Academic journal article Accounting & Taxation

Determinants of Non-Performing Loans in Nigeria

Academic journal article Accounting & Taxation

Determinants of Non-Performing Loans in Nigeria

Article excerpt

ABSTRACT

Credit risk assessment is a major component of macro prudential analysis, with the aggregate non-performing loan ratio serving as a proxy for the economy-wide probability of default of the banking sector 's overall loan exposure. Consequently, the factors that drive non-performing loans become pertinent. This study provides a macroeconomic model for non-performing loans for Nigeria. Our empirical analysis confirms that in the long run, economic growth is negatively related to non-performing loan. On the other hand, unemployment, credit to the private sector and exchange rate exerts positive influence on non-performing loans in Nigeria. In the short run, credits to the private sector, exchange rate, lending rate and stock market index are the main determinants of non-performing loans.

JEL: G01; G21

KEYWORDS: Determinants, Non-Performing Loans, Error Correction Model, Nigeria

(ProQuest: ... denotes formulae omitted.)

INTRODUCTION

Non-performing loans (NPLs) generally refer to loans which for a relatively long period of time do not generate income. This implies that the principal and or interest on these loans have been left unpaid for at least 90 days (Caprio and Klin-gebiel, 1999). It has become a critical issue of discourse in finance literature because of the close link between banking crises and massive accumulation of NPLs. Indeed, some studies have found that non-performing loans are one of the main reasons that cause insolvency of the financial institutions and ultimately hurt the whole economy (Hou 2007, Kane and Rice 2001). The costs of huge NPLs have been documented in the literature. Huge NPLs may negatively affect the level of private investment, increase deposit liabilities and constrain the scope of bank credit to the private sector. In the same way, accumulation of NPLs can negatively affect private consumption which may lead to economic contraction. Also, huge NPLs may exacerbate the already high pressure on government revenues as attempt to resolve it may force government to provide financial assistance to problem banks [Conzalez-Hermosillo et al, 1997].

Essentially, if the issue of non-performing loans is left unresolved, it can compound into financial crisis, where the loans exceed bank capital in a relatively large number of banks.Given the economic, fiscal and financial costs of non-performing loans, it is therefore imperative to control it. However, in order to control non-performing loans, it is necessary to understand its roots causes. It is in the light of this that the paper examines the determinants of non-performing loans in Nigeria. As far as the banking system of Nigeria is concerned, it has faced a lot of problems. One of the most destructive problems faced by the Nigerian financial sector is the huge amount of NPLs which not only harm efficiency and growth of the banking sector but also endanger growth and development of the Nigerian economy. The magnitude of non-performing loans in Nigeria increased fromN273 million in 1981 toN4,771 million in 1987. The total non-performing loans increased to Nil 1,587 million in 2000 and further to Nl,112,423 million in 2011. The phenomenal increase in non-performing loans in Nigeria over the years therefore makes it imperative to ascertain the causes of these loans in order to reduce it. The remainder of the paper is organized as follows: the next section provides the review of empirical literature. Section 3 discusses the methodology, section 4 presents the estimation results of the econometric model. The last section provides the conclusion.

LITERATURE REVIEW

In this section, we provide a summary of the results of existing studies on the determinants of nonperforming loans. Keeton and Morris (1987) examined the factors that cause non-performing loans in the banking sector in America over the period 1979-1985. The results showed that bad performance of the agriculture and energy sectors coupled with poor economic settings/conditions were the main factors responsible for non-performing loans during the study period. …

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