THEORETICAL LITERATURE REVIEW OF RELATIONSHIP BETWEEN COMMERCIAL BANK CREDIT AND INDUSTRIAL SECTOR GROWTH IN NIGERIA

            The financial sector limits, prices, pools and trades all the risks involved in a transaction and provide incentives for savers to invest by matching potential earnings with those risks. Empirical research has shown that financial depth is generally associated with an increase in GDP (Levine, 1997). In contrast, distorted financial markets with high macroeconomic instability, direct government involvement and weak regulations can have extremely adverse effects on industrial sector and on economic growth in general. As a result, the focus of much recent work on the financial sector has been on deepening and broadening financial markets in developing countries and on improving financial sector regulation, supervision and governance. The increasing participation of commercial banks has been one of the most striking structural changes experienced by banking systems in developing countries over the past decade. 

In Nigeria the number of banks stands at 24 due to the recent consolidation exercise. Common argument against bank credit is that banks might tend to “cheery pick” the most profitable customers, reducing financial risks and thus, affecting the overall distribution of credit. In particular, the main area of concern is the availability of credit to private investors and small firms. In many developing countries, small firms account for a very significant share of total value added and generate a large fraction of the total jobs in the economy. Commercial banks are perceived as having a comparative advantage over other credit institutions in small business credit. This role is likely to be more important in less developed countries that are generally more heavily dependent on bank financing. In Argentina for example, 79 percent of small industrial firms have bank debt (Lorens, Van der Host, and Isusi, 1999). Moreover, small firms tend to have exclusive dealings with a single bank with which they have a strong relationship, given the paucity of information on the risk characteristics of individual investors or small firms. 

Therefore, access to credit by private investors and small firms would be reduced if banks were to neglect small firms and/or drive domestic micro-finance banks from the market, destroying the information generated through bank-borrower relationship. A number of recent studies have shown that commercial banks seems to improve banking systems efficiency in the provision of credit to investors and contribute to overall banking stability in developing countries (See Dermirgue-Kunt, Levine, and Min (1998), Levine (1999), Barajas et al (2000). On the other hand, the effect of bank credit on industrial sector in developing countries especially in Nigeria remains largely unexplored. Olubiyo, S.O. and Hill G.P (2003), examined the changes in bank credit to the farm sector before and since the inception of the subsidized credit insurance in Nigeria, the study also identified the pattern of bank credit to different agricultural sub-sectors. The findings from the study suggested that there is the need for the government to review its policy of underwriting loans as an instrument to encourage increased bank credit to small-scale farmers. 

Evidence from the United States indicates that large and organizationally complex institutions find it difficult to give credit to information opaque small and medium sized enterprise (Berger and Udell (1995), Berger et al (1995); Keeton (1995), Levonian and Soller (1995), Berger and Udell (1996), Peek and Rosengren (1996), and Strahan and Weston (1996). These organizational diseconomies might explain why a number of studies have found that commercial banks, which as shown by Focarelli and Poozolo are typically large appear to allocate greater shares of their credit to activities and sectors dominated by big investors or large firms (Goldberg, 1992; Cho et al, 1987; and Clarke et al, 2000). While large banks are unlikely to replicate the credit methods of small domestic micro finances banks technological innovation could offer them an avenue for increasing small firm’s credit. Mester (1997) argues that advances in credit scoring methodologies, together with enhanced computer power and increased data availability, are likely to change the nature of small business credit.

This suggests that there could be a non-linear and in particular U-shaped relation between bank size and credit to small firms, Mester, 1997) and Peek and Rosengren (1998). The literature for the US also suggests that the type of bank may affect credit patterns. For example, the evidence from the U.S. indicates that de novo entrants seem to devote larger shares of their assets to small firms than other banks (Goldberg and White, 1998. Deyoung et al, 1999 and Jenkins (2000). Commercial bank entry through merger and acquisition might have different effects on small firm credit. Some studies find that, merger and acquisitions among small banks led to increased propensity to give credit to small firms following their consolidation (Peek and Rosengren, 1998), Walraven, 1997), Strahan and Weston (1998), Berger et al (1998). However, when medium sized and large banks are involved, a number of recent works have reached conflicting conclusions. Keeton (1996) and Berger et al (1998) uncovered that merger and acquisitions tend to result in a reduction in small firm credit when large banks are involved, but Strahan and Welson (1998) found no significant change in the ration of small firms credit to assets following large merger and acquisitions.

There is however, very little literature that deals directly with the implications of bank credit to investors and small-medium sized firms in developing countries. Argentina is the only country for which we found such studies. Belger and Rozenwureel (2000), indicate that bank participation in Argentina is associated with a reduction of bank credit to medium sized firms from around 20 to 16 percent of total credit between 1996 and 1998. In contrast, Escude et al, (2001), found that despite their lower tendency to give credit to small and medium sized firms, banks have increased both their propensity and their market share of giving credit to the sector between 1998 and 2000. Finally, using a rich data set on Argentinean business sector in December, 1998, Berger, Klapper, and Udell (2000), find that large banks and foreign owned banks are less inclined to extend credit to smaller firms which are likely to be informational opaque. Gien the paucity of research on the impact of bank credit on industrial sector or access to credit and the importance of this issue from a policy stand point, further investigation is clearly warranted.