Factors Affecting Default Risk of Commercial Banks: Evidence from Ethiopian Banking Industry

The primary aim of banking industry is collecting funds from the community and extending credit to encourage business development and support a growing economy. While default risk is one of the main risks of banks and affects the development of the financial system. This study was conducted to investigate the factors that affect default risk of Ethiopian Commercial banks.To achieve this research objective quantitative research design was used and data was collected mainly through secondary sources. The study applied a balanced fixed effect panel data of eight Ethiopian commercial banks for six years (2005- 2011). The audited annual reports (Balance sheet and income statements) of Ethiopian commercial bank were obtained from National Bank of Ethiopia (NBE). Both macroeconomic and bank specific default risk factors were investigated using fixed effect panel data model.The study reveals that leverage, operating inefficiency and loan growth have a positive statistically significant relationship with default risk. Whereas loan to deposit ratio has a significant negative relationship with default risk. In terms of ownership, government owned banks are more risky than private banks. Accordingly, leverage, operating inefficiency, loan growth, ownership and loan to deposit ratio are significant determinants of default risk of Ethiopian commercial banks in the study period. Generally, in this study bank specific variables have more significant effect than macroeconomic variables. So, the result of the study is of value to policy making, practice and further research. Keywords: Default Risk, Commercial Banking Industry, Macroeconomic and Bank Specific Variable and Ethiopia