Re-estimating the impact of liquidity on bank profitability in Nigeria

In respond to the heightened banking operational risk linked to the liquidity crunch, the Basel Committee for Bank Supervision has continued to advocate for banks holding a considerable liquid asset and also operating profitably. The dilemma thus, is in finding a balance between liquidity and profitability as they are generally specified to be inversely related, when banks’ liquidity increases profitability decreases and vice versa. Theoretically, the Liquidity Profitability Trade-Off theory proposes that banks cannot pursue the two objectives simultaneously without trade-off hence the need for optimal regulation and supervision by the monetary authority to maintain safety and soundness of the banking system. This paper therefore re-assesses the trade-off between liquidity and profitability for Nigerian banks drawing on new data available from the official sources. It founds an insignificant relationship between liquidity and bank profitability. It also finds that real interest rate (first lag) is significant and negatively related to return on assets (ROA) while real GDP grow rate has a negative and insignificant relationship with ROA of banks. The puzzling result is an indication that Nigerian banks continue to generate profits even when there is a slowdown in domestic economy, and this may have something to with the banks’ business model and the funding market environment