit to the private sector,

and exchange rates.

Many of these variables are, however, often incomplete, subjective, and difficult to

systematically compare. Tuuli (2002) used a fixed-effects panel model and data from transition

countries for the period 1993 - 2000; however, the study acknowledged that “Deposit and

lending rates are unavailable for identical periods for each country.” And “As we do not have

financial sector data on many CIS countries in the first half of 1990s, we loose many

observations and the results for the reform index are different than in earlier papers.” Olofin and

Afangideh (2008) also asserted that “several other determinants of economic growth especially

in cross-section studies exist in the literature such as the years of schooling (human capital),

black market premiums, bureaucratic efficiency, corruptions etc. However, data on these

19

variables are usually obtained from periodic surveys and hence consistent time series are

unavailable.

2.2.2 Analysis of Key Economic Indicators

On the Nigerian economy, the World Fact Book (2012) report observes that the oil-rich Nigeria

has been hobbled by political instability, corruption, inadequate infrastructure, and poor

macroeconomic management. However, in 2008 the country began pursuing economic reforms.

Nigeria's former military rulers failed to diversify the economy away from its overdependence on

the capital-intensive oil sector, which provides 95% of foreign exchange earnings and about 80%

of budgetary revenues.

Following the signing of an IMF stand-by agreement in August 2000, Nigeria received a debt-

restructuring deal from the Paris Club and a $1 billion credit from the IMF, both contingent on

economic reforms. Nigeria pulled out of its IMF program in April 2002, after failing to meet

spending and exchange rate targets, making it ineligible for additional debt forgiveness from the

Paris Club. In November 2005, Abuja won Paris Club approval for a debt-relief deal that

eliminated $18 billion of debt in exchange for $12 billion in payments - a total package worth

$30 billion of Nigeria's total $37 billion external debt. Since 2008 the government has begun to

show the political will to implement the market-oriented reforms urged by the IMF, such as

modernizing the banking system, removing subsidies, and resolving regional disputes over the

distribution of earnings from the oil industry. GDP rose strongly in 2007-2011 because of growth

in non-oil sectors and robust global crude oil prices. President Jonathan has established an

economic team that includes experienced and reputable members and has announced plans to

increase transparency, diversify economic growth, and improve fiscal management. Lack of

infrastructure and slow implementation of reforms are key impediments to growth. The

government is working toward developing stronger public-private partnerships for roads,

agriculture, and power. Nigeria's financial sector was hurt by the global financial and economic

crises, but the Central Bank governor has taken measures to restructure and strengthen the sector

to include imposing mandatory higher minimum capital requirements (The World Fact Book ,

2012).

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2.3 Structure of the Nigerian Banking System

The Nigerian Banking industry is regulated by the Central Bank of Nigeria and is made up of

deposit money banks (popularly known as commercial banks), development finance institutions,

and other financial institutions, which include Micro Finance Banks (MFB’s), finance

companies, bureau de change, discount houses and primary mortgage institutions.

Effective October 4, 2010 the Central Bank of Nigeria (vide a circular tagged CBN Scope,

Conditions and Minimum Standards for Commercial Banks Regulation No. 1 , 2010) issued new

guidelines for the licensing of commercial banks in Nigeria, in line with licenses permissible

under the Banks and Other Financial Institutions Act Cap. B3 Laws of the Federation of Nigeria

2004.

The CBN had earlier repealed the Universal Banking Guidelines (which was earlier issued on

December 22, 2000), in pursuance of one of its objectives to promote a sound financial system in

Nigeria. In exercise of its powers under Section 57(1) Banks and Other Financial Institutions Act

Cap. B3 Laws of the Federation of Nigeria 2004, and other enabling powers in that regard, the

Governor of the CBN issued the new guidelines with respect to the grant of licenses,

authorizations and scope of operations for commercial banks. Amongst other things, the key

issues are extracted as follows:

1. Application for Commercial Banking License if approved, authorises the operation of a

Commercial Bank on a regional, national or international basis. Consequently,

i. A commercial bank with Regional banking authorisation shall be entitled to carry on its

banking business operations within a minimum of six (6) and a maximum of twelve (12)

contiguous States of the Federation, lying within not more than two (2) Geo-Political

Zones of the Federation, as well as within the Federal Capital Territory. Banks licencesed

in this category are expected to have a minimum paid-up share capital of

N10,000,000,000.

ii. A commercial bank with National banking authorisation shall be entitled to carry on its

banking business operations within every State of the Federation. Banks licensed in this

category are expected to have a minimum paid-up share capital of N25,000,000,000.

21

iii. A Commercial Bank with international banking authorisation shall be entitled to carry on

its banking business operations within all the States of the Federation, as well as to

establish and maintain offshore banking operations in jurisdictions of its choice, subject

to the approval of the CBN and compliance with regulatory requirements of host country.

Banks licensed in this category are expected to have a minimum paid-up share capital of

N50,000,000,000.

The commercial banking license confers on an operator of the license, the authority to undertake

the following banking business activities and no other:

a) Take deposits and maintain current and saving accounts from natural and legal persons;

Permitted Activities for Commercial Banks.

b) Provide retail banking services, including mortgage products;

c) Provide finance and credit facilities;

d) Deal in foreign exchange and provide foreign exchange services, subject to the

requirements of the Foreign Exchange (Monitoring & Miscellaneous Provisions, etc) Act

Cap. F35 Laws of the Federation of Nigeria 2004, any other law and CBN Regulations

made pursuant thereto;

e) Act as a settlement bank, subject to CBN approval;

f) Provide treasury management services including but not limited to the provision of

money market, fixed income, and foreign exchange investment on behalf of clients,

subject to the approval of the CBN;

g) Provide custodial services;

h) Provide financial advisory services incidental to commercial banking business which do

not require regulatory filings with the Securities and Exchange Commission such as:

advising on financing and business strategies and structures, conducting research and

economic intelligence services, building financial models, writing business plans,

22

conducting private placements, arranging loan syndications and advising on project

structures;

i) Invest in non-convertible debt instruments and, subject to CBN approval, enter into

derivative transactions;

j) Undertake fixed income trading, where duly licensed to act as a Primary Dealer/

Market Maker to trade in securities such as Federal Government bonds, treasury bills,

treasury certificates and such other debt certificates as may be prescribed by the CBN

from time to time;

k) Provide non-interest banking services subject to CBN approval; and

l) Such other activities as may be prescribed in writing by the CBN from time to time.

The commercial banks are however forbidden to engage in the following activities:

a. Insurance underwriting;

b. Loss adjusting services;

c. Re-insurance services;

d. Asset Management services;

e. Issuing House and Capital Market underwriting services;

f. Investment in equity or hybrid-equity instruments, save and except for the

investments permissible under BOFIA;

g. Proprietary trading, save as permitted by these Regulations;

h. Provision of financial advisory other than in accordance with provisions in

Section 3(h) ; and

i. Any other business activities that may be restricted by the CBN from time to time

2.4 The Nigerian Banking Reforms

A reform is predicated upon the need for reorientation and repositioning of an existing status quo

in order to attain an effective and efficient state. According to Anyanwu(2010), “economic

reforms generally refer to the process of getting policy incentives right and/or restructuring

financial sector institutions and markets through various policy measures” The Nigerian banking

system has been on an endless voyage of reforms since the restoration of democracy in 1999.

The reforms are geared towards the creation of an efficient and sustainable industry, capable of

23

promoting economic development. Sanusi (2012) hinted that the concern to ensure a sound

banking system by the Central Bank is underscored by the critical role of banks in national

economic development.

In a recent lecture on the impact of bank reforms on the Nigeria economy, the Governor of the

Central Bank of Nigeria stated that:

Conceptually, economic reforms are undertaken to ensure that every part of

the economy functions efficiently in order to ensure the achievement of

macroeconomic goals of price stability, full employment, high economic

growth and internal and external balances. Thus, banking reform in Nigeria is

an integral part of the country-wide reform program undertaken to reposition

the Nigerian economy to achieve the objective of becoming one of the 20

largest economies by the year 2020. As part of the vision, the banking industry

is expected to effectively play its actual role in intermediation and for the

banks to be among global players in the international financial markets

(Sanusi, 2012:10).

Iganiga (2010) believes that reforms in financial industry are aimed at addressing issues, such as

governance, risk management and operational issues.

Sanusi (2012) also avers that the various reforms undertaken in Nigeria were targeted at making

the system more effective and strengthening its growth potentials. He explained further that in

view of the fact that banks take deposits from the public, there is a need for periodic reforms in

order to foster financial stability and confidence in the system.

The recent experience from the global financial crisis has further underscored the imperatives of

countries to embark on banking reforms on a regular basis. The world economy was hit by an

unprecedented financial and economic crisis in 2007 & 2009 that resulted in a global recession.

This crisis led to the collapse of many world-renowned financial institutions and even caused an

entire nation to be rendered bankrupt.

24

In Nigeria, the economy faltered and was hit by the second round effect of the crisis as the stock

market collapsed by 70 per cent in 2008 & 2009 and many Nigerian banks sustained huge losses,

particularly as a result of their exposure to the capital market and downstream oil and gas sector.

Therefore, the CBN had to rescue 8 of the banks through capital and liquidity injections, as well

as removal of their top executives and consequent prosecution of those who committed some

infractions. These actions became necessary to restore confidence and sanity in the banking

system.

Bahar (2009) noted that financial sector reform means two distinct but complementary types of

changes that are to establish a modern financial system capable of acting as the “wheel of the

economy” and allocating the economy’s savings in the most productive way among different

potential investments. He further explains that these two distinct but complimentary changes

include:

First, liberalization of the sector: putting the private sector rather than the

government in charge of determining who gets credit and at what price.

Second, establishing a system of prudential supervision designed to restrain

the private actors so that it can be reasonably sure that their decisions will

also be broadly in the general social interest(Bahar, 2009:76).

As already noted, financial reforms have been a major component of structural adjustment

programs in developing countries. The pace of financial sector reforms and innovations began to

accelerate in the late 70s in many industrial countries and in the early 80s in a number of

developing countries of the Pacific Basin and Latin America. There was serious need of policy

reforms and the institutional changes in the financial system to meet the changing market

conditions throughout the world.

2.5 The Nigerian Banking System and Leadership of The Central Bank of Nigeria

For the period of the study (1999 – 2010), the Central Bank of Nigeria was headed by 3 different

Governors. Their major contributions towards enhancing the performance of Nigerian banks are

as analyzed below:

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2.5.1 Joseph Sanusi Era 1999 – 2004

In May 1999, Joseph Sanusi was appointed Governor of the Central Bank of Nigeria by

President Olusegun Obasanjo. On resumption, he quickly introduced foreign exchange controls

in an effort to reduce the drain on foreign reserves which had maintained a steady decline.

Sanusi expressed concern about the poor prospects for the world economy, particularly as it

affected developing countries and then called for greater access to concessionary funding for

these countries, and spoke out against protectionist measures by developed countries such as

subsidies, countervailing duties and other restrictions to trade, particularly in agricultural

products. The CBN recognized the value of international codes and standards, but asked that

their enforcement take into account levels of development in each country. It also called for

realistic and simple conditionality rules to recognize the realities of national constraints.

In February 2002, the CBN Governor, Sanusi L. Sanusi issued a notice revoking the license of

Savannah Bank, saying the bank did not have enough assets to meet liabilities and did not

comply with CBN obligations, and that the regulators had prevent further deterioration. The

Nigeria Deposit Insurance Corporation took over as liquidator, sealing the bank's offices.

In August 2002, Sanusi announced that Nigeria was suspending payments on some of its $33bn

foreign debts and was trying to reschedule payments, which he blamed on falling oil revenues

and failed privatization plans

Sanusi discussed Nigeria's debt in an opening address at a monetary policy forum in May 2003.

He pointed out that debt had risen from 1% of GDP in 1960 to 16.2% in 1980 and 83.6% by the

end of 2002. Federal government borrowing from the CBN was causing inflation and exchange

rate problems, crowding out private borrowers and thus damping growth. He recommended

greater use of the long term capital market rather than the short-term money market, and much

greater focus on productive use of the money borrowed to optimize return and avoid building up

a problem for future generations. (Sanusi, 2003)

2.5.2 Prof. C. Soludo Era 2004 - 2009

The nature of the Soludo’s banking industry reform (peaked in 2004) and their outcomes can be

categorized into the following:

26

i. Banking Industry Consolidation

The most visible element of the Soludo’s reform is the banking industry consolidation and the

proposed currency reforms. Upon assumption of duty in 2004 as Governor, the Central Bank of

Nigeria indicated that the current commercial banks should recapitalize from a minimum capital

base of N2 billion to N25 billion. As at the period, 89 banks were in operation made up of about

5-10 banks, whose capital base were already above the N25 billion marks, another group of 11-

30 banks, within the N10 to N20 billion mark, while the remaining 50 to 60 banks were quite

below the N10 billion mark. A period of about 12 months was given to these banks to

recapitalize through new issues, mergers and acquisitions. Failure to do so would mean the

liquidation of such banks by the monetary authority. Appropriate legislative backing was

obtained for this, and at the end of the exercise, about 25 banks emerged. A total of 18 banks

failed to meet the recapitalization criteria and had their licenses revoked (Balogun, 2007)

ii. Interest Rate Restructuring

There seemed to be very little departure from erstwhile interest rates policies during the Soludo’s

era, as the reference policy rate, MRR, continued to give distorted signals to operators in the

money markets. Thus the reference Minimum Rediscount Rate (MRR) remained at 13 to 15 per

cent during the period, in line with pre-Soludo reforms rate. The monetary authority did not

consider it appropriate to lower it even when Treasury Bill Rate (TBR), which was higher in pre-

reform era, began to fall. Consequently, except between the Second and Fourth Quarter 2005,

TBR was consistently higher than the 3-month Deposit Rates (DR) and Savings Rate (SR),

suggesting that investments in public debt instruments and CBN certificates were more attractive

to investors and financial intermediaries, who accordingly shun credit portfolios, capable of

stimulating growth. Increasingly also, the MRR which was expected to serve as penalty rate for

patronage of the lender-of-last-resort facility, inadvertently became a docile instrument, but

which provide an anchor for rent-seeking on the part of intermediaries, who rather than borrow

from the monetary authorities, offload their idle cash balances through the primary window with

guaranteed returns.

Towards the end of 2006, there was an apparent realization of this short-coming by the monetary

authorities. This led to the introduction of the Monetary Policy Rate as a replacement to the

MRR. It is fixed at about 10 percent, but operated within a band of +3 to -3 (13 to 7 percent). It

is recommended as the reference interest rates for inter-bank transactions and in the case of

27

recourse to the lender-of-last-resort facilities. Balogun (2007) considers this rate very high in

view of the fact that savings rate, is low, while the majority of funds of the banking industry

comes from demand deposits especially from government for which they pay no interest.

iii. Macroeconomic Stabilization via Monetary Control Policies

Although market reforms appeared to be the major fulcrum of Soludo’s approach, it did not

depart from erstwhile policy of indirect monetary control via open market operations and

quantitative controls of deposit money banks reserves. This task has been made arduous by the

fact that in recent years, the fiscal authorities have had no recourse to borrowing from the

banking system. This had forced the monetary authorities to bear the full burden of traded

treasury bills and CBN certificates, used as major instruments of mopping up liquidity in the

banking system. As it seems, the combination of a defective interest rates structure coupled with

the demand of monetary management, have led the monetary authorities to mop up the liquidity

surfeit in the system, and for which it creates money to meet the debt service obligations upon

maturity. Many policy analysts believe that this approach is in itself inflationary, and may not in

any form contributes to its abatement.

iv. Exchange Rate Stabilization

The Soludo’s reforms of the foreign exchange market revolved mainly around strengthening the

Dutch Auction Market, and narrowing the premium between the DAS, Bureau De Change and

Inter-Bank rates. This was achieved through more frequent intervention of the Central Bank at

the DAS market, in addition to permitting the banks to provide bureau de change services. The

result over time was the deliberate appreciation of the exchange rates. Exchange rates were

stabilized at approximately N132.3 = US $1 between the Second Quarter 2004 to the

corresponding quarter in 2005. Thereafter it was appreciated to about N131.05 = US $1 in the

Third Quarter 2005, a level that coincided with the Real Effective Exchange Rates calculations

based on the trends in the relative consumer price indices of Nigeria and the US. However,

beyond this period, further deliberate appreciation of the market in the face of diverging

inflations suggested that the exchange rates appeared to have become overvalued. This

notwithstanding, there appear to be relative stability in exchange rates since the advent of

Soludo, buoyed by two main factors: the first is the increased foreign exchange earnings which

resulted from high world prices of crude oil (Nigeria’s main foreign exchange earner) with a

concomitant increase in Nigeria’s external reserve holdings; the second is the deliberate

28

intervention of the monetary authorities in the market as a way of establishing a managed float of

the national currency.

2.5.3 Lamido Sanusi Era 2009 - Date

According to Sanusi (2010) the blueprint for reforming the Nigerian financial system in the next

decade is built around 4 pillars;

Pillar 1: Enhancing the Quality of Banks

Sanusi (2010) avers that the CBN will initiate a 5 part programme to enhance the operations and

quality of banks in Nigeria. The programme will consist of:

i) industry remedial programmes

ii) implementation of risk based supervision

iii) reforms to regulations and regulatory framework,

iv) enhanced provisions for consumer protection, and

v) internal transformation of the CBN

Sanusi (2010) affirms that the industry remedial programmes will include a set of initiatives to

fix the key causes of the crisis - namely data quality, enforcement, governance, risk management

and financial crime.

The CBN also proposed to address failures of corporate governance in the industry, and will

establish a specialist function focusing on governance issues to ensure governance best practices

are embedded in the industry.

The CBN also established an internal risk management specialist function to develop Nigerian

Capital Adequacy and Enterprise Risk Assessment Process guidelines, based on the ICAAP

(UK) and COSO (US) frameworks, to ensure the industry adapts and complies with the highest

standards of risk management and Boards are well-informed on how their organizations are

managing risk. The apex bank also introduced tenure limits for bank CEOs and intend to

implement the term limits set out in the 2006 Code of Conduct for the banking Industry with

respect to non-executive directors and auditors in the immediate future.

The third part in the programme to enhance quality of banks is the regulation and regulatory

framework reform programme.

29

In the fourth part, Consumer protection is also an integral part of the reform program. The CBN

will become the consumer’s advocate, setting standards of customer service for the industry and

ensuring that customers are treated fairly in all their dealings with the industry.

Finally, the organization structure within the CBN is already being streamlined to enable the

CBN to better supervise and regulate the industry.

Pillar 2: Establishing Financial Stability

The second pillar in the reform program is establishing financial stability. The key features of

this pillar centre around strengthening the financial stability committee within the CBN,

establishment of a hybrid monetary policy and macro-prudential rules, development of

directional economic policy and counter-cyclical fiscal policies by the government and further

development of capital markets as alternative to bank funding. Sanusi (2010) believes Nigeria

can only improve its economic performance if it deals squarely with two fundamental issues:

(a). Volatility and instability caused by over-reliance on oil and sub-optimal management of oil

revenue, and

(b). Ability of the non-oil real economy to productively absorb investment and debt.

While the CBN is a critical player, success will require co-operation from many players in the

economy and specifically fiscal policies that address these two fundamental issues.

Sanusi (2012) posits that the country needs to deal directly with the fundamental economic

volatility related to the dominant role of the oil sector. To address these issues, many new

initiatives are being developed within the CBN. The first set of initiatives is related to monetary

and macro-prudential policies.

1. The CBN will strengthen the Financial Stability Committee (FSC) whose focus will be

on maintaining systemic stability.

2. The CBN will also introduce new macro-prudential rules to address several of the

specific causes of the crisis. An oversight function such as the FSC will be ineffective

without tools with which to effect policy. It is important to have well-specified policy

tools so as not to adversely affect the real economy.

30

3. Capital control approaches to prevent foreign ‘hot money’ from destabilizing the capital

markets and the real economy is another initiative under consideration. It is widely

believed that external capital flows are highly pro-cyclical and are a source of financial

instability. It is believed that foreign capital flows contributed to the recent credit bubble,

as they were increasingly channeled into non-priority sectors of the Nigerian economy.

4. CBN also commits to be a champion to encourage implementation of directional

economic policy to improve basic infrastructure, diversify the economy, and increase the

investment absorption capacity of priority sectors and support measures that enable

sustainable economic growth.

5. Further development of Nigeria’s capital markets is yet another initiative under

development within the CBN. Individuals and most private sector companies are

dependent on banks for funding, but there has been a timing mismatch between lending

and borrowing in the Nigerian financial system. There is little long term lending

available, which reduces long term investment and growth. Nurturing other ways to raise

funds could increase competition thus reducing costs, encourage best practice lending and

encourage better, longer term investment. (Sanusi, 2010).

Pillar 3: Enabling Healthy Financial Sector Revolution

From the CBN reform blueprint, the third pillar of reform is – enabling healthy financial sector

evolution. Some of the areas that fall under this include banking industry structure, banking

infrastructure such as credit bureaus and registrars, cost structure of banks, and role of the

informal economy.

Sanusi (2010:2) noted that consolidation is not an end in itself in terms of banking industry

structure. He also avers that:

An examination of four countries that successfully-navigated their banking crises

(Brazil, Turkey, Indonesia, Malaysia) shows there are many eventual banking industry

structures that can serve Nigeria well. However, all of them have several common

patterns. For example – the Central Bank or the apex regulator in each of these

countries played an important role in determining the ultimate structure of the banking

industry. Banking crises in Turkey, Brazil and Malaysia resulted in significant

31

consolidation in their banking industries, with the number of banks decreasing post

crisis. Also, foreign ownership played an essential role in raising standards in the

industry (Sanusi, 2010).

The Central Bank Governor also noted that the creation of the Asset Management Corporation

will provide the first step towards resolution of the non performing loan problem in banks and

eventually facilitate further consolidation.

Pillar 4: Ensuring That Financial Sector Contributes To the Real Economy

The last and final pillar of the reform blue print is ensuring that the financial sector contributes to

the real economy. With benefit of hindsight, it is evident that rapid financialization in Nigeria did

not benefit the real economy as much as had been anticipated. Development financial institutions

set up for specific purposes such as housing finance, trade finance, urban development have not

fulfilled their mandates. Many successful emerging markets have seen proactive government

actions to ensure that the financial sector contribute to the real economy. Nigeria can learn from

countries with successful track records in creating financial accommodation for economic

growth through initiatives such as development finance, foreign direct investment, venture

capital and public private partnerships. The CBN is in a good position to advocate economic

development in Nigeria.

Nigeria can learn from the experience of other economies. In successful emerging markets, many

of the successful policy lending programmes share common features. For example, many policy

lending programmes were conducted through State-owned/State-controlled banks particularly in

East Asian economies such as Japan, Korea, China and Vietnam. Many programmes were

funded by state budget or through government controlled savings system (such as postal savings

in Japan). The state invariably provided seed funding as equity in specialized development

financial institutions (e.g. Brazil, China). Some funding also came from development agencies

such as IFAD, WB and ADB.

2.6 Review Summary

The financial system is made up of financial institutions, financial markets, the regulatory

authority and financial instruments. It is generally believed that a reasonably sound and efficient

financial system is critical to the effective conduct of monetary policy and efficiency of the

32

transmission mechanism. The banking industry in addition to playing intermediation roles in the

economy, is saddled with the task of maintaining economic stability as the financial system is the

hub of all economic activity. Consequently, any adverse occurrences in the financial system is

expected to be reverberated in the whole economy.

Several authors have argued that the services provided by financial intermediaries – mobilizing

savings, evaluating projects, managing risk, monitoring managers, and facilitating transactions –

are essential for technological innovation and economic development. Empirical works now

support the assertion and as in King & Levine (1993), the empirical link between a range of

indicators of financial development and economic growth was studied. The study conducted both

a purely cross-country analysis using data averaged over the 1960-1989 period and a pooled

cross-country, time-series study using data averaged over 1960s, 70s and 80s, so that each

country has three observations. The study was done for 119 developed and developing countries,

but due to lack of financial data and other factors, analysis was restricted to about 80 countries.

The study concludes that indicators of the level of financial development are strongly and

robustly correlated with growth, the rate of physical capital accumulation, and in efficiency of

capital allocation. Secondly, the study avers that the predetermined or predictable components of

these financial development indicators are significantly related with subsequent values of growth

indicators. In conclusion, King & Levine (1993) affirm that “the data are consistent with the

view that financial services stimulate economic growth by increasing the rate of capital

accumulation and by improving the efficiency with which economies use that capital”.

Similarly, Khan &Senhadji(2000) affirm that there has been a flourishing body of empirical

work aimed at testing the positive relationship between financial depth and growth. Their study

suggests that cross-country differences in financial development explain a significant portion of

the cross-country differences in average growth rates. According to Khan &Senhadji (2000),

these studies are based on regression analysis for large cross-sections of countries. The result

however, show strong positive and statistically significant relationship between financial depth

and growth in cross-section analysis.

In a related study, Beck et. al (1999) also evaluated the empirical relationship between the level

of financial intermediary development and (i) economic growth, (ii) total factor productivity

growth, (iii) physical capital accumulation, and (iv) private savings rates. Pure cross-country

33

instrumental variable estimator was also used to extract the exogenous component of financial

intermediary development and also panel technique that controls for biases associated with

simultaneity and unobserved country-specific effects were adopted. Their finding conclude that

“(1) financial intermediaries exert a large, positive impact on total factor productivity growth,

which feeds through to overall GDP growth and (2) the long-run links between financial

intermediary development and both physical capital growth and private savings are

tenous”(Beck et. al., 1999)

Olokoyo (2012) also used ordinary least square method to estimate money supply growth rate

(M2R), maximum lending rate (MLR), liquidity ratio (LR), Loan to deposit ratio (LDR), and

monetary policy rate (MPR). The choice of ordinary least square was based on simplicity of its

computational procedure in conjunction with optimal properties of the estimates obtained.

Furthermore, the properties were listed as linearity, unbias and minimum variance among a class

of unbiased estimates (Olokoyo,2012)

We have however reviewed divergent views and made several assumptions on the impact of the

banking system on economic growth in Nigeria and the statistical tests is based on adopted

models to affirm or debunk the assumptions.

34

REFERENCES

Anyanwu, C. M. (2010). “An Overview of Current Banking industry Reforms and the Real

Sector of the Nigerian Economy” Central Bank of Nigeria. Economic and Financial

Review, 48(4), 31 – 56.

Aurangzeb, C. (2012). “Contributions of Banking Sector in Economic Growth: A Case of

Pakistan”, Economics and Finance Review, 2(6), 45-54.

Badun, M. (2009). “Financial Intermediation by Banks and Economic Growth: A review of

Empirical Evidence”, Financial Theory and Practice, 33(2), 121 - 152.

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Being Paper Presented at the National Workshop on Strengthening the Response to the

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of Economics, 106(2), 4354-4378.

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and the Sequence of Financial Liberalization”, China Journal of Finance, 2(2), 124-137.

Bayraktar, N. and Wang, Y. (2006). "Banking industry Openness and Economic Growth", Policy

Research Working Paper Series 4019, The World Bank.

Beck, T., Levine, R. and Loayza, N. (1999). "Finance and the sources of growth," Policy


Berglöf, E. and Roland, G. (1995).”Bank Restructuring and Soft Budget Constraints in Financial

Transition”, Journal of Japanese and International Economies, 9(3), 97-120.

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No. 1, 2010

35

Cecchetti, S. G. and Kharroubi, E. (2012). “Reassessing the Impact of Finance on Growth”, BIS

Working papers No. 381. July 2012

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UniversitéCatholique de Louvain, Département des Sciences Economiques in its series

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Demirguc-Kunt, A. and Levine, R. (Eds), Financial Structure and Economic Growth (pp.

243-261) Boston: MIT Press.


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Overview”, IMF Working Paper, WP/00/209.


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36

Levine, R. and Renelt, D. (1992). “A Sensitivity Analysis of Cross-Country Growth


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Economic Review, American Economic Association, 88(3), 235- 367.

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Nigeria: An Overview of Banking industry”, AAU JMS, 1(1), 67-79.

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Growth in Nigeria”. African Journal of Business Management, 6(6), 2202 - 2210.

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Economic Review, 88(3), 23-60.

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7th

Monetary Policy Forum Organized by the Central Bank of Nigeria at the CBN

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Being a Convocation Lecture Delivered at the Convocation Square, Bayero University,

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of Applied Statistics, 2(2), 115-122.

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Trew, A. W., (2006). “Finance and Growth: A Critical Survey”. Center For Dynamic

Macroeconomics Analysis – Working Paper Series.CDMA05/07

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Countries” (December 19, 2002). BOFIT Discussion Paper No. 14/2002.

38

CHAPTER THREE

RESEARCH METHODOLOGY

3.1 Research Design

This study shall adopt the ex post facto research design. According to Asika (2006), ex post facto

research is a systematic empirical study in which the researcher does not in any way control or

manipulates the independent variables because the situation for the study already exists or has

taken place. The study collates historical data for the period 1999 - 2012. By implication, the

study is a time series analysis. Most works along this line use time-series analysis of annual

observations and even quarterly data to maximize the information included in their analyses.

According to Bandiera et al (2004), time series analysis adjust the standard errors accordingly

and conduct an array of sensitivity checks, and this procedure formally deal with simultaneity

bias. Levine and Zervos (1998) and Bandiera et al (2004) show that time serial analysis

improves information and sensitivity of data by detecting the direction of movement within the

period under study.

In line with works on banks’ performance and economic growth, this study adopted the multiple

linear regression approach. While the growth rate of gross domestic product per capita is the

dependent variable, the independent variables are lending and deposit rates, ratio of interest rate

margin to bank total assets, ratio of liquid liabilities to GDP, ratio of loan to private sector to

GDP.

3.2 Nature and Sources of Data

Secondary data is used for the study. Data for real GDP per capita growth, Deposit and Lending

Interest rate, liquid liabilities, banking industry credit to private sector and other relevant data

will be obtained from the Central Bank of Nigeria Statistical Bulletin and NDIC Annual Reports

and Account..

3.3 Model Specification

To test the competing views on the role of banking activities in promoting economic growth, the

Time Serial Ordinary Least Square (OLS) multiple regression was adopted with the functional

form stated below.

39

In specifying the models for this study, the following alphabets were used to denote the

respective variables.

GDPt = represents growth in real gross domestic product per capita over time, a

measure of economic growth

BCt = represents banking industry credit to private sector as a proportion of total

banking industry credit to the economy.

M2 = represent ratio of liquid liabilities

NIMt = Net Interest Margin (the interest rate margin over time).

Ut = represent the residual error term which will capture any variations in the model

that cannot be attributed to independent variables used in the equation.

The model for this work is a slight modification on models used in previous works. (See

Khan &Senhadji: 2000). The basic equation tested in their study has the following form:

Yi = β0 + β1FDi + β2Xi + ei

Where yi is the rate of growth of country i, FDi is an indicator of financial depth, Xi is a set of

control variables, and ei is the error term.

Our models (below) are fashioned alongside the various hypotheses:

HYPOTHESES I

Bank Credit does not exert positive and significant impact on economic growth in Nigeria

GDPI = β

0 + β

1 +β

2BC

it + Uit……………….……………………….3.6

HYPOTHESES II

Growth in Liquid Liabilities of Banks does not exert positive and significant impact on

economic growth in Nigeria

GDPit

= β0

+ β1

+ β2M2it+ Uit ... ………………………….……………..3.7

40

HYPOTHESES III

Net Interest Margin of the Banking industry does not exert positive and significant impact on


GDPit

= β0

+ β1

+ β2NIM

it + Uit ………….………...………………..…3.8

3.4 Model Justification

Moreover, previous empirical studies have provided evidence of a causal relationship between

the size of bank capital and the extent of banking industry credit. According to Mora and Logan

(2010) there was a dynamic interrelationship between bank capital and lending. They “found that

lending responded to regulatory capital pressure. For example, a bank whose capital was close to

its minimum capital requirement, responded to an increase in its capital by lending more”. As a

result of this, it is expected that there would be a high degree of correlation between these two

exogenous variables within our models. Multicollinearity is however not expected to be a

problem in this study as it would not affect the accuracy of the exogenous variables in predicting

the endogenous variable or the R squared and adjusted R squared results. Mutlticollinearity

would only be a problem if our objective was to determine the extent to which the each

exogenous variable impacts GDPt. According to Concetta (2006), “Even extreme

multicollinearity (as long as it is not perfect) does not violate the OLS assumptions and the OLS

estimators are still BLUE” i.e. Best Linear Unbiased Estimators.

3.5 Description of Research Variables

This study made use of both independent and dependent variables in its analysis. Insights and the

justification for the inclusion of these variables are stated below.

3.5.1 Independent Variables

Independent variables consist of bank performance measures (ratio of interest rate margin

/spread, ratio of liquid liabilities and ratio of bank loan to the private sector).

a. Bank Credit (BC)

To measure the value of bank credit, the study adopts bank lending ratio, which is the value of

loans made by the commercial banks and other deposit taking banks to the private sector, divided

by Gross Domestic Product (GDP). This method improves upon traditional financial depth

measures of banking development by isolating credit issued by banks, as opposed to credit issued

41

by the Central Bank or other intermediaries, and by identifying credit to the private sector as

opposed to credit issued to Governments (Levine and Zervos,1998). Similar indicators have been

used by Levine, Loayza and Beck (2000), King and Levine (1993) and Beck, Levine and Loayza

(2000). This indicator does not include lending to central, state and local governments. It is

believed that this is the most robust measure for bank activity since this is one of the main

functions of banks (channeling savings to investors).

Bank Credit = Loans to the Private Sector/GDP ………………..…………. 3.1

b. Growth in Liquid Liabilities (M2)

Growth in liquid liabilities is used as measure of the value / size of the financial sector as

percentage of the Gross Domestic Product. Khan and Senhadji (2000) suggest that monetary

aggregates, such as M1 or M2 are often used as proxy for financial system mainly because these

aggregates are widely available. Though they propose use of M3, which is generally referred to

as liquid liabilities of the banking system, uncertainty in tenor of fixed funds for M3 remains a

huge shortcoming. Liquid liabilities (M2) as a ratio GDP is usually adopted as an indicator of the

size of the financial intermediaries relative to the economy (King and Levine, 1993). According

to Beck & Levine (2001), liquid liabilities to GDP equals currency plus demand and interest-

bearing liabilities of banks and other financial intermediaries divided by GDP.

Growth in Liquid Liabilities = M2/GDP ………………….....…………………….3.2

c. Net Interest Margin (NIM)

One of the functions of financial intermediaries is to channel funds from savers to investors. Net

Interest Margin as an indicator is used to determine whether banks are performing financial

intermediation functions efficiently. Net Interest Margin equals the accounting value of a bank’s

interest revenue as a share of its total assets and overhead cost. Overhead cost, when low is

interpreted to mean efficiency and when high is interpreted to reflect waste and lack of

competition. Net Interest Margin is adopted in this study since it is the most used in extant

literature (Demirguc-Kunt and Huizinga, 1997; Demirguc-Kunt and Levine 1998).

Kunt& Huizinga (2001) note that interest margin equals pre-tax profits plus operating cost, plus

loan loss provisioning (and minus non-interest income)

Net Interest Margin = Net Interest Margin/Total Assets .....……………………….3.3

42

3.5.2. Dependent Variable

This is a measure of growth of the economy in annual basis. This was determined by dividing

real gross domestic product with the total population and obtaining the growth rate. The

population figures were projections from the 1991 and 2006 official census figures. The

projections were based on the 2.8 per cent annual growth rate (CBN Annual Reports and

Statement of Accounts, various). The per capita GDP growth was used to proxy economic

growth. This is in line with the works of Demirguc-Kunt and Levine (1998), Levine and Zervos

(1998), Demirguc-Kunt and Makismovic (1996) and Aurangzeb (2012)

Economic Growth = Growth Rate of (Gross Domestic Product/Population) …... 3.4

3.6 Test of Robustness

An important issue in the interpretation of growth regressions is the endogeneity of the

regressors. Usually single-equation models are constructed on the assumption that causation is

unidirectional, but as economic variables are often interdependent, causation can run in both

directions. Thus, there may be need for other diagnostic tests to check the robustness of our

regression models.

3.7 Technique for Analysis

A multiple regression model was developed to investigate the relationship between banking

industry activities and economic growth in Nigeria. The study applied the Ordinary Least

Square regression. The functional form of OLS multiple regression is stated thus:

Yi = B0 + B1X1i + B2X2i + Ui…………………………………….…………………………. 3.5

Where; The subscript i runs over observation, I = 1, …,n;

Yi is the dependent variable or the regressand

X1i + X2i are the independent variables or the regressors

B0 + B1X + B2X are the population regression lines or population regression functions

B0 is the intercept of the regression line

B1+ B2 are the slope of the population regression line;

Ui is the error term (Wooldridge, 2002)

43

REFERENCES

Asika, N. (2006), “Research Methodology: A Process Approach”, Lagos: Mukugamu Brothers

Enterprises. Pp 110 – 116.

Aurangzeb, C. (2012) “Contributions of Banking Sector in Economic Growth: A Case of


Bandiera, O., Caprio, G., Honohan, P. and Schiantarelli, F. (2004). “Does Financial Reform

Raise or Reduce Saving?, Review of Economics and Statistics, May, 82(2): 239-263.

Beck, T., and Levine, R. (2001). "Stock Markets, Banks and Growth Correlation or Causality",

The World Bank Working Paper, WPS 254.

Beck, T., Levine, R, and Loayza, N. (2000). “Finance and The Sources of Growth”, Journal Of

Financial Economics, 58(20), 261-300.

Central Bank of Nigeria, (2003,2005,2007,2010) Annual Report and Statement of Accounts

Demirguc-Kunt, A. and Levine, R. (1998). “Financial Structure and Bank Profitability”, in

Demirguc-Kunt, A. and Levine, R. (eds), Financial Structure and Economic Growth,

Cambridge: MIT Press.

Demirguc–Kunt, A. and Huzinga, T. (1997). “Stock Market Development and Financial

Intermediaries. Stylized Facts”, The World Bank Economic Review, 10(2), 291-327.

Demirguc–Kunt, A. and Makismovic, V. (1996). “Stock Market Development and Financing

Choices of Firms”, The World Bank Economic Review, 110(2), 341-369.

Khan M. and Senhadji A. (2000). “Financial Development and Economic Growth: An

Overview” IMF Working Paper WP/00/209.

King, G. and Levine, R. (1993). “Finance and Growth: Schumpeter Might Be Right – How do

National Policies Affect Long-Run Growth?” World Bank Policy Research Working

Papers.

Levine, R., Loayza, N. and Beck, T. (2000). “Financial Intermediation and Growth: Causality

and Causes”, Journal of Monetary Economics, 58, 31-77.

44

Levine, R. and Zervos, S. (1998). “What We Have Learnt About Policy and Growth from

Cross- Country Regressions”, The American Economic Review, 83(2), 426-440.

Levine, R., and Zervos, S. (1998). “Stock Markets. Banks and Economic Growth”, The

American Economic Review, 88(3), 537-558

Wooldridge, J. (2002). Econometric Analysis of Cross Section and Panel Data, Cambridge, MA:

MIT Press.

45

CHAPTER FOUR

DATA PRESENTATION AND ANALYSIS

In this chapter, the relevant data for the study were presented and analyzed. The relevant data

include; net interest margin (revenue), total bank assets, liquid liabilities (M2); commercial bank

loan / credit to the private sector; commercial bank credit to the public sector, real gross

domestic product; and total population.

The Nigerian Banking sector has undergone serious challenges in recent times and these

challenges are fuelled majorly by weak structure and policies that manifested in the form of

illiquidity, undercapitalization, weak corporate governance, insolvency, fraud and

misrepresentations amongst others.

However, in July 2004, the then CBN Governor, Prof. Charles Soludo proposed an increase in

capitalization which is believed will lead to more efficient and healthier banks with better

professional and ethical values. The banking industry was also fraught with unhealthy

competition between very big banks and marginally playing banks. However, with the then

proposed N25B minimum capital requirement (up from N2B which represent a 1,150%

increase), all complying banks are expected to be big enough to survive.

The data presented therefore, basically looks at banks performance, pre and post consolidation

with a view of ascertaining if any progress has been made thus far, and the general contribution

of banks performance to economic growth.

4.1 Data Presentation

The study presented data that were relevant and in line with the objectives of the study. Table

4.1.1 showed the relevant data for testing financial sector performance in Nigeria.

46

Table 4.1 Performance Indicators of Deposit Money Banks (1999 – 2012)

Year

Total

Assets

(N’M)

Demand

Deposits (N’M)

Capital

Accounts

(N’M)

Total Loans

(N’M) GDP

1999 1,070,019 202,162 141,969 322,764 3,194,015

2000 1,568,838 345,001 196,662 508,302 4,582,127

2001 2,247,039 448,021 364,258 796,164 4,725,086

2002 2,766,880 503,870 500,751 954,628 6,912,381

2003 3,047,856 577,663 537,208 1,210,033 8,487,031

2004 3,753,277 726,552 206,063 1,519,242 11,411,066

2005 4,515,117 946,039 419,417 1,976,711 14,572,239

2006 7,172,932 1,497,904 872,513 2,524,207 18,564,594

2007 10,981,694 2,307,911 1,560,032 4,813,488 20,657,317

2008 15,919,559 3,650,543 2,577,601 7,799,400 24,296,329

2009 17,522,858 4,132,789 1,982,326 9,667,876 24,712,669

2010 18,664,231 10,840,321 1,912,654 7,172,657 29,503,343

2011 19,371,605 13,322,755 1,965,325 8,693,260 63,258,582

2012 21,231,279 15,465,0531 2,345,891 10,988,281 71,186,535

Sources: Central Bank of Nigeria Statistical Bulletin (Various Years) and NDIC Annual Report

and Accounts (Various Years)

Data from Table 4.1 shows that total assets of commercial banks maintained a steady increase

over the years under study. However, total assets of all 89 banks operating in Nigeria as at 2004

(pre-consolidation) was N3.753B and rose to N4.515B by the end of the consolidation

year(2005). This represents a 16.87% increase. In 2006 however (1st year post-consolidation),

banks total assets rose to N7.17B and this represents a 58.86% increase over the previous years’

figure (N4.52B). For the period under study (1999-2012), the total assets of banks grew from

N1.07B to N21.231B, which represent a 1,884% increase. With a total number of 89 Banks in

2004, the average asset size of individual banks stood at N42.21B, but as at 2012, with a total

number of 24 bank, the average asset size is N884.63B. Obviously, banks are now bigger and

have higher capacity to finance developmental projects.

47

Similarly, demand deposits also maintained an upward increase throughout the period under

review. Demand deposits was N202.16B in 1999 but increased to N726.55B in 2004. This

represent a 259.88% increase for the pre-consolidation period. However, in 2006 (1st year post-

consolidation), the figure rose to N872.51B from N206.06B in 2004 and N419.41B in 2005. This

rise represent a 323.42% and 108% increase respectively, over and above the 2006 figure. The

figure then rose astronomically to N15,465.05B in 2012. For the 14 year period under study, this

represent a 7,549.90% increase between 1999 and 2012

Moreover, capital accounts maintained a steady increase in nominal terms for the years under

review except for the years 2004, 2005 and 2009. While the 2004 and 2005 decrease could be

attributed to the uncertainty in the Nigerian banking industry, following the gigantic reforms

proposed by the then CBN Governor, Prof. Charles Soludo, the 2009 downward trend could be

linked to the global economic crisis that engulfed the global economy beginning in 2008.

Capital accounts which stood at N141B in 1999 moved to N537B in 2003 but declined

subsequently in 2004 and 2005 when it declined to N206B and N419B respectively. However, it

picked up again in 2006 when it increased to N872B and stood at N2,577B in 2008. By 2009, it

had declined again to N1,982B in 2009 and stood at N1,912B in 2010. In recent years, the value

has also maintained an upward increase, rising to N1,912B and N2,574B in 2011 and 2012

respectively. Overall, this represents approximately 908% increase between 1999 and 2012.

Furthermore, total loans and advances also maintained a continuous increase for the entire period

under review, except for Year 2010.The reduction however could be linked to reduction in

lending activities following the effects of the 2008 global economic crisis. Total loans and

advances stood N322B in 1999 but increased to N1,519B in 2004. This represents over 370%

increase for the period. Moreover, from N1,519B in 2004 to N2,524B in 2006 and stood at

N7,172B and N10,988B in 2010 and 2012 respectively. For the period under study (1999 –

2012) the value of total Loans increased from N322.76B to N10,988.28B which represent a

3,304% increase.

Finally, GDP also displayed upward movement for the period under review. From N3,194B in

1999, it moved to N11,411B in 2004 and stood at N29,503B in 2010. This represents over 257%

increase between 1999 and 2004 and over N56,614B increase between 2005 and 2012, which

represent a 388.51% increase.

48

In line with approaches adopted by previous studies with similar orientation (see Okafor, 2011,

and Demirguc–Kunt and Makismovic, 1996), this work will review financial performance

impact as measured by three ratios which will be derived by relating each of three commercial

banking aggregates to the gross domestic product (GDP) namely; Bank assets(BA) to GDP

(BA/GDP), Demand deposits to GDP (DD/GDP) and Bank Credit to GDP (BC/GDP).

According to Okafor (2011), the BA/GDP ratio is a measure of the size of the banking sector

relative to that of the entire economy. The ratio therefore, reflects the depth of financial activity

attributable to banking sector capacity which derives from the asset base. The higher the ratio,

the greater the level of financial activity attributable to banks while the reverse is the case. The

DD ratio as well as the BC ratio could each be applied as independent measures of financial

activity. Moreover, to isolate the credit to private sector, BC is defined as loans and advances

channeled to the private sector. In other words, loans and advances to various tiers of

government, government ministries and agencies are therefore, not included in the calculation of

the BC ratio. The ratios of each of the three banking aggregates to the GDP are presented in

Table 4.2.

Table 4.2: Selected Ratios of Commercial Banks’ Aggregates to GDP in Percentage (1999 –

2012)

Year Bank Assets/GDP

Ratio

Bank Deposits/GDP Ratio Bank

Credit/GDP

Ratio

1999 33.50 6.33 10.11

2000 34.24 7.53 11.09

2001 47.56 9.48 16.85

2002 40.03 7.29 13.81

2003 35.91 6.81 14.26

2004 32.89 6.37 13.31

2005 30.98 6.49 13.56

2006 38.64 6.49 13.60

2007 53.16 11.17 23.30

2008 65.52 15.03 32.10

49

2009 70.91 17.06 39.12

2010 63.26 36.74 24.31

2011 30.62 21.06 13.74

2012 29.82 21.72 15.44

Source: Computation by the Researcher from Table 4.1

From the result in Table 4.2, bank assets to GDP ratio displayed an inconsistent trend for the

period under review. From a ratio of 33.50, it edged up slightly to 34.24 in 2000. However, there

were marginal gains in 2001, which were subsequently reversed in 2002, as the ratio slumped to

40.03 in 2002 from 47.56 in 2001. The gyration in the trend continued throughout the period and

stood at 63.26 as at 2010. Comparatively, the 2012 ratio is lower than the 1999 figure. This

implies that with the expanding GDP, the adequacy of banks asset is diminishing. This result is

quite disturbing as the economic expansion being witnessed is not reflecting within the banking

sector, as their asset growth rate is slower than the economic growth rate. For the trend in growth

rate, see figure 4.1.1 below.

Figure 4.1.1 Bank Asset / GDP Ratio

Source: Researcher’s Excel Computation

Bank deposits to GDP ratio also showed inconsistent trend for the period under review. The

ratio was 6.33 in 1999, rose to 7.53 and 9.48 in 2000 and 2001 respectively but in to 11.17. This

decline clearly reflects the weak banking industry with no improvement on deposit levels,

0

10

20

30

40

50

60

70

80

1 2 3 4 5 6 7 8 9 10 11 12 13 14

Bank Asset / GDP Ratio

50

however, following the increase in minimum capital requirements and the attendant bank

consolidation, the figures rebound to 11.17 representing a 72.11% increase over the previous

year’s figures. The increase continued and hit an all time high of 36.74 in 2000. This figure

represents a 115.35% increase over the year 2011 figure. However, the figures declined further

to 21.06 and 21.72 in 2011 and 2012 respectively. The growth trend is shown in figure 4.1.2

below. The hike in year 12 is as a result of the increase in Demand Deposits from N4,132B in

2009 to N10,840B in 2010. The drop in 2013 and 2014, however, does not reflect a drop in the

absolute value of Demand Deposits, but reflects the inadequacy of the value of the Demand

Deposit as a ratio of the GDP following the recent GDP rebasing and expanding economy.

Figure 4.1.2 Bank Deposit / GDP Ratio


Furthermore, the result from Table 4.2 shows that the ratio of bank credit to the private sector

has maintained an inconsistent trend within the period under study. From a ratio of 10.11 in

1999, it moved up slightly to 11.09 in 2000 and continued the increase to 16.85 in 2001 but fell

to 13.81 in 2002. Further increase was witnessed in 2003, which later fell in 2004 from 14.26 to

13.31 respectively. This range was maintained till 2007, where the figure rose to 23.30 which

represent a 71.32% increase over the previous year’s figure. The lull between 2004 to 2006 is

suspected to be as a result of stiffer requirements for bank lending, following series of bad debt

discoveries which were exposed during the consolidation exercise, which ended in December

2005. The increase was not sustained for too long, as the global financial crisis of 2008 – 2010

0

5

10

15

20

25

30

35

40

1 2 3 4 5 6 7 8 9 10 11 12 13 14

Bank Deposit / GDP Ratio

51

further depressed the recovering activities of bank lending. Banks were generally less willing to

advance loans to private sector institutions. The ratio stood at 24.31 as at 2010 and depressed

further to 13.74 and 15.44 in 2011 and 2012 respectively. The further depression is as a result of

expanded GDP figure and expanding economy. The growth trend is shown in figure 4.1.3 below:

Figure 4.1.3 Bank Credit / GDP Ratio


Figure 4.1.4 Comparison of the Values of Bank Assets, Bank Deposits and Credit

Advances to the Private Sector


0

5

10

15

20

25

30

35

40

45

1 2 3 4 5 6 7 8 9 10 11 12 13 14

Bank Credit / GDP Ratio

0

20

40

60

80

100

120

140

1 2 3 4 5 6 7 8 9 10 11 12 13 14

Bank Credit / GDP

Bank Deposit / GDP

Bank Asset / GDP

52

From the result in figure 4.1.4, all three indicators maintained a similar patter, which fully

reflects their appropriateness for measuring banks performance on economic growth. More

interesting is the downward trend between year 12 to 14 of our study (2011 to 2012), which also

clearly reflects the inadequacy of our celebrated positions, and the exposure is credited to

rebased GDP figures that clearly show the true nature of the Nigerian economy.

Table 4.3: Indicators of Bank Efficiency - Selected Earnings/Profitability Indices of

Commercial Banks in Nigeria (1999 – 2012)

Year

Earnings/Profitability Indices (in %)

Yield on Earning Assets Return on Assets Return on Equity

1999 4.36 3.82 102.88

2000 4.51 3.78 115.27

2001 27.37 4.82 57.41

2002 27.55 2.63 41.63

2003 20.32 2.00 29.11

2004 18.22 2.58 27.23

2005 4.07 0.75 4.81

2006 3.47 0.59 4.12

2007 20.58 5.92 36.83

2008 18.27 4.29 24.11

2009 22.87 -64.72 -9.28

2010 11.24 3.91 16.29

2011 10.05 -0.04 -0.28

2012 11.92 2.62 22.20

Source: NDIC Annual Reports and Accounts (Various Years)

From the result in Table 4.3, yield on earning assets of banks showed an inconsistent trend for

the period under review. The 1999 and 2000 figures stood at 4.36% and 4.51% respectively, and

rose sharply to 27.37% in 2001. The rise reflects a 506.87% increase between the 2001 and 2000

figures. This high figure was sustained for another year and dropped by 25% in 2004. Following

the completion of the bank consolidation process, Yield on Earning Asset further dropped to

4.07% in 2005 and 3.47% in 2006. This swing continued, rising sharply to 20.58% in 2007 and

closing the year 2010 at 11.24%. These gyrations are a reflection of the impact of series of

53

reforms the banking industry passed through within the period under study, and more lately

economic downturn of 2008-2010. The downward trend also reflect the high operational cost of

banking business in Nigeria. The growth trend is shown in figure 4.1.5 below:

Figure4.1.5 Yield on Earning Assets


Moreover, as can be seen from Table 4.3, the return on assets fluctuated (in some cases widely)

within the period under review. From 3.82% in 1999, it fell slightly to 3.78% in 2000 but picked

up in 2001 when the figure moved to 4.82%. This increase was short-lived as the figure dipped

again in 2002 when it fell to 2.63%. This downward trend continued till 2006 where the figure

fell to 0.59%. By 2009, there was a huge deficit of -64.72% and an impressive recovery the

following year back to credit position, 3.91%. This credit position slipped in 2011, closing at -

0.04% and further improvement witnessed in 2012, closing at 2.62%. The huge deficit could be

attributed to the bad loans which were made manifest, following the global financial crisis of

2008. However, the recovery the following year is as a result of Asset Management Corporation

of Nigeria’s (AMCON’s) purchase of bad and doubtful debts from Nigeria banks. This debt

takeover is instrumental to the return to profit position by Nigerian banks. This trend is shown in

figure 4.1.6 below.

0

5

10

15

20

25

30

1 2 3 4 5 6 7 8 9 10 11 12 13 14

Yield on Earning Asset

54

Figure 4.1.6 Return on Assets


Furthermore, it can also be seen from the result in Table 4.3 that return on equity also fluctuated

for the period under review. From a robust figure of 102.88% in 1999, it fell to 29.11% in 2003

and continued its downward trend up to 2006 when it recorded a meagre 4.12% before going into

negative region in 2009 with a deficit of -9.28% and stood at -0.28% as at 2011. However,

improvements are witnessed in the 2012 figure, hitting a high point of 22.2%, over the previous

year’s negative figure (-0.28). Similar to Return on Asset, the decline in 2009 is a fallout of

massive losses incurred by banks due to bad loans, arising from the global economic crisis. The

recovery in 2012 (22.20%) is also a reflection of reduced operational cost and sale of bad loans

to AMCON. This trend is shown in figure 4.1.7 below:

-70

-60

-50

-40

-30

-20

-10

0

10

1 2 3 4 5 6 7 8 9 10 11 12 13 14

Return on Assets

55

Figure 4.1.7 Return on Equity


Figure 4.1.8 Comparison of the Values of Yield on Earning Assets, Return on Assets and

Return on Equity


It could be seen from the trend in figure 4.1.8 that all measures of efficiency fluctuated within

the period under review. Yield on Earning Assets appears to have fared comparatively better

than the other parameters, maintaining a positive position for the period of study. On the other

hand, return on assets was worst hit within the period under review. A key feature in figure 4.1.8

above is the sharp decline in the ratios, particularly yield on earning assets and return on equity.

-20

0

20

40

60

80

100

120

140

1 2 3 4 5 6 7 8 9 10 11 12 13 14

Return on Equity

-60

-40

-20

0

20

40

60

80

100

120

140

1 2 3 4 5 6 7 8 9 10 11 12 13 14

Return on Equity

Return on Assest

Yield on Earning Asset

56

All three ratios declined sharply between 2005 and 2006. This decline is as a result of new equity

investments, following the recapitalization of banks and massive sale of share in order to meet up

with the new capital requirement.

Post-consolidation, the decline reflect the surge of new capital, which had not been put to full

productive use and subsequently had to muster the shock of the global economic crisis. The

shock was further arrested by the purchase of bad and doubtful loans by AMCON, and outright

takeover of banks with weak corporate governance and evidence of fraud. These positive figures

recorded in 2012 are expected to be sustained in the following years.

4.2 Determination of Research Variables

In this section, the various variables relevant for this study were determined in line with the

objectives of the study. The variables include bank credit to the private sector as a ratio of GDP,

liquid liability (M2) as a ratio of real GDP, bank interest revenue as a ratio of total assets and

growth rate of gross domestic product per capita

4.2.1 Growth Rate of Gross Domestic Product per Capita (Economic Growth)

Growth rate of Gross Domestic Product was determined by dividing real gross domestic product

with the total population and obtaining the growth rate. The population figures were projections

from the 1991 and 2006 official census figures. The projections were based on the 2.8 per cent

annual growth rate (CBN Annual Reports and Statement of Accounts, various). The per capita

GDP growth was used to proxy economic growth and also the dependent variable. This is in line

with the works of Demirguc-Kunt and Levine (1996) and Levine and Zervos (1998).

Table 4.4 Determination of Economic Growth

Year GDP Population GDP Per Capita

GDP Per Capita

Growth

1999 3,194,015 110,379,440 28.93 0.395

2000 4,582,127 113,470,064 40.38 0.0029

2001 4,725,086 116,647,226 40.50 0.423

2002 6,912,381 119,913,348 57.64 0.194

2003 8,487,031 123,270,922 68.84 0.308

2004 11,411,066 126,722,508 90.04 0.242

2005 14,572,239 130,270,738 111.86 0.185

2006 18,564,594 140,000,000 132.60 0.075

57

2007 20,657,317 144,900,000 142.56 0.136

2008 24,296,329 149,971,500 162.00 0.0124

2009 24,712,669 150,665,001 164.02 0.186

2010 29,503,343 151,654,007 194.54 1.119

2011 63,258,582 153,443,124 412.26 0.0947

2012 71,186,535 157,739,531 451.29 0.0962

2013 80,222,130 162,156,238 494.72

Source: Based on researcher’s computation

From the result in Table 4.4, it can be seen that GDP growth has fluctuated within the period

under review. From 0.0395% in 1999, it dipped to .0029% the next year, with a rebound to

0.423% in 2001. This gyration continued and in more recent times, the downward figure was

sustained at less than 0.1% in 2011 and 2012.

4.2.2.1 Bank Credit to the Private Sector as a Ratio of GDP (Bank Activity)

Bank credit to the private sector as a ratio of GDP will be used as proxy for bank activity. This

was determined by dividing the value of deposit money bank credits to the private sector with

gross domestic product. Similar works that have used this proxy include Levine and Zervos

(1998), Levine, Loayza and Beck (2000), and Beck, Levine and Loayza (2000).

Table 4.5 Determination of Bank Activity

Year GDP Bank Credit Bank Credit /GDP

1999 3,194,015 350,576 1.12

2000 4,582,127 480,017 1.45

2001 4,725,086 817,689 2.29

2002 6,912,381 931,137 2.14

2003 8,487,031 1,182,984 2.47

2004 11,411,066 1,494,610 2.83

2005 14,572,239 1,936,619 3.44

2006 18,564,594 2,528,637 4.24

2007 20,657,317 4,732,942 7.46

2008 24,296,329 7,649,635 11.33

2009 24,712,669 10,206,086 14.23

2010 29,503,343 7,172,657 24.31

58

2011 63,258,582 10,660,071 16.85

2012 71,186,535 14,649,282 20.58

Source: Researcher’s computation

From the data in table 4.5 it is clear that the ratio of bank credit to the private sector as a share of

GDP also had a fair share of the fluctuations, rising to 17.30 in 2001, up from 10.47 in 2000. In

2002 there was a decline to 13.47 and it remained at that range till 2007 where it rose to 22.91,

owing largely to the consolidation of banks. The rise was sustained and has remained so.

However, due to the rebased GDP, a new wave of decline is expected, as the credits in absolute

terms has remained relatively stable while the economy has expanded greatly. Below is a time

serial simple line graph representing movement in the ratio of bank credit to the private sector as

a share of GDP from 1999 to 2010.

Figure 4.2.1 Bank Credit / GDP


4.2.2.2 Liquid Liability (M2) as a Ratio of GDP (Bank Size)

Liquid liability was used as a proxy for bank size. This was determined by dividing the value of

liquid liability (M2) with real gross domestic product. This approach is in line with the works of

King and Levine (1993) and Beck, Demirguc-Kunt and Levine (2001).

0

5

10

15

20

25

30

1 2 3 4 5 6 7 8 9 10 11 12 13 14

Bank Credit / GDP

59

Table 4.6 Determination of Bank Size

Year Liquid Liability (N’m) GDP Liquid Liability/GDP

1999 699,733.70 3,194,015 0.219076522

2000 1,036,079.50 4,582,127 0.226113222

2001 1,315,669.10 4,725,086 0.278443418

2002 1,599,494.60 6,912,381 0.231395607

2003 1,985,191.80 8,487,031 0.233908866

2004 2,263,587.90 11,411,066 0.198367786

2005 2,814,846.10 14,572,239 0.193164969

2006 4,027,901.70 18,564,594 0.216966861

2007 5,672,622.50 20,657,317 0.282820603

2008 5,809,826.50 24,296,329 0.239123634

2009 10,767,403.65 24,712,669 0.435703794

2010 10,842,143.22 29,503,343 0.367488634

2011 12,172,491.00 63,258,582

0.192424342

2012 13,895,391.00 71,186,535

0.195196901

Source: CBN Statistical Bulletin (Various Years)

Result from data in table 4.6 showed that ratio of liquid liability as a share of GDP has fluctuated

markedly within the period under consideration. Overall, in nominal terms, there was an increase

of 570% for the period 1999 to 2010. Below is a time serial simple line graph representing

movement in the ratio of liquid liability as a share of GDP from 1999 to 2012

60

Figure 4.2.2 Liquid Liability / GDP


4.2.2.3 Ratio of Banks Net Interest Margin to Total Bank Assets (Bank Efficiency)

Banks Net Interest Margin / to total bank assets was used as proxy for bank efficiency. This is

derived by dividing the value of interest revenue with total value of bank assets. There is a caveat

however in this computation because two different variables – a flow and stock variables are

involved and these are measured at different points in time and for different reasons. Another

difficulty is that there is no known deflator for interest revenue and bank assets unlike other

economic variables. However, past works that have used this proxy especially works of King

and Levine (1993) justified this on the ground that the denominator and numerator are related.

Table 4.7 Determination of Bank Efficiency

Year

Net Interest Margin

(N’m) Total Assets (N’m)

Net Interest Margin/Total

Assets

1999 235,384 1,070,019.50 0.219981038

2000 267,092 1,568,638.70 0.170269929

2001 307,109 2,247,039.90 0.136672695

2002 621,573 2,766,880.30 0.224647593

2003 691,971 3,047,868.30 0.227034416

2004 702,054 3,763,277.80 0.186553860

0

0.05

0.1

0.15

0.2

0.25

0.3

0.35

0.4

0.45

0.5

1 2 3 4 5 6 7 8 9 10 11 12 13 14

Liquid Liability / GDP

61

2005 753,093 4,515,117.60 0.166793662

2006 791,432 7,172,932.10 0.110335911

2007 890,988 10,981,693.60 0.081133934

2008 910,114 15,919,559.80 0.057169546

2009 1,023,445 17,564,234.32 0.058268694

2010 834,623 18,664,342.50 0.044717514

2011 817,153 19,371,605 0.04218303

2012 1,107,680 21,231,279 0.052172081

Source: Researcher’s computation

From the result in table 4.7, showing the ratio of bank interest revenue as a share of bank’s Total

Asset, the pre-consolidation ratios are a lot healthier than the post-consolidation ratios. One

important observation is that there was a serious decline for the years 2007, 2008 and up till 2011

and a slight (0.01) increase between 2011 and 2012.. This could be attributed to the economic

and financial crisis that ravaged the global world and Nigeria was not immune from the scourge.

Trend in the ratio of interest revenue as a share of bank total assets for the period 1999 to 2012 is

shown in a graph below:

Figure 4.3 Net Interest Margin / Total Asset


0

0.05

0.1

0.15

0.2

0.25

1 2 3 4 5 6 7 8 9 10 11 12 13 14

Net Interest margin

62

4.3 Test of Hypotheses

In this section, the regression result will be used to interpret the three hypotheses formulated in

the study. Result of the Ordinary Least Square regression is reported in Table 4.3.1, 4.3.2 and

4.3.3 below and used as the main models for the test of the research hypotheses.

4.3.1 Test of Hypotheses I:

Restatement of hypotheses in null and alternate forms;

Ho: Bank Credit does not exert positive and significant impact on economic

growth in Nigeria.

Ha: Bank Credit exerts positive and significant impact on economic growth

in Nigeria.

Analysis of Regression Result

Table 4.8(a): Result of SPSS Regression Analysis: Hypothesis 1

Variables Entered/Removedb

PRIVATE

SECTOR

CREDITa

. Enter

Model

1

Variables

Entered

Variables

Removed Method

All requested variables entered.a.

Dependent Variable: GDPb.

Model Summary

.870a .756 .736 9360080.40

Model

1

R R Square

Adjusted

R Square

Std. Error of

the Estimate

Predictors: (Constant), PRIVATE SECTOR CREDITa.

ANOVAb

3.3E+015 1 3.264E+015 37.253 .000a

1.1E+015 12 8.761E+013

4.3E+015 13

Regression

Residual

Total

Model

1

Sum of

Squares df Mean Square F Sig.



63

This hypothesis was used to test the impact of bank credit on economic growth in Nigeria.

Growth in gross domestic product was proxy for economic growth while bank credit to the

private sector was the explanatory variable. At prob > F value of 0.000 less than 0.005 percent

as shown in Table 4.4.1 above, the OLS model is very significant, and fitted the data reasonably

well. Again, the adequacy of the model was found to be of good fit with the coefficient of

determination computed at 0.736. In other words, approximately 74% of the changes in gross

domestic product are attributed to changes in the explanatory variable, i.e. growth in private

sector credit for the period under review. The coefficient of the statistics at 4.044 is positive and

significant.

4.3.2 Test of Hypotheses II:

Restatement of hypotheses in null and alternate forms

Ho: Growth in Liquid Liabilities of Banks does not exert positive and significant impact on


Ha: Growth in Liquid Liabilities of Banks exerts positive and significant impact on economic

growth in Nigeria.

Analysis of Regression Result

Table 4.8(b): SPSS Regression Result: Hypothesis II

Coefficientsa

3549722 3758069 .945 .364

4.044 .663 .870 6.104 .000

(Constant)

PRIVATE SECTOR

CREDIT

Model

1

B Std. Error

Unstandardized

Coefficients

Beta

Standardized

Coefficients

t Sig.

Dependent Variable: GDPa.

64

This hypothesis was used to test the impact of growth in liquid liabilities on economic growth in

Nigeria. Growth in gross domestic product was used as proxy for economic growth while

growth in liquid liabilities was the independent variable. At prob>F value of 0.000 less than

0.005 percent as shown in the output above, the OLS model is very significant, and fitted the

data reasonably well. Again, the adequacy of the model was found to be of good fit with the

coefficient of determination computed at 0.819. In other words, approximately 82% of the

changes in gross domestic product are attributed to growth in liquid liabilities of the commercial


GROWTH

IN LIQUID

LIABILITIE

Sa

. Enter

Model1

Variables

Entered

Variables

Removed Method



Model Summary

.912a .833 .819 7758686.49

Model1

R R Square

Adjusted

R Square

Std. Error of

the Estimate

Predictors: (Constant), GROWTH IN LIQUID

LIABILITIES

a.

ANOVAb

3.6E+015 1 3.593E+015 59.683 .000a

7.2E+014 12 6.020E+013

4.3E+015 13

Regression

Residual

Total

Model

1

Sum of


Predictors: (Constant), GROWTH IN LIQUID LIABILITIESa.


Coefficientsa

1051980 3278161 .321 .754

3.737 .484 .912 7.725 .000

(Constant)

GROWTH IN

LIQUID LIABILITIES

Model

1

B Std. Error

Unstandardized

Coefficients

Beta

Standardized

Coefficients

t Sig.


65

banks in Nigeria. The coefficient of the statistics at 3.737 is positive and significant. Based on

the results obtained, we reject the null hypothesis and accept the alternative hypothesis.

Therefore, we conclude that growth in liquid liabilities of banks exerts positive and significant

impact on economic growth in Nigeria.

4.3.3 Test of Hypotheses III:

Restatement of hypotheses in null and alternate forms

Ho: Net Interest Margin of Banks does not exert positive and significant impact on


Ha: Net Interest Margin of Banks exerts positive and significant impact on economic

growth in Nigeria.

Analysis of Regression Result Table 4.8 (c): SPSS Regression Result: Hypothesis III


NET

INTEREST

MARGINa

. Enter

Model

1

Variables

Entered

Variables

Removed Method



Model Summary

.729a .532 .493 12978060.4

Model

1

R R Square

Adjusted

R Square

Std. Error of

the Estimate

Predictors: (Constant), NET INTEREST MARGINa.

ANOVAb

2.3E+015 1 2.294E+015 13.620 .003a

2.0E+015 12 1.684E+014

4.3E+015 13

Regression

Residual

Total

Model

1

Sum of




66

This hypothesis was used to test the impact of Net Interest margin of banks on economic

growth in Nigeria for the period under review. Net Interest margin, which is the spread

between interest income and expenses was used as explanatory variable while growth in gross

domestic product was used as proxy for economic growth. At prob>F value of 0.003 less

than 0.005 percent as shown in the output above, the OLS model is significant, and fitted the

data reasonably well. Again, the adequacy of the model was found to be of good fit with the

coefficient of determination computed at 0.793. In other words, approximately 79% of the

changes in gross domestic product are attributed to growth in Net Interest margin of banks.

The coefficient of the statistics at 9.7150 is positive and significant. Based on the results

obtained, we reject the null hypothesis and accept the alternative hypothesis. Therefore, we

conclude that Net Interest margin of banks exerts positive and significant impact on


4.4 Implications of results

The implications of these results are discussed in line with the objectives of the study.

Objective 1: Evaluate the Impact of Bank Credit on Economic Growth in Nigeria

In line with objective one of this study, which aims at evaluating the impact of bank credit on

economic growth in Nigeria, as can be observed from the regression results arising from the

study, this objective was met. Private sector credit as a ratio of GDP was used as proxy for Bank

Credit. The coefficient is positive and significant. The conclusion is that banking sector credit

advancement proxied by private sector credit/GDP has positive impact on economic growth in

Nigeria. This suggests that private sector credit which is expected to impact positively on

economic growth following series of banking reforms has achieved that purpose. There are

doubts however, that these positive figures will be sustained in the light of the newly rebased

GDP. This finding is in contrast with the works of Nwanaynwu(2010).

Coefficientsa

-1E+007 1E+007 -1.445 .174

49.715 13.471 .729 3.690 .003

(Constant)

NET INTEREST MARGIN

Model

1

B Std. Error

Unstandardized

Coefficients

Beta

Standardized

Coefficients

t Sig.


67

Objective 2: Evaluate the Impact of Growth in Liquid Liabilities (M2) of banks on

Economic growth in Nigeria

The second objective of the study is to access the impact of growth in liquid liabilities (M2) of

banks in Nigeria. Growth in liquid liabilities is a broad measure of deepening in the banking

sector. These financial deepening measures can be used to evaluate banks’ performance.

Empirical results showed that the various measures of financial deepening namely liquid

liabilities (M2), financial savings, credit to the private sector, credit to the public sector, etc.

exhibited an increasing pattern in absolute terms for the period of study. Some of the indicators

of depth display evidence of significant financial deepening in the Nigerian economy. The

financial assets to GDP ratio has increased from 33.5% in 1999 to 63.26% in 2010 while deposit

liabilities ratio to GDP reached 36.74% from 6.33% over the same period. Moreover, the share

of deposits in assets increased over time, indicating a higher savings mobilization in the

economy except for the lull between 2003 to 2006. Furthermore, the growth in liquid liabilities

did not translate to growth in credit intermediation in the economy in the same proportion. The

study however, was able to ascertain that growth in liquid liabilities of the banking sector exert

positive and significant impact on economic growth. Following these observations and

clarifications, objective two is met. This empirical finding is in line with the views of Olokoyo

(2012).

Objective Three: Evaluate the Impact of Net Interest Margin in Banks on Economic

Growth in Nigeria

Finally, the third objective of this study, is to evaluate the impact of Net Interest in banks on

economic growth in Nigeria. Net Interest Margin was used as proxy for bank efficiency and

profitability. Various measures have been adapted to measure banking sector efficiency

including operating cost management, earnings optimization, bank profitability index, total

factor productivity of banks, financial deepening impact, operating efficiency index which is

defined as the ratio of operating expenses to operating income. The study however, measured

banking efficiency by the ratio of banks’ input costs to its operating margins. The input cost is

proxied by bank deposit rates while the operating margin is measured by the spread between the

average lending rate and the deposit rate. The study showed that the Net Interest Margin in

banks has a positive and significant impact on economic growth in Nigeria.

68

Moreover, three book measures of profitability were used in the study to assess the impact of

bank profitability on economic growth. These include: yield on earning assets, return on assets

and return on equity. Yield on earning assets is defined as total interest margin to total value of

bank earning assets. The interest margin is defined as the difference between total interest

earned and interest paid on interest earning assets while return on assets is the rate of return

attributable to all assets deployed in banking operations which include both income earning

assets and fixed assets. It is derived as the ratio of profit before tax to total assets. Return on

equity is the rate of return to equity shareholders which is derived as the ratio of profit after tax

to total equity stake or total shareholders’ funds. The results from the study showed that all three

profitability ratios declined sharply within the period covered by the study. Moreover, return on

assets and return on equity were on the negative region in 2009 in particular. The study however

reveals that banks profitability exerts positive and significant impact on economic growth.

Given these result, objective three of the study was judiciously met. This finding also aligns with

that of Aurangzeb (2012), who also confirmed a positive and significant impact in the case of

Pakistan, for the period between 1981 to 2010.

REFERENCES


Pakistan”, Economics and Finance Review. 2(6), 45 – 54.

69

Beck, T., Levine, R. and Loayza, N. (2000). "Finance and The Sources of Growth", Policy


Beck, T., Demirgüç‐Kunt, A. and Levine, R. (2001). “Access to Financial Services:

Measurement, Impact, and Policies”, World Bank Research Observer, 24, 119‐145.

Central Bank of Nigeria (CBN) Statistical Bulletin (Various Years)

Demirguc-Kunt, A. and Levine, R. (1996). “A Sensitivity Analysis of Cross-Country Growth


Demirguc–Kunt, A and Makismovic, V. (1996), “Stock Market Development and Financing

Choices of Firms, The World Bank Economic Review, 110(2), 341-369.

Gunning, J. W. and Mangistae, T. (2001) "Determinants of African Manufacturing Investment:

the Micro-economic Evidence", Journal of African Economies, 10(2), 47-54.



Levine, R., Loaya, N. and Beck, T. (2000). “Financial Intermediation and Growth: Causality and

Causes”, Journal of Monetary Economics, 46(1), 40-57.

Levine, R. and Zervos, S. (1996). "Stock Markets, Banks, and Economic Growth," American

Economic Review, 88(3) 26-40.

Marco, S., Ron, L., Setou, D. and Laureline, P. (2011). "How Large is the Private Sector in

Africa? Evidence from National Accounts and Labour Markets", Journal of Institute for the

Study of Labour, IZA DP, No. 6267.

Michael, C., Fote, D., Ncube, B., Ooka, E., Richards, K. and Vyas, A. (2009). “Movements in

Macroeconomic Indicators: Implication for South African Economy” Journal of

Economics, 110(2). 45-67.

Nwanyanwu, O. J. (2010). “An Analysis of Banks’ Credit on The Nigerian Economic Growth

(1992 – 2008)” Jos Journal of Economics, 4(1), 43 - 58.

Nigerian Deposit Insurance Corporation (NDIC) Annual Reports and Accounts (Various Years)

70

Okafor, F. O. (2011). 50 Years of Banking Sector Reforms in Nigeria (1960 – 2010) Past

Lessons: Future Imperatives, Enugu: Ezu Books Limited.

Olokoyo, F. O. (2012). “The Effect of Bank Deregulation on Bank Performance in Nigeria”,


CHAPTER FIVE

SUMMARY OF FINDINGS, CONCLUSION AND RECOMMENDATIONS

5.1 Summary Of Findings

71

Findings emanating from this study are as follows:

1. Bank Credit exerts positive and significant impact on economic growth in Nigeria.

2. Growth in Liquid Liabilities of Banks exerts positive and significant impact on economic

growth in Nigeria.

3. Net Interest Margin of Banks exerts positive and significant impact on economic growth

in Nigeria.

5.2 Conclusion

From the summary of the work it is evident that the banking sector occupies a vital position in

the economy and thus its activities must remain under constant review and analytical spotlight.

The modest achievement of the banking sector noted in the work could be attributed to

collaboration and commitment of purpose among key stakeholders. The study observed that the

fundamental objective of every government policy should be the repositioning of the banks to

perform better in their core functions in order to impact positively on economic growth in the

country. It could therefore be concluded that banking activities in Nigeria have impacted

positively on the country’s economic growth as measured by gross domestic product for the

period of study 1999 to 2012.

5.3 Recommendations

The following are the recommendations of the study.

1. Credits to the private sector should be directed at priority sectors(manufacturing and

agriculture) for its impact to be felt in the economy. Government regulation should be tilted

towards encouraging private sector lending, with greater incentives for these sectors.

Government should also endeavor to provide a stable macroeconomic environment. A stable

macroeconomic environment is crucial for the development of the financial markets and

provision of efficient services needed to support the real sector for economic development.

Domestic and foreign investors will be most unwilling to invest in an economy where there

are instability in macroeconomic measures of uncertainty namely, interest rate, exchange rate

and inflation. Sound macroeconomic environment and sufficiently high income levels-GDP

per capita, domestic savings, and domestic investments-are determinants of financial system

development in emerging markets. Infrastructural developments are also crucial to ensure

72

that borrowed funds are channeled to production activities and not providing basic amenities

like access roads and power generation.

2. Effort should be made to reduce interest rates on deposits, which invariably is making

investible funds more expensive and fuelling inflation. Policies geared at stifling investible

cash of banks should be relaxed in order to encourage expanded lending activities to the

private sector. On the other hand, Banks should consciously engage in developmental

lending, with a view of promoting economic growth and not just profit. Lending to priority

sectors may not be as profitable as lending to commercial / trading entities, however lending

to the latter at such exorbitant interest rates will fuel inflation and weakens the positive

impact on economic growth. Government should also ensure that Banks interest expenses

are reduced, as this will also cause a reduction in interest rates charged borrowers.

Operational expenses are often high due to infrastructural and technological

underdevelopment in the country. Banks often justify the huge margin between lending and

deposit rates (above 15% p.a.) with operational and insurance related expenses. However,

effort should be made to streamline and harmonise interest rates on deposit to curb the

current practice of offering very high rates to attract depositors funds.

3. Growth in Liquid Liabilities of Banks is an indicator of size and capacity. Our study shows

that the growth in Liquid Liabilities of Banks has impacted positively and significantly on

economic growth in Nigeria, for the period under study. There is also a shared responsibility

between Government and Banks to ensure that these recorded growth in absolute figures are

also reflected in real terms. Government is expected to also come up with policies that

encourage expanded lending based on new capacities. There is urgent need for government to

ensure financial stability and ultimately, protection of depositors funds and investors asset.

The need for regulation and supervision of the financial system arises because financial

intermediaries and markets, like firms, are subject to asymmetric information. A key

objective for financial regulation and supervision is to increase the effective functioning of

the financial system in order to enhance the ability to absorb shocks and maintain financial

stability. Financial instability occurs when shocks to the financial system interfere with the

payment system and impact on the ability for normal business and trade to occur. It may be

caused by the collapse of a systematically important financial intermediary or other shocks.

Any disruption in the financial system can potentially have severe real economic effects.

73

5.4 Recommendation for Further Study

For further studies, we recommends that:

a) Bank credit is recommended, in the area of comparative analysis of Bank Credit to

Manufacturing, Bank Credit to Agricultural and Bank Credit to the commercial / trading

sectors of the economy. This study should give greater insight of the exact values of

credit to these sectors and provide a basis for comparing their inter-relationship and

impact or impact on the overall economy. Additionally, further study may also research

further on loans to companies and loans to consumers.

b) Similarly, while it is clear that a strong empirical link exists between financial depth and

economic growth, going from that to determining how to translate size and how precisely

increase in Liquid Liabilities will benefit growth is still relatively uncharted territory. A

start in this direction has been made, but much remains to be done. Further individual

country analysis should prove extremely fruitful in addressing the open questions.

c) Further study is also recommended on interest rate margins and their contribution to

overall profitability. It is also essential to obtain the relevant data for more countries as to

make the necessary cross-country comparisons. This should also prove fruitful in

answering any unaddressed questions.

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APPENDIX Result of SPSS Regression Analysis: Hypothesis 1


PRIVATE

SECTOR

CREDITa

. Enter

Model

1

Variables

Entered

Variables

Removed Method



Model Summary

.870a .756 .736 9360080.40

Model

1

R R Square

Adjusted

R Square

Std. Error of

the Estimate


ANOVAb

3.3E+015 1 3.264E+015 37.253 .000a

1.1E+015 12 8.761E+013

4.3E+015 13

Regression

Residual

Total

Model

1

Sum of




Coefficientsa

3549722 3758069 .945 .364

4.044 .663 .870 6.104 .000

(Constant)

PRIVATE SECTOR

CREDIT

Model

1

B Std. Error

Unstandardized

Coefficients

Beta

Standardized

Coefficients

t Sig.


81

SPSS Regression Result: Hypothesis II


GROWTH

IN LIQUID

LIABILITIE

Sa

. Enter

Model1

Variables

Entered

Variables

Removed Method



Model Summary

.912a .833 .819 7758686.49

Model1

R R Square

Adjusted

R Square

Std. Error of

the Estimate

Predictors: (Constant), GROWTH IN LIQUID

LIABILITIES

a.

ANOVAb

3.6E+015 1 3.593E+015 59.683 .000a

7.2E+014 12 6.020E+013

4.3E+015 13

Regression

Residual

Total

Model

1

Sum of


Predictors: (Constant), GROWTH IN LIQUID LIABILITIESa.


Coefficientsa

1051980 3278161 .321 .754

3.737 .484 .912 7.725 .000

(Constant)

GROWTH IN

LIQUID LIABILITIES

Model

1

B Std. Error

Unstandardized

Coefficients

Beta

Standardized

Coefficients

t Sig.


82

SPSS Regression Result: Hypothesis III


NET

INTEREST

MARGINa

. Enter

Model

1

Variables

Entered

Variables

Removed Method



Model Summary

.729a .532 .493 12978060.4

Model

1

R R Square

Adjusted

R Square

Std. Error of

the Estimate


ANOVAb

2.3E+015 1 2.294E+015 13.620 .003a

2.0E+015 12 1.684E+014

4.3E+015 13

Regression

Residual

Total

Model

1

Sum of




Coefficientsa

-1E+007 1E+007 -1.445 .174

49.715 13.471 .729 3.690 .003

(Constant)

NET INTEREST MARGIN

Model

1

B Std. Error

Unstandardized

Coefficients

Beta

Standardized

Coefficients

t Sig.


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