Full Project – Exchange rate volatility and banks performance – evidence from Nigeria

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CHAPTER ONE

INTRODUCTION

1.1    BACKGROUND OF THE STUDY

Studies on foreign exchange fluctuations have gained so much attention in the literature recently because we operate an open economy as a result of natural endowment. Activities in foreign exchange market determine the attractiveness of a nation’s currency and the level of development of  that economy.  All transactions done there will form a very vital aspect of the activities of financial sectors and the effect on commercial banks cannot be over emphasized in the allocation of economic resources (Ongore & Kusa, 2013). Banks‟ performance contributes immensely to the economic growth of a country by making funds available for investors to borrow and financial deepening. This is as a result of the market not only being a vehicle of settling international transactions but functions also as a medium of interaction between sellers and buyers of foreign exchange in a bid to negotiate a mutually acceptable price for the promotion and furtherance of international transactions. Ngerebo (2012) opines that foreign Studies on foreign exchange fluctuations have gained so much attention in the literature recently because we operate an open economy as a result of natural endowment. Activities in foreign exchange market determine the attractiveness of a nation‟s currency and the level of development of that economy.  All transactions done there will form a very vital aspect of the activities of financial sectors and the effect of commercial banks cannot be over emphasized in the allocation of economic resources (Ongore & Kusa, 2013). Banks‟ performance contributes immensely to the economic growth of a country by making funds available for investors to borrow and financial deepening. This is as a result of the market not only being a vehicle of settling international transactions but functions also as a medium of interaction between sellers and buyers of foreign exchange in a bid to negotiate a mutually acceptable price for the promotion and furtherance of international transactions. Ngerebo (2012) opines that foreign

1.2    STATEMENT OF THE PROBLEM

Indirectly, exchange rate volatility affects the behavior and performance of depositors and borrowers and adverse affect banking risk and its performance. On the other hand, the process of supply chain of firms’ products is affected by exchange rate volatility. Uncertainty about the level of currency fluctuations for any firm is a type of risk that can affect the firm’s activities. In fact, exchange rate volatility affects aggregate demand (net exports) and aggregate supply (costs of imported intermediates, production of goods and services). In general, in the commodity market, positive exchange rate shocks will make imported commodities more expensive and export commodities cheaper, thereby increasing demand for domestic commodities.

Therefore, the more risk adverse foreign trade factors are and the greater the share of foreign trade in GDP, the fluctuating exchange rate will have a greater impact on lowering output, raising prices and limiting foreign trade. On the other hand, a change in the exchange rate can change the competitive position of domestic producers. As the exchange rate rises, the price of imported commodities in terms of national currency rise’s and the demand for foreign goods declines. Moreover domestic goods become relatively cheaper abroad.

1.3    RESEARCH QUESTIONS

In line with the objectives of this study, the following research questions were formulated:

1. Does credit risk have any significant effects on the performance of commercial banks in Nigeria?
2. Does Interest rate risk has a significant effect on the performance of commercial Banks in Nigeria?
3. Does operational risk has a significant effect on the performance of commercial Banks in Nigeria?

1.4    AIMS AND OBJECTIVES OF THE STUDY

The major aim of the study is to examine the effects of credit risk on the performance of commercial banks in Nigeria.

Other specific objectives of the study include;

1. To examine the effect of credit risk on the performance at commercial banks in Nigeria
2. To examine the effects of interest rate risks on the performance of commercial banks in Nigeria
3. To examine the effects of operational risks on the performance of commercial Banks in Nigeria.

1.5    RESEARCH HYPOTHESES

H₁: Credit risk has a significant effect on the performance of commercial Banks in Nigeria

H₂: Interest rate risk has a significant effect on the performance of commercial Banks in Nigeria

H₃: Operational risk has a significant effect on the performance of commercial Banks in Nigeria.

1.6    SIGNIFICANCE OF THE STUDY

The study could be useful to the commercial banks and other organizations in Nigeria and beyond in minimizing the risk associated with exchange rates in future. It will also reduce the rate of banks’ failure if all the recommendations are strictly adhered to. The study would also benefit students, researchers and scholars who are interested in developing further studies on the subject matter.

1.7    SCOPE AND LIMITATION OF THE STUDY

The study is restricted to the effect of exchange rate fluctuation on banks performance in Nigeria covering the period of ten years between 2005 and 2014.

1.8    LIMITATION OF THE STUDY

Financial constraint: Insufficient fund tends to impede the efficiency of the researcher in sourcing for the relevant materials, literature or information and in the process of data collection (internet, questionnaire and interview)

Time constraint: The researcher will simultaneously engage in this study with other academic work. This consequently will cut down on the time devoted for the research work.

1.9    DEFINITION OF TERMS

Exchange: In finance, an exchange rate is the rate at which one currency will be exchanged for another currency.

Rate:  a rate is the ratio between two related quantities in different units.

Volatility: the degree of variation of a trading price series over time, usually measured by the standard deviation of logarithmic returns. 

Exchange Rate Volatility: the risk associated with unexpected movements in the exchange rate.

Bank Performance: Commonly, to measure the firm’s performance, financial ratios are the quantitative metrics in most of studies for all differential business sectors, including banking.

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Full Project – Exchange rate volatility and banks performance – evidence from Nigeria