Oil Price Dynamics And The Nigerian Banks Profitability

Abstract

This study evaluates the impact of oil price shocks on the banking sector profitability of an oil-dependent, bank-based Nigerian economy. The study used a dataset of 12 commercial banks that controls about 76 per cent of the Nigeria banking industry assets for a period between 2006 and 2015 and covering two major price shock events. The study tested the impact of oil price shocks on Nigerian banking system profitability as well as the mechanism of transmission (direct or indirect) using system generalised method of moment (GMM). The study found a significant impact of oil price shocks on the Nigeria bank profitability and indicated that the transmission mechanism is direct unlike previous study on the Middle East and North African (MENA) countries, which indicated that the transmission mechanism is via indirect macroeconomic variables. Oil and gas sector concentration appears to be the key driver of the direct transmission mechanism. The transmission of the impact of oil price shocks to the Nigeria commercial bank is through the Domestic Systemically Important Banks (DSIBs). The study also found the existence of profit persistence phenomenon in the Nigeria banking system. The banking institutions should develop a lending portfolio diversification strategy that will mitigate against portfolio concentration in the oil and gas sector. There is also the need to implement revenue diversification strategy to enhance their non-interest generating income and thereby reducing dependence on interest income from the lending portfolio. Most importantly, financial institutions need to manage the procyclicality of their lending strategy and maintain a strong lending standard in order to minimise adverse selection during the positive oil price shocks so that during the reversal or negative oil price shocks the quality of their portfolio will still be high. This study also provides insights for the Central Bank of Nigeria in articulating macro-prudential policies to address financial fragility and drive financial system stability as banking profitability has been identified as an important predictor of financial crises. Furthermore, the framework on domestic systemically important banks (DSIBs) must be proactively implemented as the study indicates that DSIBs play significant role in channelling the impact of oil price shocks on the overall banking system.