Determinants of Capital Adequacy Ratio of Commercial Banks in Ethiopia
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Date
2014-05
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Addis Ababa University
Abstract
Capital adequacy implies the conventional assessment of the minimal level of capital,
according to certain parameters, which reflect the dimension of banking activity and of
related risks, capable to provide a correlation between the supposed obtained benefits and
potential loss caused by a certain risk level. Since Capital adequacy ratio (CAR) is the ratio
that is set by the regulatory authority in the banking sector, and this ratio can be used to test
the health of the banking system. Thus, this study examines the relationship between capital
adequacy ratio and firm specific (profitability, deposits, loan loss reserve, leverage, net
interest margin, size and liquidity) determinants of capital adequacy ratio of Ethiopian
commercial banks. In order to investigate these issues a quantitative method research
approach is utilized, by using documentary analysis. More specifically, the study uses twelve
years (2002 - 2013) data for eight banks in Ethiopia. The study used ordinary least square
model to analyse the data by eviews 6 econometric software. The findings show that deposits,
leverage, loan loss reserve and liquidity of the banks are important determinants of capital
adequacy ratio of commercial banks in Ethiopia. However, management quality, profitability
and size of banks are found to have no statistically significant impact on the capital adequacy
ratio of banks in Ethiopia. The analyses indicated that the variables of deposits, liquidity,
leverage, and loan loss reserve were significantly related to capital adequacy ratio.
Therefore, banks should pay greater attention to these significant variables in determining
their capital adequacy ratio
Keywords: Capital adequacy ratio, Ethiopian Commercial Banks, Panel data analysis
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Keywords
Capital adequacy ratio; Ethiopian Commercial Banks; Panel data analysis