The Effect of Capital Adequacy on Banks’ Performance: Evidence from Nigeria

Abstract

This study estimates the effect of capital adequacy on bank earnings and profitability in Nigeria. Panel data are provided for a sample of 10 strong banks and 10 weak banks in the period 2000-2003 with the strong banks selected on the basis of the first 20 companies listed with the highest market capitalization. With the aid of a Least Square Dummy Variable (LSDV) model, the study found that bank earnings is invariants to factors such as bank assets and bank size but highly driven by liquidity and capital adequacy. The fixed effect model showed the distinction between strong and weak bank does not hold as differential intercept dummy shows that the effect of capital adequacy on bank performance is stronger for weak banks than for strong banks. The study concludes that consolidation exercise that reinforced the capital base of the banks from a minimum capital base of N2 billion to N25 billion was a step in the right direction and suggest that the need for effective regulatory framework in the management liquidity and bank capital to shore-up bank performance in Nigeria.