Impact On Profitability Of Commercial Bank In Nigeria Of Interest Rate Deregulation


Impact On Profitability Of Commercial Bank In Nigeria Of Interest Rate Deregulation

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Chapter One

INTRODUCTION Before, 1987, the interest rate management policy was one of the control function by the Central Bank o Nigeria (CBN) which fixed the minimum saving rates and maximum lending rates for financial institutions. This was the are of administering interest rate regime. Following he introduction of a market based interest rate policy in 1987 by the Central Bank of Nigeria (CBN) bank were allowed to according market conditions through negotiations with been customers. Ever since then, there has been significant impact of such deregulation policy on the Nigerian economy especially on the profitability of commercial banks. In directing bank to pay interest on current account deposits by the Central Bank of Nigeria (CBN) is in the context o the deregulation framework. This is implied by the negotiation between the banks and their customers on the interest rate payable on deposits for special purpose held for more than seven days. To further ensure that customers are not exploited, the Central Bank of Nigeria (CBN) has further directed that the reducing balance method should be applied in calculating charges on loans, payable in agreed installments. Following the introduction of a market based interest rate policy in 1987 by the Central Bank of Nigeria (CBN) banks were allowed to determine their deposit and landing rates according to market conditions through negotiation with their customers. However, the minimum rediscount rate (MRR) continued to be fixed by the Central Bank in line with changes in overall economic conditions. For instance, the MRR which was fixed at 15 percent in August 1987 was reduced to 12.75 percent in December 1987 with the objective of stimulating investment and in the economy following the need to moderate monetary policy. In 1989, the MRR was raised to 13.25 percent in furtherance of the flexible interest rate policy; the CBN introduced securities (Treasury bills and certificates) in 1989. Under the system, authorize dealers submitted competitive bids through which the issue rate emerged. The lack of responsiveness of the structure of deposit and lending rates to market fundamentals, particularly the decline in inflation in 1990 compelled the authorities in 1991 to fix a minimum spread of 4 percentage points between the cost of funds of commercial and merchant banks and their maximum lending rates. The banks were therefore, directed to observe a minimum lending rate of 21 percent and a minimum deposit rate of 13.5 percent. The banking measure claming that it was against the deregulatory posture of the government while the reported rates changed were within the guidelines. There was sufficient evidence that actual rates were higher. As if were the benefits of the policy were largely8 marginal. Hence, the ceilings on interest rates were removed in January 1992. This policy was retained in 1993 in the course of the year interest rates were met only distorted and volatile but also rose to unprecedented levels. The behaviour of interest rates was traceable to a number of factors, which include the following. i. The high rate of domestic inflation arising from the huge fiscal deficit of the federal government which was financed mainly by the Central Bank of Nigeria. ii. The undue discretion which the deregulation of interest rates conferred on key market arbitraging activities of market speculation. iii. Technical insolvency and serious cash flow problems on the part of same weak banks resulting in distress borrowing. iv. The use of stabilization securities and the system of allocation of foreign exchange both of which induced the sterilization of large funds at the CBN. The prevailing high interest rates in 1993 discouraged investment in the directly productive sectors of the economy while volatile inter bank rates undermined the efficiency of open market operation and general stability in the financial system.. Some measures of regulation were reintroduce into interest rate management in 1994 because of wide variations and unnecessarily high rates observed following complete deregulation. This policy was maintained in 1995 with some modification to make for flexibility. The situation remained the same in 1996 and 1997. The deregulation of interest rates under structural Adjustment programme (SAP) resulted in narrowing rather than widening the load deposit interest rate gaps. It is expected that this would promote increased savings as well as stimulate investment. The argument by some banks that their costs of funds have rises could only be considered tenable if the interest rates payable gap would not be quite so high as witnessed in 1989. As regards the payment of interest on current account deposits, this should be welcomed by banks that are keen on competing to mobilize deposits which is one of the main objectives of interest rate deregulation. The provision whereby banks are allowed to negotiate with their customers still contravene the deregulatory since under SAP while at the same time ensuring that customers are not unduly exploited and discouraged to save.

1.1 BACKGROUND OF STUDY BRIEF HISTORY OF UNION BANK NIG. PLC The history of Union Bank of Nigeria PLC started with the opening of he colonial bank offices in Lagos, Jos and Port Harcourt in 1917. In 1925, the bank was acquired by Bardays Bank DCn (Domiion Colonial and Overseas). The bank developed and grew rapidly almost all parts of the country. In compliance with the directive of the government in 1968, that all companies (including banks) must be incorporated locally in Nigeria, Bardays banks DCO was incorporated in Nigeria in 1969 and its name was consequently change to Bardays Bank of Nigeria LTD with its registered head office at 40 marina, Lagos. As a result of Nigeria enterprise promotion Degree of 1972 and 1977, the federal government of Nigeria acquired 52% of the bank’s share, leaving 40% to Bardays Bank international limited (now Bardays Bank PLC) while the remaining 8% was taken up by Nigeria public. Bardays Bank PLC sold 50% of it’s remaining shares to Nigeria in 1979, thus reducing its equity holding to 20%. Following this development, the Banks name was changed to Union Bank of Nigeria Ltd to reflect the new ownership structure i.e Federal government of Nigeria 52% private Nigeria investors 28% and Bardays Bank 20% . With this new name, this Bank is now an indigenous bank no longer a subsidiary Bardays Bank PLC, although Bardays Bank PLC still officer technical and correspondent services as in the past.


 Since the introduction of market determined exchange rate via the SFEM in 1986, the main exchange rate has exhibited the feature of depreciation and instability negative effect on interest rate and continued depreciation of the naria in the FOREX market has had some adverse implication for interest rates and for commercial bank. It seems that the high interest rates resulting from the deregulation of exchanges rate has affected the profitability of these banks. Besides, the depreciation of the Naira since 1986 raise the question as to what impact the interest rate policy has made on the Nigeria economy and the commercial banks.


The objective of this study among other things include: i. To examine the interest rate policy in Nigeria since 1986. ii. To examine the factors affecting the interest rate in the economy. iii. To determine the impact of the deregulatory of interest rates on the profitability of commercial bank. iv. To identify the factors militating against sound interest rate policy should evolve.



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