Empirical Analysis of the Relationship Between Bank Competition and Financial Stability in Nigeria

The theoretical relationship between bank competition and financial stability is contested, with the competition-fragility view contrasting with the competition-stability hypothesis, and empirical resolution of this debate in the Nigerian banking context addresses an important gap. This study empirically examines the relationship between bank competition and financial stability in Nigeria for the period 2008 to 2022, using bank-level panel data from the financial statements of fifteen commercial banks. Bank competition was measured by the Lerner index of market power and the Boone indicator. Financial stability was measured by the Z-score, non-performing loan ratio, and capital adequacy ratio. Control variables included bank size, asset quality, management efficiency, and macroeconomic conditions. The system generalised method of moments estimator was employed to address dynamic endogeneity. Results showed a non-linear (inverted U-shaped) relationship between competition and financial stability, with the relationship transitioning from positive to negative as competition intensity exceeded a threshold Lerner index of 0.32. This finding is consistent with the franchise value hypothesis, where excessive competition erodes profit margins that buffer against instability. The five largest banks by assets maintained Lerner indices above 0.40, indicating oligopolistic market power with associated stability benefits and competition costs. The study concludes that moderate competition enhances financial stability in Nigerian banking, and recommends competition policy calibrated to prevent both excessive market power and destructively competitive pricing.

Keywords: bank competition, financial stability, Lerner index, Z-score, competition-fragility hypothesis