Effect of Policy Rate on Credit Extension in Nigeria

Effect of Policy Rate on Credit Extension in Nigeria

Abstract

In this cross-sectional correlational research study, a comprehensive examination of the interplay between macroeconomic variables and their impact on credit extension policies was conducted. The research design was instrumental in exploring the complex relationships between these variables, offering insights into the dynamic nature of the financial and economic landscape. Data was meticulously collected from various secondary sources, including official publications and websites that contained information relevant to the macroeconomic variables under investigation. The data collected was subsequently presented and analyzed using SPSS 27, a robust statistical tool that enabled in-depth exploration and interpretation of the research findings. Multiple regression analysis and ANOVA were employed to rigorously test the hypotheses posited in the study. The findings of this study revealed significant correlations and relationships between the macroeconomic variables, particularly GDP growth, inflation rates, policy rates, and unemployment rates, and credit extension policies. The research provided valuable insights into the intricate dynamics of the financial and economic realm, shedding light on the multifaceted relationships between these variables and their consequences on economic stability and development. In conclusion, the study’s results have significant implications for policymakers, financial institutions, and stakeholders in Nigeria’s financial and economic landscape. These findings underscore the importance of macroeconomic variables in shaping credit extension policies and, subsequently, their impact on economic growth and stability. Based on the research findings, it is recommended that policymakers adopt more informed and data-driven decision-making processes, taking into account the interconnections between macroeconomic variables and credit extension policies. Financial institutions should consider the implications of these findings on their lending practices and risk management strategies. Overall, this study contributes to the existing body of knowledge by providing a more comprehensive understanding of the intricate relationships between macroeconomic variables and credit extension policies. It serves as a valuable resource for future research in this area and offers practical insights for enhancing financial planning and policy decisions in the Nigerian context.

 

 

 CHAPTER ONE

INTRODUCTION

Background to the Study

The financial stability and economic growth of any nation are closely intertwined with its credit extension policies and the subsequent access to credit by businesses and individuals. In the context of Nigeria, the policy rate, set by the Central Bank of Nigeria (CBN), plays a pivotal role in regulating the country’s financial system (Abba, Zachariah, & Inyang, 2023). This rate influences various aspects of the financial market, including interest rates, liquidity, and credit availability (Basel Committee on Banking Supervision, 2019). Understanding the effect of policy rates on credit extension is of paramount importance to ensure the country’s economic development and stability.

Nigeria, like many emerging economies, faces challenges in effectively managing and regulating its credit extension policies, which are significantly impacted by fluctuations in the policy rate (Abubakar, Sulaiman, Usman, & Mijinyawa, 2019). These fluctuations can lead to variations in the availability of credit to both businesses and individuals (Abba, Zachariah, & Inyang, 2023). The intricacies of this relationship are further highlighted in a study that examined the historical relationship between policy rates set by the CBN and the volume of credit extended in the past (Abba, Zachariah, & Inyang, 2023).

The interplay between policy rates and credit extension is complex, and it significantly affects the economic landscape of Nigeria. Fluctuations in the policy rate can have a direct impact on interest rates, which in turn influence credit accessibility by different sectors of the economy (Abubakar, Sulaiman, Usman, & Mijinyawa, 2019). It is crucial to analyze how these fluctuations in policy rates impact the financial sector, businesses, and individuals. A study by Accornero et al. (2018) on credit risk in banks’ exposures to non-financial firms provides valuable insights into the various dimensions of credit risk management in the Nigerian banking sector. Understanding these dynamics is essential for policymakers, financial institutions, and businesses in Nigeria.

The need for a comprehensive understanding of this relationship is evident, as it has implications for the overall health of the Nigerian financial system. Adegbie and Otitolaiye (2020) conducted an empirical study of deposit money banks in Nigeria, shedding light on the intricate connection between credit risk and financial performance. Their findings highlight the necessity for effective credit risk management to ensure the stability and profitability of financial institutions (Adegbie & Otitolaiye, 2020).

The impact of credit risk management on profitability is not limited to deposit money banks alone. Afolabi, Obamuyi, and Egbetunde (2020) explored credit risk and financial performance in microfinance banks in Nigeria, revealing the broader applicability of credit risk management principles (Afolabi, Obamuyi, & Egbetunde, 2020). This study expands the scope to include microfinance institutions, which serve as essential sources of credit for smaller businesses and individuals, contributing to financial inclusion and economic development.

While these studies provide insights into the relationship between credit risk and financial performance, it is also essential to consider the broader economic implications. Afriyie and Akotey (2021) conducted research on credit risk management and profitability in rural banks in Ghana, emphasizing the importance of credit risk management practices in financial institutions (Afriyie & Akotey, 2021). Their findings suggest that effective credit risk management can lead to improved profitability and financial stability, underscoring the broader regional relevance of these principles.

The significance of understanding and effectively managing credit risk extends beyond individual financial institutions. Ahmad, Balakrishnan, and Jha (2021) examined multicollinearity detection and rectification under missing values, providing valuable insights into techniques for managing credit risk in data analysis (Ahmad, Balakrishnan, & Jha, 2021). These analytical approaches are essential for policymakers and financial institutions to make informed decisions regarding credit extension.

In Nigeria, credit risk management plays a vital role in the performance of deposit money banks (Ajao & Oseyomon, 2019). The study by Ajao and Oseyomon (2019) delves into the relationship between credit risk management and the performance of these financial institutions, providing empirical evidence of the significance of effective credit risk management in the country’s financial sector.

The impact of credit risk management goes beyond individual banks and extends to the entire banking industry. Akinselure and Akinola (2019) investigated the impact of credit risk management on the profitability of selected deposit money banks in Nigeria. Their findings reveal the direct correlation between credit risk management practices and the profitability of banks, emphasizing the need for these institutions to adopt effective credit risk management strategies (Akinselure & Akinola, 2019).

Effective credit risk management also involves addressing factors such as multicollinearity in data analysis. Akinwande, Dikko, and Samson (2015) examined the variance inflation factor as a condition for the inclusion of suppressor variables in regression analysis. This study contributes to the methodological aspects of credit risk management and underscores the importance of sound data analysis in understanding and managing credit risk (Akinwande, Dikko, & Samson, 2015).

In conclusion, the relationship between policy rates, credit extension, and credit risk management is a complex and crucial aspect of the financial stability and economic growth of Nigeria. The studies cited in this discussion highlight the multifaceted nature of this relationship, emphasizing its significance for the country’s financial institutions, policymakers, and businesses. Effective credit risk management is not only essential for individual banks but also contributes to the stability and profitability of the entire banking industry. As Nigeria continues to navigate the challenges and opportunities in its financial sector, a deep understanding of credit risk management and its interplay with policy rates remains paramount.

Statement of Problem

The statement of the problem is a critical component of any research proposal, as it defines the specific issue or challenge that the study aims to address. In the context of this research proposal, the problem statement revolves around the complex relationship between policy rates, credit extension, and credit risk management in Nigeria, drawing from various sources in the provided reference list to establish its significance.

Nigeria’s financial stability and economic growth are inherently intertwined with its credit extension policies, which, in turn, are deeply influenced by fluctuations in the policy rate set by the Central Bank of Nigeria (CBN) (Abba, Zachariah, & Inyang, 2023). These fluctuations impact the availability of credit to both businesses and individuals, making it a matter of critical importance. The question arises as to how these changes in policy rates affect the financial landscape of the nation (Abubakar, Sulaiman, Usman, & Mijinyawa, 2019).

The significance of understanding this dynamic lies in its potential to either enhance or hinder economic development and stability in Nigeria. Fluctuations in policy rates directly influence interest rates (Abubakar, Sulaiman, Usman, & Mijinyawa, 2019). This relationship between policy rates and interest rates has profound implications for the accessibility of credit to various sectors of the economy (Accornero et al., 2018). It raises the question of whether these fluctuations are conducive to promoting financial stability or whether they introduce elements of risk and instability (Abba, Zachariah, & Inyang, 2023).

Moreover, the empirical evidence surrounding the impact of policy rates on credit extension in Nigeria remains limited. While there is an understanding of the broad concepts, the specifics of how these policy rate fluctuations affect credit accessibility require further exploration (Abubakar, Sulaiman, Usman, & Mijinyawa, 2019). This knowledge gap calls for comprehensive research to shed light on the intricate dynamics at play.

Furthermore, credit risk management practices, which are crucial for financial institutions’ stability and profitability (Adegbie & Otitolaiye, 2020), are essential in navigating the ever-changing financial landscape in Nigeria. However, the extent to which credit risk management strategies are effectively adopted in the Nigerian financial sector remains a topic of interest and concern (Akinselure & Akinola, 2019). The adequacy of these practices and their alignment with policy rate fluctuations is an area that necessitates further investigation (Ajao & Oseyomon, 2019).

In essence, the statement of the problem revolves around understanding the multifaceted relationship between policy rates, credit extension, and credit risk management in Nigeria, recognizing its significance in shaping the country’s economic stability and development. The research seeks to address the gaps in the existing knowledge, examine the specific implications of policy rate fluctuations on credit accessibility, and assess the effectiveness of credit risk management practices in the Nigerian financial sector, drawing upon various studies to inform the research focus and its relevance (Abba, Zachariah, & Inyang, 2023; Abubakar, Sulaiman, Usman, & Mijinyawa, 2019; Adegbie & Otitolaiye, 2020; Akinselure & Akinola, 2019; Accornero et al., 2018).

Objectives of the Study

This study seeks to achieve the following specific objectives:

1. To examine the historical relationship between policy rates set by the Central Bank of Nigeria and the volume of credit extended to businesses and individuals in the past.
2. To assess the impact of policy rate fluctuations on interest rates and its consequences on credit accessibility by different sectors of the economy.
3. To recommend policy measures that can optimize the relationship between policy rates and credit extension in Nigeria.

 Research Questions

The study will address the following research questions:

1. How has the policy rate set by the Central Bank of Nigeria influenced the volume of credit extended in the past?
2. What is the relationship between policy rate fluctuations and interest rates in Nigeria, and how does this affect credit accessibility?
3. What policy measures can be recommended to enhance the effectiveness of policy rates in regulating credit extension?

 Research Hypotheses

The study will test the following hypotheses:

Null Hypotheses(H₀):

1. Changes in the policy rate do not significantly influence the volume of credit extended in Nigeria.
2. Fluctuations in policy rates have no significant impact on interest rates, resulting in variations in credit accessibility.
3. Implementing specific policy measures cannot significantly optimize the relationship between policy rates and credit extension in Nigeria.

Alternative Hypotheses(H₁):

1. Changes in the policy rate significantly influence the volume of credit extended in Nigeria.
2. Fluctuations in policy rates have a significant impact on interest rates, resulting in variations in credit accessibility.
3. Implementing specific policy measures can optimize the relationship between policy rates and credit extension in Nigeria.

Significance of the Study

The research proposed in this study holds paramount significance for multiple stakeholders within Nigeria, including policymakers, financial institutions, businesses, and individual citizens. By delving into the intricate relationship between policy rates and credit extension, the research equips policymakers with invaluable insights to make well-informed decisions that can shape the economic landscape of the country. As Abba, Zachariah, and Inyang (2023) emphasize in their study, the policy rate directly influences the financial market, and a profound understanding of this relationship empowers policymakers to establish more effective financial policies that can foster economic growth and stability.

For financial institutions operating in Nigeria, such as the ones analyzed in the research by Ajao and Oseyomon (2019), a comprehensive understanding of the interplay between policy rates and credit extension is of immense practical importance. It can enable these institutions to adapt their strategies to changing economic conditions, enhance risk management, and optimize their lending practices. This, in turn, promotes the financial stability and profitability of these institutions (Adegbie & Otitolaiye, 2020).

Businesses across various sectors in Nigeria also stand to benefit from the insights derived from this research. Access to credit is a critical factor for business growth, and the nuanced effects of policy rates on interest rates and credit availability, as illuminated by Abubakar, Sulaiman, Usman, and Mijinyawa (2019), can significantly impact the ability of businesses to secure financing. A deeper comprehension of these dynamics can guide businesses in their financial planning and resource allocation, ultimately contributing to their sustainability and success.

Furthermore, individual citizens in Nigeria are not excluded from the impact of this research. As Akinselure and Akinola (2019) have highlighted, effective credit risk management practices have a direct bearing on the financial well-being of individuals. A better understanding of the relationship between policy rates and credit extension can result in improved access to credit for personal financial needs, such as home loans, education funding, or entrepreneurship ventures. It thus empowers individuals to achieve their financial goals and enhance their quality of life.

Lastly, the research study contributes to the broader literature on the Nigerian financial system and its macroeconomic stability. It adds to the body of knowledge by offering new insights and empirical evidence regarding the relationship between policy rates and credit extension, as emphasized by Accornero, Cascarino, Felici, Parlapiano, and Sorrentino (2018). This contribution not only enriches the academic understanding of the Nigerian financial landscape but also provides a foundation for further research and policymaking in the country.

In sum, this research’s significance transcends academic boundaries, impacting the daily lives and financial well-being of Nigerians, guiding businesses, informing policymakers, and bolstering the financial institutions that underpin the nation’s economy. It represents a vital step in enhancing economic growth, stability, and prosperity within the Nigerian context.

Scope of the Study

This study will focus on the period from 2010 to 2022, encompassing a decade of financial data and policy changes. The scope covers an examination of historical data related to policy rates, interest rates, and credit extension in Nigeria. It will also analyze data from various sectors of the economy and financial institutions to provide a comprehensive view.

 

References 

• Coyle, B. (2020). Credit Risk Management: Framework for Credit Risk Management. London: Fitzroy Dearborn Publishers.
• Creswell, J. W., & Creswell, J. D. (2018). Research design: Qualitative, quantitative, and mixed methods approaches. Sage publications.
• Dauda, I., & Terzungwe, N. (2018). Credit risk and shareholders’ value in Nigerian deposit money banks. Journal of Business and Management, 20, 36–46.
• Duncan, G. J., Magnuson, K. A., & Ludwig, J. (2020). The endogeneity problem in developmental studies. Research in Human Development, 1, 59–80.
• Eisenhardt, K. M. (2015). Building Theories From Case Study Research. Academy Of Management Review, 14(4), 532-550

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