IMPLICATION OF INTEREST RATE ON BANK LENDING IN NIGERIA A CASE STUDY OF ENTERPRISE BANK
(A CASE STUDY OF ENTERPRISE BANK)
A PROJECT WORK SUBMITTED TO THE DEPARTMENT OF BANKING AND FINANCE, FEDERAL POLYTECHNIC ADO-EKITI, EKITI STATE.
IN PARTIAL FULFILLMENT FOR THE REQUIREMENT FOR THE AWARDS OF HIGHER NATIONAL DIPLOMA (HND) BANKING AND FINANCE
TABLE OF CONTENTS
Table of contents
CHAPTER ONE: INTRODUCTION
1.1 Background of the Study
1.2 Statement of the Problem
1.3 Research Question
1.4 Objective of Study
1.5 Statement of hypotheses
1.6 Significance of study
1.7 Scope of the study
1.8 Definition of Terms
CHAPTER TWO: LITERATURE REVIEW
2.0 Literature Review
2.1 Conceptual Framework
2.2 Theoretical framework
2.3 Empirical Framework
CHAPTER THREE: RESEARCH METHODOLOGY
3.1 Study design
3.2 Sources of data
3.3 Population of the study
3.4 Method of data Presentation
3.5 Model Specification
3.6 Model Estimation
3.7 Variable Description
3.8 Sources of data collection
CHAPTER FOUR: PRESENTATION AND ANALYSIS OF DATA
4.1 Empirical Result
4.2 Interpretation of Result
CHAPTER FIVE SUMMARY, CONCLUSION AND RECOMMENDATION
The study aimed to test the effectiveness of the interest rate on bank lending behaviours and how it affects the lending behaviour of Enterprise bank in Nigeria. The model used is estimated using enterprise bank (Heritage) loan and advancement (LOA) and other determinants or variable such as their volume of deposit (Vd) Interest (lending) rate (Ir) between the period of 2006 – 2013. the model hypothesis shows that there is functional relationship between the dependent variable and the independent variables. From the regression analysis, the model was found to be significant and its estimators turned out as expected and it was discovered that bank deposit have the greatest impact on their lending behaviour. The study then suggests that bank should focus on mobilizing more deposits as this will enhance their lending performance and should formulate critical, realistic and comprehensive strategies and financial plan.
1.1 Background to the Study
One of the most regulated sectors in the Nigerian economy is unarguably the banking industry. The reason includes the use of intervention by authorities to short comings of the price fixing mechanism in the capitalist system to ensure what is commercially rational for an industrial bank, approximate social rationality. In the determination of interest rate it banks and their customers are free to negotiate to arrive at the suitable interest rate on both loans and advances. Despite the regulation, a number of challenges still arose. The approach to banking was the use of direct control by the central bank. The degree of compliance varied among banks. At times, withdrawal of privilege or facilities was the case with banks that failed for comply, for example most banks defaulted on ceilings imposed credit expansion and allocation on sectional basis Ewert, R. (2000).
Interest rates are defined as the rental payment for the use of credit by borrowers and return for parting with liquidity by lenders, (Ewert, R. (2000). Like other prices, interest rates perform a rational function by allocating limited supply of credit among the many competing demands. In the (1987) budget announcement of the then president, General Ibrahim Babangida, it was observed that the pegging of interest rate contrary to expectation, commercial banks encourage savings and since investments are made out of savings, the establishment of commercial especially in rural areas makes savings possible, hence economic development is accelerated (Anyanwu 1997).
Socially, interest rate charged by banks could be regulated to encourage savings mobilization, ensure and foster adequate investment for rapid growth and development, bearing in mind the view of (Goldsmith 1969) that the financial superstructure of an economy, accelerates economic performance to the extent that it facilitate the migration of funds to the funds yield the highest social return.
Interest rates play important role in controlling major macroeconomic variables. The primary role of interest rate is to help in the mobilization of financial resources and to ensure efficient utilization of resources for the promotion of economic growth and development (CBN 1970).
However, they are various states of interest rates in the financial system. They are generally classified into two categories: Deposit and lending rates. Deposits rate are paid to savings and time deposits of different maturities, while lending rates are interest rates charged on loans to customers and they vary according to cost of loanable funds and lending margins.
A number of factors influence the behaviour of interest rates in an economy. Prominent among these are the volume of savings, inflation, investment, government spending, monetary policy and taxation constitute the major source (supply) of credit while investment represents the major demand for credit. Therefore, the level of savings partly determines the level of interest rates. For instance, a decrease in the accumulation of loanable funds (savings) is bound to exert an upward pressure on interest rates, just as the reverse situation would tend to have a moderating effect. Usually, when the structures of interest rate are changed, the resulting relative rates of return will induce shift in the assets portfolio of both banks and the non-banks public institutions. Hence, the direction and magnitude of changes in the market interest rates are of primary importance to economic agents and the policy makers.
Consequently, the Nigerian Economy has been highly prone to interest rate volatility and fragility (CBN, 2000). Interest rates of all instruments have experienced very volatile movements. Inconsistencies have been the order of the day (Adewunmi, 1997)
Lending which may be on short, medium or long-term basis is one of the services that commercial banks do render to their customers. In other words, banks do grant loans and advances to individuals, business organizations as well as government in order to enable them embark on investment and development activities as a mean of aiding their growth in particular or contributing toward the economic development of a country in general.
Commercial banks are the most important savings, mobilization and financial resource allocation institutions. Consequently, these roles make them an important phenomenon in economic growth and development. In performing this role, it must be realized that banks have the potential, scope and prospects for mobilizing financial resources and allocating them to productive investments. Therefore, no matter the sources of the generation of income or the economic policies of the country, commercial banks would be interested in giving out loans and advances to their numerous customers bearing in mind, the three principles guiding their operations which are, profitability, liquidity and solvency.
However, commercial banks decisions to lend out loans are influenced by a lot of factors such as the prevailing interest rate, the volume of deposits, the level of their domestic and foreign investment, banks liquidity ratio, prestige and public recognition to mention a few.
Lending practices in the world could be traced to the period of industrial revolution which increase the pace of commercial and production activities thereby bringing about the need for large capital outlays for projects Many captains of industry at this period were unable to meet up with the sudden upturn in the financial requirements and therefore turn to the banks for assistance. However, the emergence of banks in Nigeria in 1872 with the establishment of the African Banks Corporation (ABC) and later appearance of other banks in the scene during the colonial era witnessed the beginning of banks lending practice in Nigeria. Though, the lending practices of the then colonial banks were biased and discriminatory and could not be said to be a good lending practice as only the expatriates were given loans and advances. This among other reasons led to the establishment of indigenous banks in Nigeria.
Prior to the advent of Structural Adjustment Programme (SAP) in the country in 1986, the lending practices of banks were strictly regulated under the close surveillance of the banks supervisory bodies. The SAP period brought about some relaxation of the stringent rules guiding banking practices. The Bank and Other Financial Act Amendment (BOFIA) 1998, requires banks to report large borrowing to the CBN. The CBN also require that their total value of a loan credit facility or any other liability in respect of a borrower, at any time, should not exceed 20% of the shareholders funds unimpaired by losses in the case of commercial banks.
1.2 Statement of the problem
It is a well known fact that the Nigerian Economy is characterized by volatile interest rates, macro economic instability. Several measures embarked upon by the CBN failed to correct these defects in the economy. The most important of these measures were contained in the amendment of the CBN monetary circular No 21 which diverted the control of rates from CBN on August1, 1987. The bank had been in control of the cost of credit in the economy regulating the interest rates charged by the commercial and merchant banks in their lending activities.
As it is, banks determination and control of interest rates on loans did not help for the stability of major macroeconomic variables due to the volatile nature of rates during the planning period. Currently, interest rates are market determined and the study intend to investigate the impact of interest rate on some bank lending with special focus on enterprise Bank.
1.3 Research Question
1. Does interest rate has influence on bank lending?
2. Does volume of deposit have effect on their lending behavior
1.4 Objectives of the Study
The major aim of this research project is to determine the implication of interest rate on bank lending with special reference to Enterprise Bank (Heritage Bank).
The specific objective is;
1. To examine the extent to which interest rate affects bank lending with references to Enterprise bank (Heritage Bank)
2. To examine if volume of deposit have effect on the lending behavior
1.5 Statement of Hypotheses
The main arguments of the study were synthesized into the following hypothesis:
To achieve the objectives stated earlier, the following hypotheses were formulated:
i. H1: Interest rate does not have a influence on enterprise bank lending behaviours in Nigeria.
Ho: Interest rate has a influence on enterprise bank lending behaviour in Nigeria
ii. H1: Volume of deposit does not have effect on the bank lending behaviours of the enterprise bank
iii. Ho: Volume of deposit has effect on the bank lending behaviour of enterprise bank
1.6 Significance of the Study
This research work will go a long way to cater for the yearning needs and aspirations of the people about the need for commercial banks to re-examine their lending behaviour and propositions in the face of economic changes witnessing sporadic explosion of knowledge, technological breakthrough, fast financial services, increasing needs of financial resources and paramount of all, the speedy pace of economic growth and development.
The findings of this study will be considered significant in the following ways;
v The major findings would be very useful to the CBN when formulating monetary policy for the country.
v The findings will be useful to the policy makers for providing guidelines for controlling operations in money and capital market.
v Lastly, the findings will serve as guidelines to the investing public in their decision making.
1.7 Scope of the Study
The study is aimed at investigating the impact of interest rate on bank lending with special reference to enterprise bank. Interest rates include mainly the lending rates. However, this study will be limited to lending rates during the floating interest rates regime. The study will cover the years from 2006 to 2013
1.8 Definitions of Terms
Commercial Banks: Commercial banks are described as supermarkets of financial services. They are retail banks that take small amount of deposits from many customers and operate wide network of branches because of the nature of their business. Commercial banks account for the bulk of total institutionalized savings within the system. The most important function of commercial banks are the acceptance of deposits, the provision of facilities for domestic and foreign remittance and granting of loans and advances to their customers.
Determinants of Lending: These are factors which influence the lending decisions or lending principles of commercial banks. They include the volume of deposits of the banks, the preceding interest rate, the legal reserve requirement of the Central Bank of Nigeria, level of domestic and foreign investments of commercial banks, the banks liquidity ratio, the nature of their businesses, the prestige or goodwill of the banks, CBN monetary policies and/or guidelines, the general economic position of a nation, the political and socio-cultural environment in which they operate, the status of their individual customers, the internal policies of the banks, their capital bases to mention a few. Some have positive impact and some negative impact on the banks lending behaviour.
Lending Behaviour: These are laid down principles which guide the lending practice of banks. These principles could be due to external or internal factors. These principles act as a blue print to measure the effectiveness of commercial banks lending activities.
Short Term Facilities: These are credits extended to customers that are expected to be repaid within one year e.g. bridging loan, overdraft and LPO financing.
Medium Term Facilities: These are credits extended to customers and repayable between 3 and 5 years. Examples include term loans and leasing.
Long Term Facilities: This includes banks loans or debentures which are repayable between 5 and 10 years or more depending on the life span of the project it is spent on. The main source of long term funds for business firms include bond, preferred stock, common stocks and hybrid securities such as convertible bonds and convertible preferred stocks.
Loans and Advances: These are monetary facilities advanced by commercial banks to their customers who may be individual or corporate.