THE IMPACT OF CAPITALIZATION ON THE BANKING INDUSTRY AND THE NIGERIAN ECONOMY (AN EVALUATION)

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THE IMPACT OF CAPITALIZATION ON THE BANKING INDUSTRY AND THE NIGERIAN ECONOMY (AN EVALUATION)

ABSTRACT

The CBN in its search for a more robust, stronger and stable banking system, reeled out a 13 point reform agenda in July 6, 2004 direct among other things, that operators in the banking sub-sector should raise their capital base to N25 billion with full compliance by December 31, 2005. Although the minimum capitalization segment of the bank consolidation exercise has since been achieved, In the light of the above, the study aimed at evaluating the impact of capitalization on the banking industry and the Nigeria economy. However, the objective of the study include: Examining the extent to which Banking industry capitalization has boosted the Nigerian economy, whether the capitalization of banking industry sector enhanced the banks lending ability, How the capitalization had contributed towards the growth and development of the Nigerian economy and to proffer recommendations, to ascertain this, banking industry capitalization was used to correlate with industrial sector Gross domestic product (GDP). The study covered a period of Eight years. Being an Expo Factor research design, Regression Analysis was used to test the hypotheses using the following variables: Banks lending rates; Banking industry capitalization, manufacturing sector utilization rates, industrial sector Gross (GDP) of the economy. The study found that, the capitalization of banking industry had no significant positive impact on the growth and development in the Nigeria economy as in a bid to survive in the highly competitive banking industry. On the other hand, it was found out that, the capitalization enhanced banks lending ability within the period. However, this was as a result from the test model, although, the capitalization of banking industry cannot enhanced banks lending, if capitalization of Banking industry had no significant positive impact on the growth and development in Nigerian economy.

TABLE OF CONTENTS

pages

Title page i

Certification ii

Dedication iii

Acknowledgements iv

Abstract v

Table of contents vi

List of Tables xi

CHAPTER ONE: INTRODUCTION

1.1 Background of the Study 1

1.2 Statement of Problem 4

1.3 Objectives of the Study 5

1.4 Research Questions 5

1.5 Research Hypotheses 6

1.6 The Significance of the Study 6

1.7 The Scope of the Study 8

1.8 Operational Definition of Terms 8

References

CHAPTER TWO: REVIEW OF RELATED LITERATURE

2.1 Origin of Banking (An Overview) 10

2.2 Banking in Nigeria (A Historical perspective) 11

2.2.1 Origin 11

2.2.2 Other Developments 13

2.3 Bank capital (conceptual issues) 15

2.3.1 The Functions of bank capital 16

2.2.3 Development of indigenous banks 18

2.2.4 The ordinance of 1952 and its effect 20

2.4 The Origin of bank capital legislation in Nigeria 22

2.5 Bank Distress/failure in Nigeria 29

2.5 Banking Regulation in Nigeria 30

2.5.1 The Need for Regulation 30

2.5.2 The Effects of banking regulation in Nigeria 32

2.6 The Issues in Bank Recapitalization in Nigeria 35

2.6.1 Reasons for Consolidation 36

2.7 Bank consolidation: The Nigeria experience 37

2.7.2 Effects of Consolidation 39

References

CHAPTER THREE: RESEARCH METHODOLOGY

3.1 Research Design 44

3.2 Nature and Sources of Data 44

3.3 Population of the Study/size of sample 45

3.4 Model for Analysis 46

3.5 Method of Data Analysis 46

3.6 Limitations of the Study 47

References

CHAPTER FOUR: DATA PRESENTATION AND ANALYSIS

4.1 Data Presentation 50

4.2 Test of Hypotheses 66

4.3 Implications of results 70

CHAPTER FIVE: SUMMARY OF FINDINGS,RECOMMENDATION AND CONCLUSION

5.1 Summary of Findings 72

5.2 Recommendations 73

5.3 Conclusion 74

References

Bibliography

LIST OF TABLES

TABLE 4.1 Presentation of Data for Analysis 50

TABLE 4.1.1 presentation data for analysis 50

Table 4:1.2 Determination of bank Capitalization 53

Table 4.1.3a: Indicator of Banks lending to the manufacturing sector development 54

Table 4.1.4: Indicator of Banks Industry capitalization on the Economy 55

Table 4.1.5: Nigerian Average manufacturing capacity utilization rate and banking industry capitalization 56

Table 4.1.6a Ratio of annual Banks lending to the industry GDP of economy development 57

Table 4.1.7: Gross domestic products (GDP) at current basic price 58

Table 4.1.6b: Industrial sector GDP of the economy and Banks lending 59

Table 4:1.8: Industrial sector GDP and its components 59

Table 4:1:9: Average Banks lending to the economy 60

Table 4:10: Determination of maximization rates percentage and prime rates percentage 61

CHAPTER ONE

INTRODUCTION

1.1 BACKGROUND OF THE STUDY

The ultimate strength of a bank lies in its capital fund. Banking, like any other business, requires adequate capital to function effectively (Nwankwo, 1991:45). Though by nature, banking is a highly leveraged industry, the degree of leverage averaging 88% and 95% in the United States, compared with between 24% and 70% of non financial firms (ibid). life of a bank like any other business, it plays the role of a cushion for losses resulting from crystallization for the various risks a business entity is exposed to (Imala, 2004:74). Adequate capital is required to maintain public confidence by standing ready to absorb unexpected or unusual losses not absorbed by normal earnings (Nwankwo, 1991:45). Thus, it has often been said that the primary function of bank capital is to protect the depositor against loss. How true is this statement?

Although such statements contain an element of truth, they do not adequately express the complete nature of the protective functions of banks capital funds. Most weak looking bank assets can be phased out with relatively little loss given sufficient time, competent management, reasonable earnings, and the workings of the business cycle (Liewellyn, 1999:5). Therefore, the primary function of bank capital is to keep the bank open and operating so that gain and earnings can absorb losses in other words, to inspire sufficient confidence in the bank of the part of depositors and the supervisor so that it will not be forced into costly liquidation. In this sense, capital services to protect the stockholder as much as, if not more than the depositor (ibid).

The other functions of bank capital, is that of purchasing fixed assets and working capital. In fact put in another ways, capital is needed to supply put in another way, capital is needed to supply the working tools of the bank’s banking quarters, equipments needed to begin operations and the working capital.

Thus for a bank to function effectively it needs sufficient and adequate capital. This capital is defined by Central Bank of Nigeria (CBN) 2004:1 as paid – up capital and serves unimpaired by losses. Therefore banks owe some basic responsibilities to their communities. The traditional functions which they render in form of financial intermediation, must be effectively delivered to retain the confidence of their client. The bank must also sustain the interest and confidence of the public by being sufficiently responsive to their needs; housing all maturing obligations avoiding actions that will lead to distress and failure in the system. Banks must also meet the credit needs of their customers and thus sustain the productive process (Nzotta, 1999:282)

Thus bank capital serves tripartite functions viz; protective, regulative and operational. The protective function is to protect depositors against the risk of non – payment of deposits on demands while the regulatory function is that of meeting up with the monetary authorities requirement and helps the authorities assess a banks health. The operational functions has to do with the procurement of what banks need to take off business, which means that the operational function is to kick- start the banking operations.

Meanwhile, in the Nigerian environment bank capital legislation did not start, until the introduction of banking ordinance in 1952.

According to Uche (1998:30), before 1952 there was no legal minimum capital requirement for banks operating in the Nigeria colony. Despite this fact, foreign banks were able to operate in the Nigeria colony without any banking failure. However, things changed with the advent of indigenous banks, most of who were poorly – capitalized, poorly staffed and in most cases interested with fraud. In the opinion of the writer, the above tripartite malaise of the indigenous banks contributed to their failures. This led the colonial government to invite G.D Paton, a consultant for the bank of England, to investigate the Nigeria banking environment with the possibility of introducing regulation. A minimum share capital was subsequently recommended.

The outcome of that legislation was disastrous. This was rendered by “Uche” (1998:31) thus “the resultant effect was that banks that could not meet up with the dead line for re-capitalization failed – mass failure with at least 17 indigenous banks failing in 1953/54. Ever since, there have been recurring bank capital legislations.

The banks were still setting for the new minimum capital requirement, when the big bang Twenty five billion naira (N25bn) capitalization was announced.

This represents an increase of 1250 percent from that of two billion naira (Uche, 1998:31-32. Eke, 2005:1).

What were the reasons for the continual increments have any desired effect on the economy and the industry?

Reports have shown that, with any increment on the banks capitalization, course such inflation that makes nonsense of the increase (if Uche, 1998:32). To what extent has the minimum capital legislation prevented bank failures? How has depositors fared in the aftermath? What are the likely consequences of the recently introduced, N25bn minimum capital legislation? These and many more is what this study is set to enquire.

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