The Effects of Liquidity Risk and Credit Risk on Bank Stability in Nepalese Commercial Banks

Abstract

This study examines the effects of liquidity risk and credit risk on the stability of Nepalese commercial banks. Return on assets and Altman Z-score are the selected dependent variables. The selected independent variables are non-performing loan, capital adequacy ratio, bank size, loan-to-deposit ratio, debt-to-equity ratio, interest rate spread and loan loss provision. The study is based on secondary data of 12 commercial banks with 120 observations for the study period from 2014/15 to 2023/24. The data were collected from Bank Supervision Report published by Nepal Rastra Bank (NRB) and annual reports of the selected commercial banks. The correlation coefficients and regression models are estimated to test the significance and importance of liquidity risk and credit risk on the stability of Nepalese commercial banks. The study showed that non-performing loan has a negative impact on Z-score and return on assets. It implies that increase in nonperforming loan leads to decrease in Z-score and return on assets. In addition, capital adequacy ratio has a positive impact on Z-score and return on assets. It implies that increase in capital adequacy ratio leads to increase in Z-score and return on assets. However, bank size has a negative impact on Z-score and return on assets. It shows that increase in bank size leads to decrease in Z-score and return on assets. Likewise, loan to deposit ratio has a negative impact on Z-score and return on assets. It implies that increase in loan to deposit ratio leads to decrease in Z-score and return on assets. Similarly, debt to equity ratio has a negative impact on Z-score and return on assets. It implies that increase in debt-to-equity ratio leads to decrease in Z-score and return on assets. In addition, interest rate spread has a positive impact on Z-score and return on assets. It implies that increase in interest rate spread leads to increase in Z-score and return on assets. However, loan loss provision has a negative impact on Z-score and return on assets. It shows that increase in loan loss provision leads to decrease in Z-score and return on assets.