e-sRC

CHAPTER ONE
INTRODUCTION
1.1. Background to the Study
Finance remains crucial and indispensable to the investment and capital formation
activities of the private sector – considered as the engine room of the economy (AfDB,
2011), particularly, in developing economies like Nigeria. Adequate
finance,therefore,remains the life blood of the private sector without which working
capital formation and private investment are stifled, emergence of new businessesis
rendered impossible, existing businesses are deprived of the desired growth and
expansion, and ultimately, economic development and progressbecomes unachievable.
This is the reason why scholars such as Schumpeter (1911) and Levine (1997) are of the
opinion that strong financial development or inclusiveness in an economy, that supports
private sector initiatives, is a precursor for a strong and virile economic growth. There is
alsoa strong consensus among studies that credit to the private sector is an important
mechanism through which financial development matters for economic growth (Akinlo &
Oni, 2015).
There are basically two broad finance sources opened to the private sector: internal and
external. The inadequacies of internally (or self) generated funds to sustain the operation
of the private sector necessitated the need for external sources of funding. Various
external sources of fund are available to the private sector with the advent of financial
system. These include stock or equity market. bond market, leasing companies, venture
capital and money market such as banking institutions. The banks, deposit money banks
(DMBs), in specific, however, remains the major source of funding to or financier of the
private sector in developing economyin Africafor several reasons among which are as
rightly reported by the African Development Bank (AfDB) (2011):
Most alternative external sources of finance to bank credit such as stock
exchanges, bond markets, leasing companies, and venture capital providers,
remain underdeveloped in Africa. Leasing finance, for instance, accounts for less
than 2 % of gross fixed capital formation of most African countries and remains
underdeveloped compared to other regions. Similarly, bond and stock markets
rarely exist and when they do, they lack liquidity. These low penetration rates
result from the poor level of financial sector development, dominance of banks in
the financial sector and companies’ lack of familiarity with these sources of
funding.
DMBs in the performance of the intermediation role of mobilising funds, otherwise
known as deposits, from the surplus unit of the economy and channelling such deposits
into productive investments,championed by the private sector, remain dominant among
financial institutions, in the provision of the much-needed external source of funds to the
most active sector of the economy in Africa, Nigeria inclusive (Assefa 2014;
Emmanuel,Abiola, and Anthony,2015; Marijana, 2009). These financial supports are
often in form of loan advances and overdraft for a short, medium or long period which
are capable of establishing a claim payable in the near future (Trading Economics, 2016).
Studies have shown that a strong and inclusive financial system, characterised by
efficient provisioning of bank credit, has a positive and significant effects on output and
employment opportunities (Emmanuel, et al, 2015).The critical role played by the private
sector in an economy, cannot afford to be down played with lack of funds. The
immeasurable achievement of the private sector at economic endeavourshas endeared and
compelled the federal government of Nigeria, in recent past, to embark on some
important reforms in the economy aimed at ensuring maximum involvement and
participation of the private sector to drive asustainable growth in the economy. For
instance, the privatisation and commercialisation Acts of 1988 and the Bureau of
Enterprise Acts of 1993, which objectives were aimed at full or partial relinquishing of
erstwhile held government (or its agencies’) equity or other interests in public assets to
the private sector, had their sole aim at strengthening the role of the private sector in the
economy to guarantee employment and capacity utilisation. Therewere also an attestation
to, and recognition of, the private sector’s capacity at efficient and effective resource
utilization and high propensity to achieving desired economic goals.
Several other reforms embarked upon by the apex bank, targeted at banking financial
institutions in Nigeria, DMBs in particular, to put them on solid footings and
repositioning them to better perform their primarily role of financial intermediation, had
its primary goal aimed at entrenching a sound and enduring financial foundation that is
supportive and capable of leveraging the activities of the private sector.According to
Sanusi (2012), the bank is the central nervous system of any market economy; the
recapitalisation policy in 2008/2009 became necessary in order to implant a sound
banking system that supports economic development. Justifying the objectives of the
recapitalisation policy, Sanusi (2012) stated that:
The real sector (represented by the private sector), which is the productive sector
of the economy, relies heavily on the banking sector for credit. Government also
raises funds through the banking system to finance its developmental programmes
and strategic objectives. It is in view of these strategic roles of the banking system
to national economic development that the issue of a sound banking system,
through proactive reforms becomes imperative.
Available data on private sector credit financing by DMBs in Nigeria,however, has
indicated that despite all the reformations in the banking sector to enhance private sector
credit (PSC) financing, PSC funding by banks has remained inadequate relative to
globally accepted index. According to Global economy report, as cited by Assefa (2014):
a country is said to have a well-developed financial system, if itsbanking credit to
the private sector (as percentage of GDP) accounts for 70% or above. In some
very advancedeconomy it is even higher than 200%. However, in some poor
countries, the amount of credit could be lowerthan 15% of GDP.
Figure 1.1.below shows the trend in private sector credit relative to GDP in Nigeria for
the period 1981 to 2015 (extract from CBN 2015 Statistical bulletin).
Figure 1.1. Total DMBs private Sector Credit (PSC) as percentage of GDP
Except for 2009, where private sector credit financing to GDP in Nigeria was 21.83%, it
has always been lower than the 15% expectedfor poor countries as noted in the study by
Assefa (2014).
According to Abuka andEgesa (2007) one of the main advantages of financial reform is
the growth of credit expansion to private sector.Figure 1.2. below shows that deposit
money banks credit to private sector initially had suffered sluggishness from 1981 until
late 90s when some growth became noticeable. The year 2000 to 2015 witnessed a
massive growth in aggregate private sector credit of about 2,467% (increase from
N527.95 billion in 2000 to N13,568.88 billion in 2015). The growth was an aftermath
effect of the different reformations carried out by the Nigerian apex bank, CBN, on the
banking sector in the period, in order to reposition them to better support the investment
needs of the private sector.
Figure 1.2. DMBs’ total Private Sector Credit in Nigeria from 1981 to 2015
Despite this growth rate on aggregate, impact on economic growth has remained
unnoticeable as private sector credit relative to gross domestic product (GDP) fluctuates
between 7.65% in 2000 and 14.41% in 2015 with the highest rate of 21.83% recorded in
2009; immediately after the recapitalisation of banks in 2008.
The analysis above goes to show that for Nigeria to rub shoulders in terms of economic
growth and development with notable economies in the world, a vibrant private sector
credit financing enabling environment must be ensured and adequately
maintained.Internal and external assessment of factors capable of constituting
impediments to the ability of the DMBsin Nigeria to addressing the financial challenges
of the private sector should be carried out, identified and addressed appropriately in order
to unlock Nigeria’s potential for a sustained and inclusive growth.
1.2. Statement of Research Problem
Finance, the life blood of any private investment has remained inadequate and at most
times inaccessible to the private sector, not only in Nigeria but also in all other
developing economies in Africa to be specific. “Access to finance remains problematic in
Africa, particularly for micro, small and medium enterprises (MSMEs), which
constitutesmost of Africa’s private sectorAfDB (2011
The problem of financial underservice to the productive unit, in an economy,has attracted
the attentions of many scholars who with a view to finding a lasting solution have carried
out several studies in this area of finance.Studies show that efforts of the DMBs to
supplying the desired credits to the private sector are often impaired by factors which
could be specific to the DMBs as institutions, and/or extraneous to the DMBs.Several
DMBs specific factors have been identified by studies to influence the supply of credit to
private sector by DMBs. These range from balance sheet to off-balance sheet factors.
Among the balance sheet factors include volume of deposit, specifics of domestic and
foreign investments, liquidity preference, level of foreign liabilities, level of
capitalisation, claims on public sectors, non-performing loan, lending interest rate, and
deposit rate, etc. (Akinlo & Oni, 2015; Assefa, 2014;Guo & Stepanyan, 2011;
Olokoyo,2011; Kashif & Mohammed, 2013), while the off-balance sheet factors include
location of the bank, ownership structure, sectoral preference, and years of operation in
the industry (Haron, 2004).
The extraneous factors that studies have confirmed to be capable of influencing bank
credit supply are classified into two, namely: microeconomic factors and monetary policy
factors. While macroeconomic factors are the factors that affect the general economy and
over which no bank entity has control, such as economic growth rate, broad money
supply, exchange rate, level of unemployment and rate of inflation, property
prices(Hofmann, 2004; Mahmoud, 2014; Strike, 2015); factors such as the cash reserve
ratio, window rate, CBN lending rate to banks, special directives on other banks
operational matters (Jegede, 2014)constitute monetary policy – instruments with which
the central bank regulate the banks.
Whereas the effects of some of these variables on bank credit supply have been
established by previous scholars (Akinlo & Oni, 2015; Assefa, 2014; Guo & Stepanyan,
2011; Kashif & Mohammed, 2013; Samah & Ahmed,2014,Sharma & Gounder,
2012;Sogut, 2008; Strike, 2015), the studies are yet to examine the long run behaviour or
effect of each of these variables on a specific segment of banks credit portfolio, such as
the private sector credit.Understanding of the long run effects of the selected DMBs
specific credit supply factors on private sector credit financing in Nigeria will foster the
long run credit policy direction of the DMBs in Nigeria and ultimately the speed of
growth in the economy.
Some banks specific credit supply factors such as liquidity rate (or liquid assets) and
deposit volume, though considered in conjunction with extraneous factors in previous
studies, have been found to be used frequent in almost all studies, both in Nigeria and
abroad, and often found to have significant impact on bank credit supply (Imran &
Nishatm, 2013;Olokoyo, 2011). Other banks specific credit factors such as foreign
liabilities, public sector credits and investment portfolio have been rarely considered by
studies in Nigeria, except investment portfolio which Olokoyo (2011); andOlusanya,
Oyebo, and Ohadebere (2012)examined, alongside other bank credit supply factors, to
determine its effect on credit supply by DMBs in Nigeria and found to have a
significantlynegative relationship.
Foreign liabilities had been found to have significant effect on credit supply in foreign
studies conducted by Guo and Stepanyan (2011), and Kashif and Mohammed (2013) in
two different countries. Globalisation has made it possible for DMBs to access funds
beyond the shores of their operation in order to augment domestic funds mobilised to
support their operation; although not without foreign exchange risks that must be guarded
against.Studies on Public sector credits or claims on advances to the government by
banks, have shown that it crowds out or negatively impacts private sector credit financing
by banks, hence impedes appreciable investments by the private sector (Samah &
Ahmed, 2014; Sogut, 2008; Yuga, 2016). AfDB (2011) also shared in this concern stating
that governments saddled with chronic budget deficits borrow frequently and heavily,at
an attractive returns and low risk level on local money markets, thereby reducing banks’
appetite to lend to the private sector.
Thisresearch study is conducted to examine the combined and individual long run effect
orcausality of the selected deposit money banks credit supply factors, comprising of the
two most frequently used (i.e. deposit volume and liquid assets) and the three rarely used
factors (investment portfolio, foreign liabilities, and public sector credit) by studies in
Nigeria, on private sector credit financing in Nigeria.
1.3. Research Questions:
The basic questions the research study aims to answerare:
i. In the in the long run, does DMBs specific credit supply factors causePrivate
Sector Creditfinancing in Nigeria?
ii. To what extent does Deposit Money Banks specific credit supply factors
impact on Private Sector Credit in Nigeria?
Other specific questions are that: In the long run,
iii. CanDMBs Deposit volume cause Private sector credit financing in Nigeria?
iv. Does DMBs Liquid asset cause Private sector credit financing in Nigeria?
v. Does DMBs Public sector cause Private sector credit financing in Nigeria?
vi. CanDMBs Investment portfolio cause Private sector credit financing in
Nigeria?
vii. Is DMBs Foreign liability able to cause Private sector credit financing in
Nigeria?