Assessing the Impact of Exchange Rate Risk on Banks Performance in Nigeria

Abstract

Managing exchange rate risk exposure has gained prominence in the last decade as a result of the unusual occurrence of a large number of currency crises. From the corporate management perspectives currency risk management is increasingly viewed as a product approach to reducing a bank or firm’s vulnerabilities from major exchange rate movement. This attitude has also been reinforced by recent international attention to both accounting and balance sheet risk. This study there assesses the impact of exchange rate risk on bank performance in Nigeria. The study employs the usage of secondary sources of information and utilises an auto regression conditional model as means for measuring risk. The model specified the conditional variance as a deterministic function of lagged squared residual. The study revealed that unit increases in exchange rate is driven by an increase in profit after tax (PAT) and equally indicated that there is a significant relationship between exchange rate management and performance of financial institutions, most especially banks. It is recommended that as an effective way of managing exchange rate risk, bank should create a centralized entity within its operations as an institutional strategy to deal with the practical aspects of the execution of exchange rate forecasting, while the hedging approach mechanism should be adopted in the accounting procedure regarding currency risk. Also the type of exchange rate risk that a bank or firm is exposed to, as well as the measurement of the associated risk exposure must be meticulously identified, as a prerequisite for effective management of exchange risk.

Keywords: Banks, Exchange Rate, Exchange Risk, Performance, Purchasing Power Parity