Commercial Banks Liquidity Problem An Empirical Analysis (a Case Study Of First Bank And Union Bank Plc)

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1.0            INTRODUCTION


Liquidity of banks is “the case with which banks assets could easily be converted into cash”. The liquid asset include cash in bank vaults, and other government securities that have not been used as collateral for loans. The most liquid of all these assets is cash.


These are many reasons why a bank should have reasonable liquid assets in its assets portfolio. These includes amongst others to babble the bank to meet prompt demands from deposits and to ensure that the bank main trained public confidence and also beadle to utilize profitable opportunities that may come out in future.


However, it should be mentioned that banks like most other business are profit oriented. They operate in order to make profit for their shareholders. The profits could duly be realized only if there is adequate deposits from bank customers. The deposits will not come unless the depositors could be assured of the safety of their deposits and for the safety of the deposit to be assured, these has to be enough liquidity in the bank.


Conversely, a bank operates in order to make profit for her shareholders. It is a known fact that action designed to make profit in banks may bring about bank distress and vice versa. Therefore, equilibrium has to be sought between the two. These taken extreme cases, have been the constant concerns of bank management.


Liquidity management involves provision for depositor drawals and short term cash requirements. It also involves the provisions to meet legal reserves requirements and for the cyclical and secure cash requirement.


In Nigeria, the activities of the banking Act of 1969 as amended under the control of Central bank of Nigeria. The essence of these regulations was to maintain trust and confidence in banking system as well as to achieve specific economic objectives. Thus in the period of mounting excess liquidity as was the case in the 1970s the banks were expected to hold some of their deposits in liquid form.


This is known as legal reserve requirements and cash stabilization securities issued by the Central bank, the liquidity ratio requirement and special deposits.


The rationale for the use of these instruments was to mop up the excess liquidity in the economy to great extent, is also expected to enhance bank in the banking system.


The problem of bank liquidity management was brought about as a result of continuous inflows of income from the oil sector in the 1960s. Since the introduction of the second tier foreign exchange market which resulted in the mopping – up of more than N56 million from the economy, the situation has automatically changed, so the era of excess liquidity has gone.


Banks have devised new methods to attract deposits from their customers hence the new devices of marketing financial services and other innovations in the banking sector. Some questions which this research intends to address includes:-

How does central bank policies on commercial banks solve excessive liquidity problems in the banking system and the national economy?



This research is intended to identify problems of selected commercial banks prior to the introduction of the second tier foreign exchange market and under the second tier foreign exchange market operation. Bank liquidity either in excess or shortage constitutes operational and management problems. Positive responses of bank liquidity to monetary policies may resolve such liquidity problems in the economy.


In Nigeria, regulatory and monetary policies appears to be ineffective hence the recent distress problems associated with some banks. However, the nature and extent by which commercial banks liquidity problems responds to monetary aggregates is not known. This informed the need to re-examine the bank liquidity problems, with the over all objective of investigating the nature and extent of these problems.



The broad objective of this problem is to examine liquidity problems and their policy implication both in the banking industry and Nigeria economy.


Specifically the objectives are to:-

a)                 Identifying bank liquidity problems wither in excess or shortage which constitutes operational and management problem.

b)                Identifying the overall impact of these problems on loans and advances to customers of the commercial banks.

c)                 Identifying the nature and extent by which commercial banks liquidity problems responds to monetary aggregates.



Some questions which this research intends to address includes:-

a)                 How does excess and shortage liquidity affects commercial banks/customers relationship?

b)                How effective and efficient are central bank policies?

c)                 Does excess and shortage liquidity problems in the banking system affects commercial banks profit?

d)                What are the overall impact of those problems on loans and advances to customers of the commercial banks?

e)                 Does the nature and extent by which commercial banks liquidity problems reports to monetary aggregates negative or positive?

f)                  Does bank liquidity problems either excess or shortage constitute operational and management problems?

g)                 The response of bank liquidity to monetary aggregates were analyzed using ordinary least square (OLS) regression and analysis of variance (ANOVA).


1.5            HYPOTHESIS

HO: Commercial banks liquidity responses to monetary aggregates is not positive.  



Following the downturn in the economies future of this country over the years, commercial banks behaviours is difficult to predict and their loan to deposit ratio appears to show a gross inefficiency and lack of depositors protection this study is therefore, intended to provide these banks without sound banking policies which will protect depositors fund and ensure viability and efficiency.


The study also intended to ensure adequate managerial economic growth and development which will be encouraged as a result of improving banking operations and management.


Therefore, the research intended to have an empirical base either to correct all the sources about the poor impression people have of the banks liquidity and to advice banks on how to improve their services by ensuring that liquidity problems does not affect loans and advances made to their customers.



The scope of this study is wide if it has to be carried out in all commercial banks in Nigeria. The study is limited, based on the fact that there is no time and material resources to see to the whole nation. This study is limited to few commercial banks here in Enugu and the findings may not reflect the situation in the whole country. These findings may not be valid for the whole commercial banks in Nigeria, but by and large, what happens in commercial banks here in Enugu can be said to apply to other banks.


Estimate of Time and Time constraints. The researcher has estimated the time it will take to complete the study in the following ways:-

It would take the researcher about 2 weeks to complete the preliminary stage of the study such as working out plan of the study and developing researchable problems and hypothesis with clearly defined concepts and operations.





Availability of research materials.

The researcher encountered some problems in getting the material necessary for the study. A lot of the researcher’s time and money was used up in buying Journals of the firm and test books dealing on the subject. And equally on visiting many libraries within Enugu and outside Enugu.


Corporation from the management and workers of both banks (first bank and union bank plc).


The researcher found it very difficult to get permission and co-operation from the management and workers of the firms who though that the researcher was trying to carry out an industrial espionage on the company or expose the internal operations of the firm to other firms or her competitors, it took researcher some reasonable time to convince the management that the study was strictly an academic exercise.



The following terms used in this study should be taken to mean the following:-


The foreign exchange market is an arrangement which exists to assist buyers and sellers of foreign exchange to enter into contract of buying and selling.



This is the percentage of bank deposits that the banks should hold in the form of cash or eligible liquid assets in the tills of the bank.




It is a democratic instrument of monetary control. It involves the use of persuasion and appeal by the central bank to the commercial banks to comply with the central bank guidelines.



This method involves the sale and purchase of securities, bills, bonds, and government securities by the central bank.



This is instrument used by central bank to analyse response of banks liquidity to monetary aggregates.



It is also instrument used by bank to analyses response of banks liquidity to monetary aggregates.





A bank is an institution or personnel carrying on business of receiving money and collecting drafts from customers subject to the obligation of honouring cheques down upon them from time to time by customers to the extent of amount available on their current account (Hart 1981).


An institution which has the responsibility of receiving money on current account, of paying and collecting cheques dawn by or paid in by customers and making advances to customer.


In the light of the above therefore, the bank deals on money, it can be understood that banking lies at the central of all human activities where finance is an important tools.


Although chiefly seen as a pivot for trade and commerce, its benefits are not confirmed to these sector only.


Personal, social or even political activities can not be undertaken in modern time, the various projects executed by institutions, individuals, business enterprises and government at the urban and rural areas which are usually on large scale based make the diverse services generated by the embanking system so crucial and indeed indispensable that banking today especially the commercial banks can be said to be one of the greatest and the useful to all human instruments. In view of this, Nigeria commercial bank has a vital roles to play in ensuring that there is equilibrium balance between liquidity and profitability of their banks.





It has been observed that many people have actually written on liquidity management but very little or nothing has been done on liquidity problems of our commercial banks hence the interest of the researcher on this topic which is based on the trend available before the introduction of the second foreign exchange market and the situation that was obtainable after the introduction of the SFEM.


To achieve this, the section has been divided into three:-

a)                 What is liquidity?

b)                Liquidity profitability of commercial banks

c)                 Equilibrium balance between liquidity and profitability.


A)      WHAT IS LIQUIDITY? According to Oxford advanced Learners Dictionary, it defined liquidity as the state of owning things of value that can easily be changed into cash. Sayares (1960) sees liquidity as the ability of bankers to satisfy demand for cash in exchange for deposits. It is also the ease with which bank assets would be converted into cash. The liquid assets includes cash in the bank vault, with the central bank of Nigeria and other government securities that have not been used as collateral for loans.


To satisfy depositor’s claims banks must be able to convert its assets into cash quickly. If the depositors must be satisfied, the bankers assets must be convertible without loss. When bakers said that they aim at liquidity, they generally include both these attributes.


Treasury bills and bills of exchange with central bank requirements are the most generally liquid assets. However, the most liquid assets in order of liquidity are cash, money at call in so far as it is covered by eligible paper deposited by the discount house.


After that comes the treasury bill and bills of exchange in order of nearness to maturity.



At a micro level, the individual commercial banks is viewed as assets and given the characteristics and distribution of their liabilities, they attempt to structure these in such a manner as to yield the greatest returns, subject to certain constraints.


These assets held by banks may be divided into two broad classes frequently called earning assets and non-earning assets.


Earning assets are the FINO groups of balance sheet items called loans and investments. Non – earning assets consist of fixed assets, the total resources of the bank and no – interest earning deposits with the central bank.


Earning assets (Loans and Investments) generates profits while liquidity is provided party by earning assets like short – term investment and partly by non – earning assets e.g. (cash balances held in vault and at the central bank and cash reserves).



One might be tempted to as such question as, why do banks make profit? The answer is very obvious, just like every other business organization, they aim at maximizing their income so as to enable them offset their cost and have substantial balance as profit.


They are also answerable to their shareholder who have invested with the ultimate aim to making good returns inform of dividend and growth from point of view.


Bank need assets which produce income substantially higher them their expenditures. Profit of the banks fulfills several other important functions which may be summarized as profit and constitute especially annual provision in respect of loans considered uncollectable of such doubtful vault that their being shown as assets of the bank. Having critically looked at the excess liquidity in the banking system, it is noticed that due to the advert of the oil boom the commercial banks were having unprecedented rise in bank deposits.


This obviously gave rise to the excess liquidity in the banking system as banks had limited outlets for the investment of their ideal funds in the vault. On the other hand, banks could be confronted with liquidity problems under tight money conditions.


According to Read E.N. et al (1980) he discussed liquidity problem under light money condition as a period of economic prosperity when disentermediation of deposits occurs, thus presenting serious liquidity problems for many commercial banks.


Disentermediation occurs during a tight period when monetary policy is geared towards slow economic expansion by limiting the availability of excess reserves to the banking system and pushing interest rate up. He was of the opinion that commercial banks should include adjustment to liability and profitability.


Also grease and Hampel, (1962) viewed liquidity problems of banks as that of having at all time sufficient funds to meet the demand for money that may be upon them.


From the emphasis as laid on liquidity problems under tight money conditions (shortage of liquidity) as was witnessed in Nigeria during the currency change of April 1984 and in 1986 when STEM was introduced under SAP it should be noted that the commercial banks under this strain will find it difficult (if not impossible) to meet up with their customers. Various demands for funds just as sit was the case when they are paying for foreign in local currency during STEM operations and at the same time meeting customers demand for cash.


Apart from the above commercial banks in Nigeria are actually having a better expenses shortage of liquidity or liquidity crunch with the federal state and local government withdrawals of their deposit with the commercial banks. The development has shaken some banks up to a point distress. While some are still battling to recover from the shock. The result of this phenomenon is that some banks have decided to lay off their staff.


But the commercial banks shall definitely laugh when the directives of the federal government are implemented for federal and state ministries to open and operate accounts with the commercial banks. From available data it was noted that the C.B.N earned as much as N17 billion in its six weeks of STEM operation. This amount represent the naira of a total of US 1416 million which it injected into the market in the first bidding session as follows:-

a)                 N50 million on 2nd October

b)                N75 million on 19th October

c)                 N80 million on 17th October

d)                N75 million on 23rd October.

e)                 N85 million on 30th October


Financial analyst believe that there is acute shortage of liquidity in the system. The recall of naira deposit in August 1986 by C.B.N from commercial and merchant banks for foreign exchange applications, a waiting cover started the trend which worsened the situation.


Other measure that contributed to this worsening liquidity shortage were the liberalization of the foreign exchange market (FEM). This single action led to the withdrawal of over N10 billion deposits held by banks against letters of credit. Another measure that came up was the cancellation of foreign guarantees for naira denominated loans.


By thus, the banks were required to call back such loans or have their equivalents automatically debited in the CBN accounts. The outcome of these measure is that the transaction and business motives of consumers and business will no longer be satisfied. Besides, the banks will now be under severe pressure as it will not be too easy for them to attract fresh deposits even with the advances they make.


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Commercial Banks Liquidity Problem An Empirical Analysis