CHAPTER ONE

INTRODUCTION

1.1     Background to the Study

The banking sector in Nigeria has undergone significant reforms over the past few decades, with bank consolidation being one of the most pivotal strategies implemented to enhance the sector’s stability and performance. Bank consolidation typically involves the merger and acquisition of smaller, weaker banks to form larger, more robust financial institutions. This strategic move is driven by the need to create banks that are well-capitalized, efficient, and capable of withstanding economic shocks. The Nigerian banking consolidation exercise, particularly the one initiated by the Central Bank of Nigeria (CBN) in 2004, mandated banks to increase their minimum capital base from ₦2 billion to ₦25 billion, leading to a significant reduction in the number of banks from 89 to 25 by the end of the consolidation process. For both developing and developed countries, small and medium scale firms play important roles in the process of industrialization and economic growth. Apart from increasing per capita income and output, SMEs create employment opportunities, enhance regional economic balance through industrial dispersal and generally promote effective resources utilization considered critical to engineering economic and growth.

Small-scale businesses play a critical role in Nigeria’s economic development. They are essential to job creation, contributing to poverty reduction, and fostering economic diversification. According to reports, Micro, Small, and Medium Enterprises (MSMEs) make up approximately 96% of Nigerian businesses, generate 84% of employment, and contribute around 49% to the national GDP. This sector not only provides opportunities for youth employment and skill development but also enhances local value chains and reduces the reliance on imported goods by promoting the use of locally sourced materials. Small-scale businesses in Nigeria are mainly concentrated in key sectors like trade (wholesale and retail), agriculture, and manufacturing, making significant contributions to economic growth. The Nigerian government supports these enterprises through various policies and incentives, such as tax reliefs, financing schemes, and the promotion of export-oriented business activities. Although Nigeria has witnessed some growth in the financial sector, more needs to be done. As such, a number of reform measures aimed at liberalizing the banking industry and creating an enabling environment for increased participation has been introduced. In particular, the removal of entry barriers ushered new entrants into the industry, thereby increasing the number and spread of financial institutions operating in the country. (Miller, 2024)

The Nigerian government plays a pivotal role in supporting Small and Medium Enterprises (SMEs), recognizing their significance in economic development, job creation, and poverty alleviation. The government has initiated policies like the NIRP, which aims to promote industrialization by supporting SMEs. This plan encourages investment in local industries, innovation, and the manufacturing sector​. SME’s occupies a strategic place in virtually every country or state and they have been fully recognized by government and development experts as the main engine of economic growth and a major factor in promoting private sector development and partnership. They are the principal catalysts for achieving equitable and sustainable industrial diversification; in most countries, SMEs account for well over half of the total share of employment, sales and value added within an economic system . It is in view of this that the study was conducted to investigate the effect  of banking sector credit on the growth of SME’s in Nigeria. Every known regime recognizes the importance of promoting SMEs as the basis of economic growth. As a result, several micro-lending institutions were established to enhance the development of SMEs. Such micro credit institutions include the Nigerian Bank for Commerce and Industry (NBCI), National Economic Reconstruction Fund (Nerfund), the people’s Bank of Nigeria (PBN), the community Banks (CB) and the Nigerian Export and Import Bank (NEXIM), and the Liberalization of the banking Sector. Small and Medium-sized Enterprises (SMEs) are a wide variety and heterogeneous group of enterprises and a very important business segment that provides national socioeconomic development both for developed and developing markets and economies.

Bank consolidation refers to the merging and acquisition of smaller banks to form larger, more financially stable institutions. The Nigerian banking sector experienced significant consolidation in the mid-2000s, primarily through the Central Bank of Nigeria (CBN)’s directive to raise capital base requirements for banks. The consolidation of banks is presumed to lead to more financially sound institutions that can offer better credit facilities, lower interest rates, and more comprehensive financial services to SMEs. Larger banks resulting from consolidation are expected to have stronger capital bases, improved risk management practices, and greater economies of scale, all of which should theoretically translate into more favorable lending conditions for SMEs. However, the reality of these benefits is subject to empirical investigation, as the effects of consolidation can vary based on several factors, including the regulatory environment, market conditions, and the specific dynamics of the banking and SME sectors.

Consolidation has strengthened the capital base of Nigerian banks, allowing them to access international financial markets. As a result, some scholars argue that this has led to better financial products tailored for SMEs. According to a study by Akinyemi and Odedokun (2021), the larger, consolidated banks now have the capacity to offer long-term credit and specialized products for SMEs, especially in sectors like manufacturing and agriculture. Ojo and Adeolu (2020) asserted that bank consolidation improved the overall financial stability of the Nigerian banking sector. This led to increased confidence among business owners, especially SMEs, in the banking system, which in turn improved the willingness of these enterprises to seek formal credit. They note that larger banks are better positioned to withstand economic downturns, ensuring the availability of credit to SMEs even during periods of financial stress​.

Despite the increased capital base of banks, many studies have observed a decline in direct lending to SMEs. Consolidated banks have become more risk-averse, preferring to lend to larger, corporate clients rather than SMEs, which are perceived as high-risk borrowers due to insufficient collateral and inconsistent cash flows. This risk aversion has widened the financing gap for small businesses (Ibrahim and Garba, 2023). Before consolidation, smaller banks provided more personalized services tailored to the unique needs of SMEs. The merging of smaller banks into larger entities led to standardized lending procedures, which often overlook the specific financing needs of SMEs. This has made it more difficult for SMEs to access customized financial products, reducing their ability to secure loans under flexible terms​.

Statement of the Problem

Despite efforts to stabilize the Nigerian banking system through consolidation, the financing needs of Small and Medium Enterprises (SMEs) remain largely unmet. Although bank consolidation was intended to strengthen the financial sector, Ibrahim and Garba (2023) opined that it has led to an unintended consequence: reduced lending to SMEs. Larger consolidated banks, which are more risk-averse, tend to focus on corporate clients, neglecting SMEs, which are seen as high-risk borrowers due to their lack of collateral and inconsistent cash flows. This has created a gap in credit availability for SMEs, who are often denied the necessary funds to scale or sustain their operations​. smaller banks, prior to consolidation, provided tailored financial services to SMEs. Post-consolidation, the banking sector has shifted towards more standardized services that prioritize large corporations, reducing the availability of customized products that SMEs need for their growth. This lack of flexibility and attention to the unique needs of SMEs has hampered their ability to access appropriate financing.