Determinants of Credit Risk in Ethiopian Banking Industry: Does Political Stability Matter?

Abstract

The continued political instability in Ethiopia’s Tigray Region has made it tough for bankers to recover loan repayments, triggering banks’ nonperforming assets to rise. Beyond the bank industry-specific and macroeconomic determinants, the article aims to understand the relationship between political stability and credit risk. The article focuses on 16 Ethiopian banks to understand the mentioned relationship in developing countries. From 2010 to 2020, data are obtained from the World Governance Indicators, World Development Indicators database and Ethiopia’s National Bank. Based on a two-step dynamic panel estimator, the results suggest that political stability is negatively correlated with credit risk, while political instability does have a positive impact on bank credit risk. Credit risk was inversely related to increased operating efficiency, diversified earnings and national currency appreciation. In contrast, greater bank size, rising inflation and economic expansion all contribute to a high level of credit risk. The loan-to-asset ratio and profitability were shown to have a minor influence on nonperforming loans (NPLs). Thus, this study provides a better understanding of the effects of political stability on the factors that determine levels of NPLs in developing economies.