Impact of Market Concentration and Competition on Profitability in Nigerian Commercial Banks
A Thesis Submitted to the School of Postgraduate Studies, University of Lagos
The Nigerian banking industry has witnessed major changes in the number of participating banks during the period 2000-2012, as it moved from pre-consolidation regime to government-induced and, lately, to market-led consolidation period, with no clear indication of impact on concentration, competition and profitability. This study empirically examines, if changes in structure, proxied by bank concentration and measured by the Herfindahl-Hirshman Index (HHI), have effect on the degree of competition and profitability in the Nigerian commercial banking industry. This is done by estimating the H-statistic of the Panzar-Rosse (P-R) model and the market-power index in a dynamic market setting, presumed to exhibit profit persistence. The Generalized Method of Moment (GMM) in a dynamic panel setting was employed to handle the problems of autocorrelation, endogeneity, simultaneity bias and reverse causality, brought about by the introduction of profit persistence into the regression equation. The Hansen J-statistic test of instrument validity, for over-identifying restrictions, confirmed the appropriateness of instruments used, while the long-run equilibrium test confirmed the appropriateness of the P-R model. In testing for the competitive conditions, the H-statistic is obtained from the revenue function where three major input costs, namely: the interest cost of deposits, staff cost and fixed capital cost, are used to estimate the revenue. The two revenue functions, based on Interest Revenues, and Total Revenues are used to check the robustness of the result. The study finds that: (1) the Nigerian banking industry was an un-concentrated market in the pre-consolidation period, while in the post-consolidation period, there is a gradual and steady march towards being moderately concentrated because of a substantial reduction in the number of banks and the emergence of eight mega banks; (2) with the increased concentration, the H-statistics indicates that the intensity of competition is heightened in the post-consolidation period, contrary to the postulation of the Structure-Conduct-Performance Paradigm; (3) increased concentration neither weakens competition nor increases profitability significantly; and (4) the degree of competition in Large Banks is more intense than in the Small Banks in both the pre- and post-consolidation periods. The study recommends the introduction of a competition policy that will make the market more contestable and ensure that the regulators set,for the large-sized banks in the industry, more stringent Credit Risk Management guidelines than for the small-sized ones, as the former are more strategically important to the economy.