Impact of Liquidity on Profitability of Bank: A Case of Commercial Bank of Ethiopia

Abstract

The major aim of this study was to empirical investigate as how liquidity management affects profitability in commercial banks and how commercial banks can enhance their liquidity and profitability positions. The study used yearly time series data on current ratio, loan to deposit ratio and operating efficiency over the period 1986-2017. Autoregressive disturbed lag model (ARDL) is used to investigate the short-run and long-run effect of liquidity on profitability. Current ratio and loan to deposit ratio of the bank were used to measure liquidity while return on assets (ROA) which is dependent variable is used to measure profitability. The estimated result shows that the immediate impact of changes in the dummy variable of structural break negatively affect return on asset in the short-run. In addition, loan to deposit ratio negatively affects return on asset in the long-run. While current ratio significantly and positively affects return on asset in the long-run, it does not have an impact on return on asset or profitability (ROA) in the long-run. The study suggests that Commercial Bank of Ethiopia should evaluate and redesign its liquidity management strategy and it should be also proactive than reactive so that it will enhance its profitability overtime.

Keywords: Liquidity, Profitability, Commercial Bank of Ethiopia, autoregressive disturbed large model

DOI: 10.7176/RJFA/10-1-04