Nexus Between Financial Deepening and Stability of Financial Sector in Nigeria

Abstract

ABSTRACT: Extant studies focused on investigating the relationship between financial deepening and aggregate economy with no consideration for whether or not financial deepening is responsible for or affects financial sector’s stability. Sequel to the foregoing, this study examined the nature of causation between financial deepening and financial sector’s stability with special interest in the direction of causality between the two. Financial sector’s stability (FSSI) was proxied with bank z-score while financial deepening by deposit money banks (FDDMB), Central Bank of Nigeria (FDCBN), insurance sector (FDINS), financial market (FDSTM) and the entire financial system (FSD) was proxied with the ratio of the bank assets to GDP, ratio of the Bank assets to GDP, ratio of insurance assets to GDP, the ratio of market capitalization to GDP and financial system deposit as a percentage of GDP respectively. Time series data were collected from the World Bank development database for the period between 1999 and 2021 and were analysed by employing Autoregressive Distributed Lags Model following the integration of the study’s variables at I(0) and I(1). Although, the result revealed that most of the proxies of financial deepening showed positive but insignificant relationship with financial sector’s stability in Nigeria: FDINS (p-value = 0.3181>0.5), FDSTM (p-value =0.6477>0.5), FSD (0.6565>0.5); FDCBN was negative and insignificant with p-value = 0.0939>0.5. However, financial deepening by the deposit money banks was the only significant predictor with p-value = 0.0365<0.05. Furthermore, the causality test revealed that there was an element of bidirectional causality between the financial deepening and financial sector’s stability in Nigeria. This means that financial deepening causes financial sector’s stability and vice versa. Consequently, the study concluded that there is a mutual cause and effect relationship between the financial deepening and financial stability in the Nigerian banking sector and recommended aggressive deposit mobilization among others by the both bank and non-bank financial agents, so as to further deepen finance and stabilize Nigerian financial sector.