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IMPACT OF BANK COMPETITION ON THE NIGERIAN BANKING SYSTEM

IMPACT OF BANK COMPETITION ON THE NIGERIAN BANKING SYSTEM

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IMPACT OF BANK COMPETITION ON THE NIGERIAN BANKING SYSTEM

ABSTRACT

In the Nigerian banking sector, this study aims to ascertain the connection between bank competitiveness and banking system stability. In the process of conducting this study, annual data were used. The Nigerian Stock Exchange Fact Book and the Central Bank of Nigeria served as the data’s primary sources.

The complete banks are listed on the Nigerian Stock Exchange along with three macroeconomic factors. The Z-Index is the study’s dependent variable.

The independent variables were the concentration ratios of the top three banks, the top five banks, the Herfindahl-Hirschman Index, the Lerner Index, the gross domestic product,

the interest rate and inflation rate, return on assets, capital structure, operating leverage, and the ratio of non-performing loans to total assets. Panel data regression was used in the study’s analysis.

According to the study, bank stability is strongly correlated with capital structure, CR5, HHI, GDP, interest rate, operating leverage, and Lerner Index.

The analysis found that the only variables significant at the 5% significant level were competitiveness, bank risks, and returns on asset. Competition between banks and ineffective utilisation of the assets of the banks are to blame for the instability in the Nigerian financial industry.

INTRODUCTION

1.1 BACKGROUND OF THE STUDY

Any nation’s economic development depends heavily on the banking sector, which serves as a middleman between lenders and borrowers of financial resources. Additionally, it gives other businesses access to financial resources, which facilitates manufacturing (Kocabay, 2009).

Because any volatility in the banking system has the potential to trigger financial instability and an economic crisis, banking system stability is equally crucial. Therefore, the foundation of a market economy is thought to be a robust banking system.

The banking system is unique from other industries in an economy because of these particular characteristics, which also make it vital to the economy.

The main goal of the formation of the banking system by its owners is to earn and maximise profit because it is a development vehicle in any economy and as such, its stability is crucial.

In the banking system, every bank strives to increase its profits. Each bank engages in heated competition with the others in an effort to increase profits.

Competition is the practise of attempting to outmanoeuvre and defeat rivals in order to get an advantage over them in the same industry. Competition is preferred for the maximisation of social welfare and for the development of Pareto efficiency,

which prevents resource allocation from changing without improving the lot of one actor at the expense of another (Whish, 2005). Allocative, productive, and dynamic efficiency exist in a competitive market environment (Motta, 2004). Competition in the banking system is essential for efficiency and maximising social welfare, just like it is in other sectors of the economy.

For its services to be used wisely, the banking sector needs to be aggressive and effective. In contrast, policymakers work to maintain the banking system’s stability in addition to its competitiveness and efficiency (Kocabay, 2009).

According to Lakers (1999), financial system stability is the ability of the financial system to withstand internal and external shocks, including economic, financial, and political crises.

The existence of excessive macroeconomic fluctuations that alter the macroeconomic costs of disruptions in the system of financial exchanges between households, corporations, and financial institutions can also be used to define it.

A stable banking system, then, effectively distributes resources, evaluates and manages financial risks, and maintains employment levels to stop relative price movements of real and financial assets and stabilise monetary and economic levels.

There is a trade-off between competition and banking system stability since it has long been believed by academics and policymakers that increased competition in the banking system is linked to increased instability. This is what Kocabay (2009) refers to as the “competition-fragility” or “concentration-stability” view.

Numerous research have provided theoretical support for this viewpoint. The proponents of this point of view contend that increased competition reduces profit margins,

which lowers the value of banks’ franchises, decreasing incentives for conservative behaviour and encouraging more aggressive risk-taking in an effort to increase profits (Kocabay, 2009).

There is another school of thought in the literature that contends there is no trade-off between competition and stability in the banking system and that increased competition among banks contributes to the stability of the banking system.

This is what Kocabay (2009) refers to as the “competition-stability” or “concentration-fragility” view. This viewpoint is based mostly on the “risk shifting paradigm,” which contends that a rise in market power and the ensuing increase in lending rates could have a detrimental effect on the stability of banks due to moral hazard and issues with unfavourable borrower selection.

Another argument in favour of the competition-stability viewpoint is based mostly on the advantages of competition for bank regulation and oversight. The last point concerns how concentrated banking systems’ “too-big-to-fail or too-important-to-fail policies” affect banks’ and borrowers’ incentives to take risks and, consequently, the stability of the banking system (Levy and Micco, 2007).

In order to provide a more thorough framework for the investigation of the process by which bank competition enhances banking system stability in Nigeria, this research tries to bring together these many strands of literature.

1.2 STATEMENT OF THE PROBLEM

It is impossible to overstate the value of the banking system in any economy because it connects those who need financial assistance with others who have extra money to spare. Any economy’s growth and development are dependent on the system (Kocabay, 2009).

The number of banks in the system always rises in a dynamic economy where there is expansion and growth. Because there are more banks,

there is competition among them as they try to gain a larger market share and boost their earnings (Whish, 2005). Innovation, expansion, progress, and professionalism are just a few of the benefits of competition.

There is a trade-off between competition and banking system stability, according to a school of theoretical studies that claims that more competition in the banking system is linked to increased instability. According to Motta (2004), this is the so-called “competition-fragility” or “concentration-stability” view.

The so-called “competition-stability” or “concentration-fragility” view, which is held by another school of theoretical studies, maintains that increased competition among banks contributes to the stability of the banking system and that, as a result, there is no trade-off between competition and stability in the banking system (Whish, 2005).

Other theoretical research did not clearly state if competitiveness and stability are linked in a positive or negative way. As a result, in addition to the perspectives on competition-fragility and competition-stability, there is also the notion that the relationship between market structure and the stability of the banking sector is not clear-cut.

They suggested that this relationship is intricate, has significant interactions with national institutional, regulatory, and macroeconomic frameworks, and changes in response to various model specifications (Levy and Micco, 2007).

Surprisingly, increased competition in the banking sector has resulted in increased competition for deposits, which has raised nominal interest rates and ultimately rendered it impossible to ensure lower-cost intermediation. In Nigeria, the prevalence of fraud and non-performing loans has also increased.

The level of management is a key factor in a bank’s long-term survival, and the loss of capable management staff as a result of the challenges of the industry’s quick rise contributed to the instability in the banking sector.

The statement of study problem for this thesis would be to ascertain the relationship between bank competitiveness and banking system stability in the Nigerian banking industry, taking into account the various schools of thought in the literature about bank competition and banking system stability.

1.3.1 OBJECTIVES OF THE STUDY

The study’s goals are to ascertain the relationship between bank competitiveness and banking system stability in the Nigerian banking industry, in accordance with the declaration of research problems. Therefore, the goals are:

1. To ascertain the connection between bank rivalry and the stability of the Nigerian banking sector.

2. To examine the relationship between Nigeria’s banking sector stability and macroeconomic indices.

3. To assess the link between Nigeria’s banking system stability and issues specific to the banking industry.

1.4 RESEARCH QUESTIONS

To help with adequate evaluation of the work and to direct the study, the following research questions have been developed.

1. Is Nigeria’s financial system stable as a result of bank competition?

2. Do macroeconomic indicators in Nigeria contribute to the stability of the banking system?

3. Does the stability of the Nigerian financial system depend on variables peculiar to the banking sector?

1.5 THE STUDY HYPOTHESIS

The following assertion will be examined in light of the thesis’s goals and declaration of research problems: Ho will be used to indicate the null hypothesis.

Ho1. In Nigeria, the stability of the banking sector is unaffected by bank competition.

Ho2. Macroeconomic factors have no appreciable effect on the stability of the Nigerian banking system.

Ho3. The stability of Nigeria’s banking system is not significantly impacted by variables peculiar to the banking sector.

1.6 SCOPE OF THE STUDY

This report emphasises bank rivalry as a safeguard against instability in Nigeria’s banking sector. All of the listed banks in the Nigerian capital market will be used as well as secondary data from the CBN report,

and statistics analysis will be done to determine how these variables are related. To ensure proper evaluation, the study will be evaluated commercially between the years of 2004 and 2013.

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