CHAPTER I

INTRODUCTION

        This project is concerned with the determination of interest rate changes on effective pricing of bank credit in Nigeria.

        It also involves an explanation of the impact of liquidity ratios on interest rates, the relationship between the supply of funds and the pricing of bank credit, which is also verified.

1.1   Background of the Study

        Operators in the banking system argue that the pegging lending rate at the present level by the Central Bank of Nigeria (CBN) is not realistic as it is not market determined especially urban considered against the cost of deposits (term deposits and saving account) as the rate of inflation, financial and business risks.

        However, it is argued that the Central Bank of Nigeria (C.B.N) sometimes reacts to the face of persistence of excess bank reserves due to weak demand for credit by the private sector and the acute shortage of money market securities in which banks could invest.

        Downward and upward tendencies in the level of interest rates are conditioned in part by counter cyclical changes in bank reserves and bank credit.

        The purpose of this research work is to verify the fixing of rates of interest changed by banks.  The impact of pegged lending rates on effective pricing of bank credit over the years will be assessed.

        The work involved an explanation of:

The impact of liquidity ratios on interest rates, the relationship between the supply of fund and the pricing of bank credit will also be verified, the impact of liquidity ratio on supply credit and the impact of inflation on the pricing of bank credit.

        When the Central Bank of Nigeria (CBN) pegs rates of interest, banks seem to be shortchanged.  Yet there is need to fund industrial, agricultural and commercial activities.  These sectors required low funding cost if the economy must experience full capacity utilization full employment and a reduction in social crises.

1.2   Statement of Problem

        Deregulation has brought to the fore the need to manage rate-sensitive liabilities and rate-sensitive assets as well as stressing on cost control and productivity analysis.

        Banks now accept higher levels of risks in pursuit of profit maximization yet it is argued that pricing reflects the necessary interaction of economic, legislative and regulatory initiatives.  According to Donnelly (1985) “price is not simply what a banking organization wants to charge for its services, or even reasonable should charge, but also a matter of public policy”.

1.3   Purpose of the Study

        The main purpose of the study is to determine the impact of interest rate changes on effective pricing of bank credit in Nigeria.

        Specifically this study sought to:

i)           Determine if the Central Bank of Nigeria (CBN) will fix interest rate.

ii)          Find out if the interest rates fixed by the Central Bank of Nigeria (CBN) can be regarded as the realistic rates.

iii)        Assess whether interest rate should be deregulated in line with the deregulation of the banking industry.

iv)        Ascertain whether a realistic interest rate can be achieved through deregulation of the banking industry.

v)         Assess whether Nigeria can achieve stability if interest rate is deregulated.

vi)        Determine the actual rate charged by banks.

vii)      Ascertain whether the impact of the monetary policy tools supplied by the Central Bank of Nigeria (CBN) since 1990 on the price of bank credit.

1.4   Significance of the Study

        This project is important to economist, business practitioners, the government and banks.  It is expected to help the government realize that the deregulation of the banking industry is incomplete without allowing the interest rates, as the current lending interest rate fixed by the Central Bank of Nigeria (CBN) is seen as artificial.

        This project will assist business practitioners effectively analyze the real cost of borrowing and assist them in pricing their goods and services effectively.

        The Central Bank of Nigeria (CBN) will discover that fixing lending rates smacks of monetary policy inconsistency especially when the exchange rate is deregulated.  But it is argued that rising bank lending rates has escalated cost of production.  As a result the general price level were addressed in 1991 when the Federal Government tried to lower bank lending rates but the effect of the Naira depreciation eroded the little benefits of the lowering interest rates.

        However, banks also content with high cost of doing business.  In addition to interest expenses, operating expenses are on the rise due to the deregulation of the economy.  The lending rates must therefore incorporate these costs.  The lending interest rate is also a price just as the exchange rate fuel price, telephone bill and electricity bills.  If these costs are taken into consideration there will be no reason why lending rates should remain fixed of investments and bankers must earn real income that is in addition to these costs also recognized the impact of inflation.  Moreover, competition has a self-adjusting mechanism of price.

        Furthermore, if a realistic interest rate depends on the relative inflation rate, the operators of the Nigeria economy must therefore continue to check inflation in order to drive interest rates downwards. It is therefore argued that a realistic interest rate is a recipe for the effective pricing of banking services as well as good and services.

        Finally, this study is to ensure that banks do not charge all kinds of fees in addition to the lending rate fixed by the Central Bank of Nigeria (CBN) that is a marked driven lending rate should incorporate all those factors necessary in attaining an effective and realistic pricing without banks imputing extraneous charges.

1.5   Research Questions

        Due to the importance of this structure in the industry, a number of pertinent questions have been raised, which this study will attempt to address. These questions are:

i)                   Should the Central Bank of Nigeria (CBN) fix interest rates?

ii)                 Can the interest rates fixed by the Central Bank of Nigeria (CBN) be regarded as the realistic rates.

iii)                Should interest rate be achieved through deregulation of the banking industry?

iv)               Can Nigeria achieve stability if interest rate is deregulated?

v)                 Can realistic interest rate be achieved through deregulation of the banking industry?

vi)               What is the actual rate charged by banks?

vii)              What is the impact of the monetary policy tools supplied by the CBN since 1990 on the price of bank credit?

Formulation of Hypotheses

        The following Hypotheses were formulated and tested at 0.05 level of significance.

1.6   Scope/Delimitation of the Study

        The study will try to examine if the lending rate fixed by the Central Bank of Nigeria (CBN) is the realistic rate.  The project will attempt to explain if there is a relationship between the demand for credit and interest rates the impact of inflation on interest rates, the impact of monetary policy tools such as liquidity ratios on interest rates, and the relationship between rate of loans to deposits and liquidity ratios.

        Although the presentation of the research methodology is a demonstration of knowledge in the handing of primary data, the topic under study relies more on secondary data from annual reports, newspaper, journals and published texts.  Time and finance also posed great limitations.

        However, such important areas as price description and determination of effective pricing of banking services would not be covered for lack of reliable data and time constraint.

1.7   Limitations of the Study

        For a proper project research to be carried out effectively, there should be some limitations along the line, these limitations includes:

Time Constraint:

This is the time consumed by student carrying out a particular project research topic.  First and foremost, for a student do achieve his or her goals on a project research, there should be an effective plan on how the materials needed can be gotten and this will be actualize by proper research, which might involve moving from one place to another in search of these materials.  By so doing, time is consumed.

        On the other hand, some students in a particular group may be giving excuses that the time fixed is not suitable for them, some may complain that the time fixed is not suitable for them, some may complain that they usually do their domestic work for their parent during the project research exercise, which may demand all attentions.

        In other to balance the equation they should be proper plans on time management.

Money:

        This involves that money needed for the project to be carried out in a situation whereby the money needed becomes high, some students in a group will be affected and this may hinder their chances of participating and finally terminates their work since nothing good comes easy without money.

Difficult Experiences:

        This is the experience we encounter from our group.  Since everybody has his/her own personal character couples with individual schedule for daily activity, things can never be at the same time. Therefore, the time schedule for a particular group to carryout their project research varies.

Insincerity of responding to questionnaire items: This is the inability of the supervisor to be sincere to the project writer.  If the supervisor did not explain properly the most essential things needed and how he wants the project to be done.  The project writer may find it difficult to cope.

1.8   Definition of Terms

Inflation:

Continuous increase in price of goods interest rate:

        Increase in the value of money as a result of inflation.

Price:

        The amount of each particular goods or commodity.

Market Force:

        These are the people who use their strength in other to control all the activities done inside the market.

Bank Credit:

        This involves all the charges taken by the bank for keeping our money.  In a bank transactions our money can be extracted in various forms such as money for S.M.S. Messages, A.T.M Cards and so on.

Demand:

        This is a desire or need of customers for goods or services, which they want to buy or use.

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