Liquidity Management Measures and Bank Performance in Nigeria

LIQUIDITY MANAGEMENT MEASURES AND BANK PERFORMANCE IN NIGERIA

Abstract

The paper is on the effectiveness of liquidity management measures on bank performance in Nigeria. The reoccurring liquidity crisis experienced in the industry in time past has raised doubts as per the effectiveness of existing liquidity management measures in enhancing bank performances. Also, dearth of empirical work in this regard all necessitated the need for this paper. Time series data for the research was sourced from the Central Bank of Nigeria Statistical Bulletin boardering on Banks Performing Loans and Advances (PLA), Bank Reserves (RSV), Investment in Government Securities (GOVS), Domestic InterBank Claims (DIBC) and Foreign Claims (FORC). The Augmented Dickey Fuller (ADF) Unit root test, Johansen Co-integration test, Pairwise Granger Causality test, Vector error Correction test and diagnostic tests (Heteroscedasticity, Multicollinarity, Normality and Autocorrelation) of the E-view 7.1 econometrics tools were used for data analysis. The result of the study indicated the existence of causality and long-run relationship between liquidity management measures and bank performances in Nigeria. This was further confirmed by the Vector Error Correction Model that was appropriately signed with a significant t-static. The ordinary least square (OLS) estimation found all the measures to be statistically significant and of positive impact except Foreign Claims (FORC) that was insignificant. Thus, the paper was of the view that policies that encourages existing liquidity management measures should be sustained and non-functional measures reviewed to strengthen their effectiveness.
Keywords: Liquidity Management, Measures, Bank Performance

CHAPTER ONE

1.0 INTRODUCTION

1.1 BACKGROUND TO THE STUDY

The management of liquidity in the Nigerian economy attracted so much attention when the Central Bank of Nigeria around the month of April, 2001 caused the Naira to be devalued by 5 per cent within two days at the Interbank Foreign Exchange Market(Chizea,2001).

Liquidity management in financial context means the degree of convertibility to cash, and company or banks  must at all time maintain a reasonable level of cash and near cash asset to enable it pay its maturity and unforeseen obligation(Nwezeaku,2006).

According to Anyanwu (1993), Liquidity management also means the ease with which assets can easily be convertible to cash without loss and hence the bank’s ability to pay its depositors on  demand. It is judged by the ease with which an asset can be exchanged for money. In order wards, Liquidity is the ability to convert an asset to cash with minimum delay minimum loss.            Liquidity management involves controlling the level of money supply in the economy in order to maintain monetary

stability. A relatively high level of liquidity subsisted in the money market, arising mainly from improved statutory allocations to the three tier of government, following higher oil revenue, monetization of excess crude receipts, population census and preelection spending (CBN, 2006).Also, Chizea (2001) said liquidity management is the determination of the quantum of liquidity that would be consistent with the optimal level of output and prices. It seeks to ensure the attainment of short term objective of monetary policy, that is, the maintenance of desire of monetary aggregate of stock of money supply, interest rate and inflation.

Liquidity management is referred as the speed and ease with which as asset can be converted to cash without loss of value. The more illiquid an asset is the more loss of value when converted to cash. Any business in financial distress like banks, normally grind to halt. However, since liquid assets are less profit able, there is need to strike a balance as the quantity to hold at any given time (Akujuobi, 2006).

Thus, liquidity and profitability are two considerations governing a bank’s investment and since they conflict, it is not easy to reconcile them. If a bank management is interested in profit making, this might lead them into investing in assets which are highly remunerative but which may not earn be easily converted to cash. It may not earn much profit because safe investments are not very remunerative. Hence, the secret of sound banking lies in the maintenance of adequate reserves while at the same time making profit since one of the objectives of the banker is to maximize his profit within certain strict limitations (Anyanwu,1993; Jhingan,2004)

The banks should always contain an adequate level of liquid assets. These liquid assets are the most important balance sheet items which have the capability to maintain the confidence of depositors which the most valuable intangible asset of the deposit banking business (Civelek, 1987 as in Anyanwu, 1993). Bank which deliberately or not fail to maintain an adequate level of liquid assets in their portfolio, are likely to create a fear or a loss of confidence among depositors over the safety of their deposits.             According to Bhalla (2005), the ability of banks to meet their financial obligations is usually measured by examining their  balance sheet and relating some or all of its current assets to some or all its current liabilities. Moreover, in maintaining liquidity, there is no specific level of any balance sheet ratio that indicates that the firm is no longer liquid.

Soludo (2006), stated in his contribution to Liquidity  management that at N797.6 billion, the Central Bank of Nigeria met the first (PSI) policy support instrument target of a maximum of N800 billion for base money in June 2006. However, in August, it was N838.2 billion, above the third quarter target of N810.o billion. To moderate the growth of liquidity and ensure that monetary targets under the PSI were met, several monetary policy measures were undertaken. The measures included the introduction of non-discountable Special Nigerian Treasury Bill (NTBS), arising from the shortage of intervention instrument, gradual increase in interest rates at the open market discount window operations to boost public patronage, and allowing deposit money banks (DMBS) direct access to the reverse repo transaction with the Central bank of Nigeria.

Aburime (2008), stated that the recent reforms in Nigeria may not help to improve bank profitability and stability. His study sought to econometrically identify significant macroeconomic determinants of bank profitability. Using a panel data set comprising 1255 observations of 154 banks over the 1980-2006 period and macroeconomic indices over the same period. In the study, the regression results reveal that real interest rates, inflation, monetary policy and exchange rate regimes are significant macroeconomic determinants of bank profitability in Nigeria.  Therefore, this research attempt to find out the impact of Liquidity management on Nigerian banks Performance.

1.2 STATEMENT OF THE PROBLEM

According to Chizea(2001),liquidity of an economy can be likened to the blood  in the vein of an animal. Just as blood sustains the life of an animal, liquidity of the financial system sustains the life of an economy. Also, Nzotta (2004) said liquidity is needed for profitable operations, especially to sustain the confidence of depositors. It helps in meeting short run obligations, keep the doors of the bank open, and also avoid a run on the bank. He opined that no bank can survive on the short run without

adequate liquidity.

The maintenance of sufficient liquidity and monetary target to permit immediate payments to demand depositors, investment risks that are compatible with safety and ready availability of funds to carry out day to day banking activities or operations has been

our paramount interest (Anyanwu, 1993). Theoretical determination of liquidity management are the subject of many articles over the years (example, Chizea 2001; Aburime 2008;

Akujuobi, 2006). Aburime (2008) observe that real interest rate, inflation monetary policy and exchange rate regimes are significant macroeconomic determinants of bank profitability. Simultaneously investigating on liquidity management, Chizea(2001) noted that macroeconomic stability has made liquidity management a nightmare In this regard one would wish to recall the measures included in the reduction in maximum ceiling of credits growth allowed banks, the special deposit requirements against outstanding external payments arrears to central bank of Nigeria by banks, the use of stabilization securities for reducing the excess liquidity management .Additional liquidity management on banks performance in Nigeria for the period 1985-2004 can add to this body of research.

However, Nwezeaku (2006) opined that illiquidity is worse than insufficient profit from operations, banks need to maintain liquidity in order to satisfy the CBN reserve requirement and to spread risk across the asset portfolio of the banks. There is, therefore, the problem of how the Banks in Nigeria manage their assets so as to strike a balance between performances in form of profitability and still have safety liquidity confers.

1.3 THE OBJECTIVE OF THE STUDY

This study generally aims to find out how Liquidity management in Nigerian banks affects their profitability.

The specific objectives of the study however include:

• To examine the impact of Liquidity ratio on the

profitability of Nigerian deposit banks.

• To find out how the maintenance of adequate

cash reserve ratio by Nigerian deposit banks

affects their profitability.

• To evaluate properly the impact of Loan- deposit

ratio on the performance of Nigerian deposit banks.

• To determine how the loans and advances of the Nigerian deposit         banks        relates       to     their

profitability.

       1.4      RESEARCH QUESTIONS

Attempts shall be made to address the following questions in this research effort:

• How does liquidity ratio help to maintain the relationship between liquidity and profitability?

• What is the effect of cash reserve ratio on commercial banks profitability in Nigeria?

• To what extent has loan-to-deposit ratio affect banks

profitability in the Nigerian banking industry?

• How does loans and advances help in reconciling the liquidity and profitability of banks?

1.5 RESEARCH HYPOTHESES

The following hypotheses are therefore formulated for the study:     H₀₁ There is no significant relationship between Liquidity

ratio and profitability of deposit banks.

H₀₂ There is no significant impact of Cash reserve ratio on                    Banks profitability.

H₀₃   There no significant impact of Loan-to-deposit ratio

on Profitability of deposit banks.

H₀₄ There is no significant impact of Loans and advances

on profitability of deposit banks.

1.6         JUSTIFICATION OF THE STUDY

The findings of this study will be significant in the following ways:

1. The management staff of the bank would improve on their banking practice. An improvement on the banking operation would help the customer to have full confidence on banks.

1. A good banking operation encourage customer to deposit or invest to the bank which bring more progress and confidence to the organization.

1. It would also be of immense benefit to management and other people in the banking industries. It would help the banker and banking authorities to improve on their services.

1. The regular payment such as life assurance premium may be also help to improve the banks if the customer authorized the bank to pay the specified amount to the person (or institution) named until the order is revolved in writing.

1. Liquid asset in deposit bank play a very crucial role because banks operate largely with the fund borrowed from

depositors informs of demand and time deposit.

1. Banks are always expected to allocate their fund in such a manner that their portfolio should always contain an

adequate level of liquid assets.

1.7            LIMITATIONS OF THE STUDY

In carrying out this study, problems have been encountered; some of these problems are the problem of getting secondary data, from the local environment, problem of bank giving out their annual reports and some necessary information and also problem of inadequate library materials.

Another limitation was the unavailability of central bank of Nigeria statistical bulletin for easy reach, which would help the researcher to select appropriate variables from the financial statistics for accurate work.

The local environment is ill-equipped with text book, journals and articles on the related topic or subject of study since there is no rich public library and book store that sell useful materials and if at all is found available; the cost of purchase is very high.

Also, the limitation of the study if successfully completed would highlight the extent at which deposit banks in Nigeria have tried to ensure a high level of liquidity management since the introduction of consolidation.

Finally, the limitation of the study is on liquidity management of the research work couple with the stress and limited time would served as a limiting factor, also the assumption that executives to be interviewed may not be easily assessable and in giving sensitive information.

 1.8                SCOPE OF THE STUDY

The scope of the study examined the impact of liquidity management on the banks in Nigeria which has to do with its performance in Nigerian deposit bank. The extent at which banks would be able to management its liquid asset, grant risk loans and increase its profit without going bankruptcy (insolvency). The scope covers the period of 1985-2004.

LIQUIDITY MANAGEMENT MEASURES AND BANK PERFORMANCE IN NIGERIA