Monetary Policy and Return on Equity of Commercial Banks: A Time Variant Analysis from Nigeria
Vol.6 Issue 2
This study examined the effect of monetary policy on the return on equity of commercial banks in Nigeria. The objective was to examine the effect of monetary policy on the return on equity of Nigeria commercial banks. Time series data were sourced from annual reports of the commercial banks and Central Bank of Nigeria Statistical Bulletin. Ordinary Least Square (OLS), Augmented Dickey Fuller Test, Johansen Co-integration test, normalized co-integrating equations, parsimonious vector error correction model and pair-wise causality tests were used to conduct the investigations and analysis. The results show that return on equity, broad money supply, liquidity ratio and loan to deposit ratio are stationary at level I(0) while cash reserve ratio and monetary policy rate are stationary after first difference implying that they integrated at order one I(I). The results of the Trace Tests indicate the presence of at least one co-integrating vectors. Thus, the null hypothesis of no co-integration amongst the variables is rejected. This infers the existence of a long run relationship between monetary policy rate, liquidity rate, loan to deposit ratio, broad money supply, cash reserve ratio and return on equity. The results of the error correction coefficient are statistically significant and have a negative sign, which confirms a sufficient condition for the variables to be co-integrated. This also implies that the speed at which explanatory variables would adjust from short run disequilibrium to changes in return on equity in order to attain long run equilibrium is 89% within a year. The results granger causality test shows that there exist a unidirectional relationship between liquidity ratio and return on equity. The study concludes that monetary policy rate has the strongest long run impact on return on equity of commercial banks. It recommends that managers of commercial banks should be abreast with the development from Central Bank of Nigeria monetary policy actions to achieve increase profitability and bank managers should have a good understanding of the monetary policy tools and how it works.
