USING THE DYNAMIC EQUILIBRIUM CONCEPT IN LIMITING INCIDENCE OF BANK FAILURE

Yekeen Abdulmaliq

Department of Banking and Finance

University of Abuja

ABSTRACT

This paper examines the possibility of using the Dynamic Equilibrium concept in limiting incidence of bank failure. By this method, banks and bank regulators focus on ensuring that deposit inflows are described by their withdrawal sensitivity and a discriminatory liquidity reserve ratios applied to the different types of deposit with a view to ensuring that cheap but volatile deposits do not constitute the greater source of bank credit portfolio. Using aggregate data for the period 1991 to 2010, it is proven that banking system safety measured by savings to GDP ratio depends on intermediation efficiency, payment system efficiency, cost of living and the difference between interest rate and TB rate Sensitivity analysis of banks credit creation capacity to the proposed discriminatory liquidity ratio was conducted and it was discovered that banks could have greater credit creation capacity if they have large amount of sedentary (semi permanent) deposit relative to cheap but flying deposits like demand deposits. It is therefore recommended that banks would strive for more sedentary deposits if they are compelled to lend a proportionately lower portion of demand deposit a tendency that banks like but which exposes them to greater danger of illiquidity and therefore distress risk.

KEY WORDS: Dynamic Equilibrium, Gravitational, Liquidry Ratio, Weight Average Sensitivity

1.0 INTRODUCTION

It is a well known fact that banks do not make loans and advances from paid up capital but from deposit. It is equally known that banks fail when they are technically illiquid or terminally insolvent. Insolvency and illiquidity occur when an organization can no longer meet its maturing financial obligations.

Banks are a different species of organizations, so they have a special source of cash inflows which others don’t have-deposit.

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