Monetary Policy, Capital Adequacy Regulation and Banking System Soundness in Nigeria: Empirical Research Findings

Abstract:     
The purpose of this research is two-fold. First, the study was intended to determine the effects of bank liquidity management practices (monetary policy outcomes) on industry asset quality, measured with the proportion non-performing loans (npls) in the loans portfolio. Second, we also investigated the effects of capital adequacy regulation on selected bank asset quality and efficiency measures. Relevant data were generated from the Central Bank of Nigeria (C.B.N.) and Nigeria Deposit Insurance Corporation (N.D.I.C.) official sources, including the balance sheets of selected Nigerian quoted banks. With the estimation of eight multiple regression equations, we found that the use of the minimum liquidity ratio (MLR) is irrelevant in controlling industry npls. The objective of controlling banking sector liquidity in the Nigerian industry with the MLR may rather increase industry npls and culminate in high risk concentrations. The cash reserve ratio (CRR) is a more effective tool in controlling the level of npls in the industry as a whole and the distressed banks in particular. As the ratio of equity to loans advances increases, we should expect the classified loans ratio to decrease and asset quality to rise, and vice versa. Under regimes of rising equity-to-total-assets (ETA) ratio, we should expect the loan loss reserves ratio to fall, and vice versa.

Keywords: Bank liquidity ratio, Cash reserve ratio, Capital adequacy, Non-performing loans, Distressed banks

JEL Classification: E52, E58, G21, N27

Accepted Paper Series