The Impact of Monetary Policy on Commercial Banks in Nigeria (a Case Study of First Bank of Nigerian)
Chapter One
Objectives of the Study
The general objective is to determine the impact of monetary policy on the performance of Deposit Money Banks (DMBs) in Nigeria.
While the specific objectives of the study are as specified below:
- To determine the impact of Cash Reserve Ratio (CRR) on the performance of DMBs in
- To determine the impact of money supply (M2) on the performance of DMBs in Nigeria
- To determine the impact of Central Bank Exchange Rate (EXR) on the performance of DMBs in Nigeria.
- To establish the impact of Monetary Policy Rate (MPR) on the performance of DMBs in Nigeria
- To determine the moderating impact on the relationship between monetary policy and performance of DMBs in Nigeria
CHAPTER TWO
LITERATURE REVIEW
Introduction
This chapter presents the literature review of the study; this includes the theoretical review which covers the conceptual framework; the theoretical construct, the relationship between monetary policy and performance, the determinant of financial performance, the Instruments of monetary policy in Nigeria, the Nigerian banking sector and the empirical review.
Conceptual Framework
The conceptual framework is centered on the concept of performance and measurement and monetary policy.
The Concept of Financial Performance and Measurement
According to Kenton (2020), financial performance is a subjective measure of how well a firm can use assets from its primary mode of business and generate revenues. He added that the term could be also used as a general measure of a firm’s overall financial health over a given period. Corporate Financial institute sees financial performance as a complete evaluation of a company’s overall standing in categories such as assets, liabilities, equities, expenses, revenue and overall profitability which is measured through various business- related formulas that allow users to calculate exact details regarding a company’s potential effectiveness; while Didin, Jusni and Mocklas (2018) see it as the achievement of the company financial performance for a certain period covering the collection and allocation of financial measure by capital adequacy, liquidity, solvency, efficiency, leverage and profitability.
The key ratios commonly used by bank analysts t o evaluate different dimensions of financial performance includes profitability, capitalization, asset quality, operating efficiency, liquidity and interest sensitivity. However, the commonly used ratios to measure performance are the profitability ratios which include: Return on Equity (ROE), Return on Assets (ROA), Net Interest Margin (NIM), Profit Margin and Asset Utilization. The first three are commonly used by researchers (Machiraju, 2008).
Return on Equity (ROE) indicates the rate of return on equity capital and is significant in the context of the objective of maximization of share value. Equity is the sum of share capital, preferred shares, paid-in surplus, retained earnings and reserves for future contingencies; it is a financial ratio that is concerned with how much profit a company generates relative to the total amount of shareholders’ equity invested. It is found on the balance sheet.
Any business with a high return on equity is more likely to be one that is capable of generating cash internally. Thus, the higher the ROE the better the company is in terms of profit generation and by extension, its performance. Machiraju (2008) explained it as the ratio of Net Income after Taxes divided by Total Equity Capital. It is the rate of returns on the funds invested in the bank by its shareholders. ROE reflects the effectiveness with which a bank management is utilizing shareholders’ funds. therefore, it can be inferred from the above statement that the better the ROE the more effective the utilization and management of the shareholders capital.
Return on Assets (ROA) measures the ability of management to utilize the real and financial resources of the bank to generate income and is used to evaluate management.
The Return on Assets (ROA) is another financial ratio that is used to measure the financial performance of a firm. It is a ratio of Net Income to its Total Assets (Machiraju, 2008).
It measures the ability of the firm’s management to generate profit or net income by utilizing company assets at their disposal. It may also be said to indicate how the resources of the company are efficiently put to use to generate income. According to Wen (2010), a higher ROA indicate that the company is more efficient in using its resources while the reverse is the case with a lower ROA. Therefore, high ROA shows better performance than low ROA.
The performance measure that indicates the difference between the total interest income the bank generated from the total interest expenses the bank incurred or paid to depositors and other lenders is called Net Interest Margin (NIM ) . It is usually expressed as a percentage of what the financial institution earns on loans in a specific time period and other assets minus the interest paid on borrowed funds divided by the average amount of the assets on which it earned income in that time period (the average earning assets). Machiraju (2008) stated that it is the net interest income divided by total earnings assets.
Net interest margin measures the gap between the interest income the bank receives on loans and securities and interest cost of its borrowed funds. It is a reflection of the financial cost of institution intermediation services and can be partially regarded as the financial performance of the bank before other costs. The higher the net interest margin, the more stable and better the bank is in terms of profitability and performance. However, according to Wen (2010), a higher net interest margin could be a reflection of a more riskier lending practices associated with substantial loan loss provisions.
CHAPTER THREE
RESEARCH METHODOLOGY
Introduction
In this chapter, the details of the methodology used in this study is provided. It covers areas such as the research design, target population, data collection instruments and data analysis used in the study.
Research Design
Cooper and Schindler (2009) defined research design as the blueprint for data gathering, measurement and its estimation in a research. According to Rajendra (2008) a research design refers to the blueprint which guides on how data are collected and analysed thereby bringing the importance of the research.
The study adopted causal research design. Causal research design is employed in a research to establish cause and effect on relationships among research variables. Therefore, causal research design was appropriate for this study as the study sought to determine the effect of monetary policy on the performance of deposit money banks (DMBs) as well as the moderating effect of bank size on the relationship between monetary policy and performance of commercial banks in Nigeria.
Population and Sampling Design
Cooper & Schindler (2009) opined that a population refers to the total collection of objects or elements that are of interest to a researcher which will be used for making inferences. Therefore, the population of this study will include all the DMBs in existence between 2013 to 2019, which is also regarded as the scope of the study. Similarly, Mugenda and
Mugenda (2003) submitted that when the population is small or when it is convenient to include the entire population in the study, census sampling is used. Furthermore, Kothari (2011) stated that the validity of data is guaranteed in a census study. Consequently, both type I and II errors are eliminated in a study where census sampling is employed. This study therefore focused on the published financial statements of the 17 Deposit Money Banks in existence between 2013 and 2019.
CHAPTER FOUR
DATA ANALYSIS, PRESENTATION AND INTERPRETATION
Introduction
In this chapter, the results of the finding of the study are analyzed, presented and interpretated. All the result are strictly analyzed by Stata
CHAPTER FIVE
SUMMARY, CONCLUSIONS AND RECOMMENDATIONS
Introduction
This chapter is centered on the summary, conclusion, relevant policy recommendations from the study and suggestion for further research.
Summary of the Study
The study was carried out to determine the impact of monetary policy on the performance of Deposit Money Banks (DMBs) in Nigeria; which was examined through the specific objectives of determining the impact of Cash Reserve Ratio (CRR), money supply (M2), Exchange Rate (EXR) and Monetary policy rate on the performance of DMBs in Nigeria; as well as determining the moderating effect on the relationship between monetary policy and performance of DMBs in Nigeria.
In order to determine these impacts, the study adopted the Agency Theory, Market Power Theory and Structural Contingency Theory to x-ray organisations’ performance and the Classical Theory, Keynesian Theory and the Monetarist Theory to appreciate the impact of policy. Causal research design was adopted for the study where the target population of the study comprised of all the 17 Deposit money banks in Nigeria that operated within the scope of the study (2013 to 2019). Panel regression analysis model was employed for the empirical analysis of the study.
Findings from the study were strictly based on the hypotheses and objectives of the study. The results of the investigation showed a negative and significant impact of MPR and CRR on the performance of DMBs in Nigeria. consequently, the null hypotheses of no impact were rejected. Similarly, money supply (M2) had a very significant positive impact on the performance of DMBs and as such, the null hypothesis of no impact was equally rejected. However, EXR revealed a negative insignificant impact on DMBs performance in Nigeria and the null hypothesis of no impact was not rejected.
Furthermore, the findings of the study disclosed a weak significant moderating effect of bank size on the relationship between monetary policy and financial performance of DMBs in Nigeria, therefore, the null hypothesis was not rejected at the 5% level of significance but was rejected at the 10% level of significance.
Conclusion
DMBs are highly regulated and thus operate within the framework of monetary policy and prudential guidelines which are usually determined by the monetary authority. In Nigeria, the responsibility for the administration of monetary policy is saddled on the shoulder of the Central Bank of Nigeria (CBN). Changes in the monetary policy, which is usually applied to the monetary policy instruments by the CBN, over the years, had impacted and has continued to impact the performance of DMBs either positively or negatively. Consequently, the investigation of the impact of monetary policy on the performance of DMBs in Nigeria became necessary.
The study’s conclusion based on the result of the findings are that Monetary Policy Rate (MPR) and Cash Reserve Ration (CRR) individually has a significant negative impact on the performance of DMBs in Nigeria. This implies that increase in MPR and CRR has a negative effect on DMBs performance since it will make lending, the major activities of DMBs, become costly as a result of reduction in the availability of fund to lend out (due to increase CRR), borrowers or banks’ customers will prefer to seek for funds through alternative channels and thus impacts DMBs performance negatively.
The study also concluded that, although exchange rate (EXR) has a negative impact on DMBs performance in Nigeria, but it is not significant. Therefore, DMBs should not focus much attention on EXR since it does not impact performance significantly. However, the impact of money supply is positive and significant. This implies that any increase in money supply makes DMBs to become even more liquid and have enough money to give out as loans at a relatively lower rate and therefore generate more interest income which translate into improved performance.
Furthermore, the study concluded that the moderating variable (bank size) has a weak significant moderating positive impact on the relationship between monetary policy and financial performance of DMBs in Nigeria by reducing the negative magnitude of the MPR and CRR on performance. This implies that the total impact of monetary policy on bigger banks is better than that of smaller banks since it makes them perform better by reducing the negative effect of increased MPR and CRR on their performance. This is by all means attributed to economies of scale.
Finally, the study further concluded that there is a positive interactive impact between bank size and MPR as well as bank size and money supply. The implication is that due to economies of scale, an increase in MPR will lead to improvement in performance if it is followed by an increase in bank size, similarly, increase in money supply will certainly lead to more improvement in performance if it is equally accompanied by an increase in bank size.
Policy Recommendations
The policy recommendations of the study are based on the variables with significant impact on the performance of DMBs in Nigeria and it is divided into policy recommendations relevant to the monetary authority and policy recommendations relevant to DMBs’ management and owners.
Policy Recommendations Relevant to the Monetary Authority
Firstly, the study concluded that money supply (M2) has a significant positive impact on the performance of DMBs in Nigeria. Therefore, the monetary authority should study its changes in money supply to be able to deliberately manipulate it such that it will lead to the achievement of some of its macroeconomic objectives.
Secondly, the evidence from the result disclosed that both MPR and CRR have negative impact on the performance of DMBs in Nigeria. It is therefore recommended that the monetary authority should be cautious on how they go about changing the MPR and CRR since increasing the CRR reduces liquidity and hampered performance; similarly, increasing the MPR makes money more expensive and also affect DMBs performance negatively. If these instruments are well managed, it will rather make DMBs to be very sound and none will be at the verge of liquidation.
Policy Recommendations Relevant to Management and DMBs Owners
Firstly, all the instruments of the monetary policy used in the study are statistically significant with the exception of exchange Management of DMBs should be mindful of every change in the monetary policy, such as money supply, MPR and CRR and act appropriately so that the positive impact of the policy, as seen in money supply, is maximised and eventually leads to improvement in performance while the negative impact in terms of MPR and CRR is minimised such that its impact on performance will be the bearest minimum.
Secondly, owners of DMBs must ensure that their banks are managed by competent, seasoned and qualified management team who understand the monetary policy implications of the monetary authority and are capable of strategizing ways of using any policy change to the advantage of the bank through improved performance; and also having the ability to implement effective and efficient customer service, funds utilizations, good customer relations, etc. to attract and retain large and quality customer base.
Thirdly, since the study concluded that bank size has a weak significant positive moderating effect on the relationship between monetary policy and financial performance of DMBs in Nigeria, the management of DMBs should fully engage in any strategy or activities that will lead to increase in their assets or strive to be optimally leveraged if that will increase their balance sheet size reasonably. Similarly, owners must also ensure expansion and increased equity significantly through right issues.
Suggestions for Further Research
The suggestion for further research is n e c e s s a r y d u e t o t h e i n h e r e n t limitations of the study for not giving a special consideration to listed DMBs, the impact of Covid-
19 disruption, the level of compliance with the prudential guidelines as well as differentiating DMBs in terms of CBN ranking of tier 1 and tier 2 banks which has the tendency of interacting very well with the monetary policy instruments and its impact on DMBs performance. These limitations are attributed to the fact that within the scope of the study (2013 precisely) only a few DMBs were listed in the Nigerian Stock Exchange (NSE); similarly, Covid-19 is also fairly new and not really within the scope of the study. However, the non-inclusion of compliance with prudential guidelines and the differentiation of banks in terms of the CBN ranking are two of the conspicuous limitations of this study. Therefore, the study suggests that further studies in the areas of monetary policy and bank’s performance should also consider listed DMBs, impact of COVID-19, level of DMBs’ compliance to prudential guidelines and the classifications of DMBs in the industry in terms of tiers.
Other suggested topics for further research include “the impact of monetary policy on the financial performance of DMBs listed in the Nigerian stock exchange (NSE)” to determine if the monetary policy impact and magnitude are much statistically significant due to additional strand of regulation by Securities and Exchange Commission (SEC); “the interaction of management competence with monetary policy and its impact on the performance of DMBs in Nigeria” to know if the level of management competence used as a moderating variable interact significantly with monetary policy in impacting on the performance of DMBs; and “the impact of the interaction of monetary policy with the effect of COVID-19 disruption on DMBs performance in Nigeria” to determine if such interaction has any significant effect on the performance of DMBs in Nigeria
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