FOREIGN EXCHANGE AND INTERNATIONAL TRADE ITS EFFECT ON BANK PROFITABILITY

ABSTRACT

This project is titled foreign exchange and international trade it’s effect on bank profitability. It examines the extent and effect of foreign presence in domestic banking markets. It investigate how net interest margins, overhead tax paid and profitability differ between foreign and domestic banks we find that foreign banks have higher profit than domestic bank in developing countries but the opposite is the case for developed countries.Estimation result suggest that an increased presence of foreign bank is association with a reduction in profitability and margins for domestic banks are regard to foreign exchange and international trade.

TABLE OF CONTENTS

Title Page                                                              ii

Approval Page                                                        iii

Certification                                                           iv

Dedication                                                             vi

Acknowledgements                                                 vii

Abstract                                                                viii

Table of Contents                                                   ix

CHAPTER ONE

Introduction

• Background of the study 1
• Statement of Problem 7
• Objectives of the study 7
• Research Questions 8
• Hypothesis 9
• Significance of the Study 10
• Limitation of the study 10
• Definition of Terms 11

CHAPTER TWO

Literature Review

2.1  The effect of Foreign Exchange and International Trade on Bank Profitability                                 13

2.2  Foreign Exchange Market                                  17

2.3  Foreign Currency Exposure of a Commercial bank 22

2.4  Exchange Rate Volatility                                    23

2.5  Foreign Exchange and International Trade Risk management                                                      24

2.6  Foreign exchange and International Trade Risk      27

2.7  Foreign Exchange and International Trade Risk and Commercial  Bank                                                 28

2.8  Central Banks Role in Foreign Exchange Risk Management                                                   32

2.9  Foreign Exchange and International Trade Risk and its Association with other types of Risks.                    33

CHAPTER THREE

3.1  Research Design and Method                             35

3.2  Research Design                                              35

3.3  Research Population and Sample                        36

3.4  Sampling Technique                                                36

3.5  Measuring Instrument                                      37

3.6  Method of Data Collection                                 37

3.7  Method of Data Analysis                                   38

CHAPTER FOUR

Data Analysis and Result                                          40

4.1  Data Analysis                                                  40

CHAPTER FIVE

Summary of Findings Conclusion and Recommendation

5.1  Summary of Findings                                       46

5.2  Conclusion                                                      47

5.3  Recommendation                                             49

Bibliography

Appendix

Foreign exchange is define by

1. Selshy gishen as: the conversion of one country’s currency into that of another in a very free economy a countr’y currency is valued according to factors of demand and supply.
2. By fortex clipart he defined foreign exchange as a system by which one currency is exchange for another to enable international transaction to take place.
3. Harper Collin he defined exchange as the system by which one currency is converted into another to enable international transaction to take place without physical transportation of good.
4. By Houghton Mifflin he defined foreign exchange as a transaction of international monetary business as between government or business of different countie, negotiable bill drawn is one country to be paid in another country.

CHAPTER ONE

INTRODUCTION

1.1  BACKGROUND OF THE STUDY

In recent decades, international trade in goods and financial services has become increasingly important. To facilitate such trade, many banking institution have also become international.

Foreign exchange market (currency market) is a form of exchange for the global decentralized trading of international currencies. Financial centres around the world function as auchors of trading between a wide range of different types of buyers and sellers around the clock.

The foreign exchange market determines the relative valve of different currencies.

The foreign exchange market assist international trade and investment by enabling currency conversion for example, it permits a business in Nigeria import goods from European union member states especially Eurozone members and pay Euros. Ever through its income is in Nigeria. It also support direct speculation in the valve of currencies and the carry tradE, speculation basat on the interest rate differential between two currencies.

In a typical foreign exchange transaction a party purchases some quantity of one currency by paying some quantity of another currency. The modern foreign exchange market began forming during the 1970s after three decades of government restrict on foreign exchange transaction (the Bretton wood system of monetary management established the riles for commercial and financial relations among the world’s major industries states after world war II) when countries gradually switched to floating exchange rate from previous exchange rate regime which remained fixed as per the Bretton wood system.

The foreign exchange market is unique because of the following characteristics.

1. Its huges trading volume representing the largest asset class in the world leading to high liquidity.
2. Its geographical dispersion
3. The variety of factors that affect exchange rates
4. Its continuous operation hours a day except weekend i.e trading from 20:15 GMT on Sunday until 22:00 GMT Friday.
5. The law margins of relative profile compared with markets of fixed income.
6. The use of leverage to enhance profit and loss margins and with respect to account size.

As such it has been referred to as the market closest to the ideal of perfect competition not withstanding currency intervention by central banks. According to the bank for international settlement as of April 2010, average daily turnover in global foreign exchange market is estimated at $3.98 trillion a growth of approximately 20% over the %3.21 trillion daily volume as of April 2007. Some firms specializing on foreign exchange market had put the average daily turnover in excess of US $4 trillion.

Banks have expanded internationally by establishing foreign subsidiaries and branches or by taking over established foreign banks. The internationalization of the banking section has been spurred by the lateralization of financial market worldwide. Developed and developing countries alike now increasingly allow banks to be foreign owned and allow foreign entry on a nation treatment basis.

Financial liberalization of this kind of proceeds, among other reasons on the premise that the gains from foreign entry to the democratic banking system out weight any losses several authors have addressed the potential benefits of foreign bank entry for the domestic economy in terms of better resource allocation and higher efficiency Levine (1996) specifically mention that foreign bank may:

1. Improve the quality and availability of financial services in the domestic financial market by increasing bank competition by enabling the greater application or more modern banking skills and technology.
2. Serve to stimulate the development of the underlying bank supervisory and legal framework.

• Enhance a country’s access to international capital. There may also be cost to opening financial market to foreign competition stightz (1993) for instance discusses the potential costs to domestic banks local entrepreneurs and the government resulting from foreign bank entry.

Domestic banks may incur costs they have to compete with larger international bank with better reputation local entrepreneurs may receive less chess to financial service since foreign generally concentrate on multinational firms and government may find their control of the economy diminished since foreign banks tend to be less sensitive to their wishes.

As yet little evidence exist of the effects of an internationalization of the banking sector other than several case studies  of foreign bank entry MC Fadden (1994) reviews foreign bank entry in Australia and finds that this has led to improved domestic bank entry operations. Bhattacharaya (1993) reports on specific cases in Pakistan, Turkey, and korea where foreign banks facilitated access to foreign capital for domestic project pigott (19986) describe the policies that have made increased foreign bank activity possible in nine pacific Basin countries and provides some aggregate statistics on the size and scope of foreign banking activities in these markets.

1.2  STATEMENT OF PROBLEM       

The statement of problem of the research work is to discuss the effect of foreign exchange and international trade on bank profitability.

1.3  OBJECTIVES OF THE STUDY

       We the researcher our aims are to provide a systematic study of how banks profit from foreign exchange and international activities. However, the objective of the study are as follows:

1. To know the effect of foreign exchange on bank profitability
2. To know the effect of international trade on bank profitability
3. To know the size and scope of foreign banking activities.
4. To know the quality and availability of financial services in the domestic financial market by increasing bank competition.
5. To know the use of leverage to enhance profit and loss margins and with respect to account size.

1.4  RESEARCH QUESTIONS  

1. Do foreign exchange affect bank profitability?
2. Do international exchange affect profitability?

• Do foreign exchange and international trade affect the size and scope of foreign banking activities?

1. Do foreign exchange and international trade affect the quality and availability of financial services in the domestic financial market by increasing bank competition.

1.5  HYPOTHESIS 

H_I:   foreign exchange affect bank profitability

H₀:  foreign exchange do not affect bank profitability

H₂:  international trade affect bank profitability

H₀:  international trade do not affect bank profitability

H₃:  foreign exchange and international trade affect the size and scope  of foreign banking activities.

H₀:  foreign exchange and international trade do not affect the size and scope  of foreign banking activities.

H₄:  foreign exchange and international trade affect the quantity and availability  of financial services in the domestic financial market by increasing bank competition.

1.6  SIGNIFICANCE OF THE STUDY

This work will be immense bat to the economy of the country at large. It will serve as a guard to students of banking and finance who wish to carryout the same research. Finally it will of importance to the banking because it proffers ways on how bank can increase their profit through foreign exchange and international trade.

1.7  LIMITATION OF THE STUDY

This study may not be absolutely comprehensive due to the under listed factors that constrained the study.

Time:     Time was not adequate for a comprehensive study of this work this is because as at the time this research was being carried out we are engaged with lectures, assignments and other home chores. Hence there was no enough time to carryout the research.

Finance:       With the state of the economy and the sky rocking of prices of materials and information, we the researchers as students sourcing fund for the research work is a little bit difficult.

Uncooperative Attitude of the Respondents:

Uncooperative attitude of the respondents, the work of the nature does not ways receive the blessing of the management, hence information not given out some vital information because they felt the researcher may be an agent of competing firm some respondents on their own part did not cooperate.

1.8  DEFINITION OF TERMS

InternationalTrade: This may be defined as the

exchange of goods and services between two or more countries.

Foreign Exchange: Is seen as the transfer of bank

deposits and credit instruments that serves as a means of international payment.

Bank: My be defined as a financial institution where

money and other valuables are kept for safe keeping.

Bank Profitability: This may be defined as the money

the bank earn from the fees that it charges for its services and the interest that its earn on it’s asset.

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