Effect of open market operation on commercial banks operation (a case study of first bank plc)

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This research investigates the effect of open market operation on commercial banks.                                                                                                                                                                                                                                                                                                              This is performed by examining the causality and patterns of reactions of banking rates with respect to variation in open market rates. Based on vector auto regression analysis we show that there is one-way causation running from the open market rates to banking rates. Changes in open market rates significantly cause changes in the spread and deposit rates. However, no significant causation is identified for lending rates. The impulse response functions indicate that spread declines following positive innovation in open market rates and this is mainly due to the greater sensitivity of deposit rates to open market rates. The response of lending rates is shown to be low thus contributing to the decline in spread. Evidence of a dichotomy was also provided between banks asset and liability rates by failing to support causality between the two rates. These results suggest that for the commercial banking firms, increase in open market rates hindered their activities and could affect bank performance.


                                        CHAPTER ONE


  • Background of the study

An open market operation is an activity by a central bank to give (or take) liquidity in it’s currency to (or from) a bank or a group of banks. The central bank can either buy or sell government bonds in the open market (this is where the name was historically derived from) or which is now mostly the preferred solution enter into a rapor or secured lending transaction with a commercial bank: the central bank gives the money as a deposit for a defined period and synchronously takes an eligible asset as collateral. A central bank uses open market operation as the primary means of implementing monetary policy. The usual aim of open market operations is aside from supplying commercial banks with liquidity and sometimes taking surplus liquidity from commercial banks to manipulate the short-term interest rate and the supply of base money in an economy and thus indirectly control the total money supply in effect expanding money or contracting the money supply. This involves meeting the demand of base money at the target interest rate by buying and selling government securities or other financial instruments. Monetary targets such as inflation, interest rates or exchange rates are used to guide this implementation.

The central bank also known as the banker’s bank maintains zero account for a group of commercial banks, which are the direct payment banks. A balance on such a zero account represents central bank money in the regarded currency. Since central bank money currently exists mainly in the form of electronic records rather than in the form of paper or coins (physical money), open market operations can be conducted by simply increasing or decreasing (crediting or editing) the amount of electronic money that a bank has in its reserve account at the central bank. This does not require the creation of new physical currency unless a direct payment bank demands to exchange a part of its electronic money against banknotes or coins.

In most developed countries, central banks are not allowed to give loans without requiring suitable assets as collateral. Therefore, most central banks describe which assets are eligible for open market transactions. Technically, the central bank makes the loan and synchronously takes an equivalent amount of an eligible asset supplied by the borrowing commercial bank.

Classical economic theory postulates a distinctive relationship between the supply of central bank money and short-term interest rates: like for a commodity, a higher demand for central bank money would increase its price, the interest rate. When there is an increased demand for base money, the central bank must act if it wishes to maintain the short-term interest rate. It does this by increasing the supply of base money: it goes to the open market to buy a financial asset such as government bonds. To pay for these assets, new central bank money is generated in the seller’s loro account, increasing the total amount of base money in the economy. Conversely, if the central bank sells these assets in the open market, the base money is reduced.

Technically, the process works because the central bank has the authority to bring money in and out of existence. It is the only point in the whole system with the unlimited ability to produce money. Another organization may be able to influence the open market for a period of time but the central bank will always be able to overpower their influence with an infinite supply of money.


Sales or purchases of government debt instruments (treasury bonds, treasury bills, treasury notes) on the open financial markets by a country’s central bank as part of it’s efforts to influence the size of the money supply and the levels of interest rates. Central bank decisions to buy up government debt instruments make for an expansionary monetary policy while sales of government debt instruments by the central bank represent a contractionary monetary policy.

  • Statement of the problem

Ever since the central bank of Nigeria invented the open market operation as a contractionary monetary policy to checked mate the liquidity or activities of the commercial banks, it has yield a lot of result in implementing the federal government policy, it is on this backdrop that the researcher intends to investigate the effect of the central bank monetary policy on the liquidity of the commercial banks.

  • Objective of the study

The main objective of the study is to ascertain the effect of open market  on commercial banks operation with emphasis on first bank plc. However, for the successful completion of the study, the researcher intends to achieve the following sub-objective:

(1) To ascertain the effects of open market operation on commercial banks

(2) To ascertain the impact of commercial banks towards the customer’s satisfaction

(3) To ascertain the relationship between the commercial bank and the customers

(4) To evaluate the role of the open market in the development of the commercial banks


1.4 Research question

For the successful completion of the study, the following research question were formulated:

  • What are the effects of open market operation on commercial banks?
  • What are the impacts of commercial banks towards the customer’s satisfaction?
  • What is the relationship between the commercial banks and the customers?
  • What is the role of the open market in the development of the commercial banks?


1.5 Significance of the study

It is perceived that at the completion of the study, the findings will be of great importance to the management of banks as the study gives them an insight of what open market is all about, the study will also be of great importance to the regulators of the banking sector, the study will also be of great importance to researchers who intend to carry out a study on a similar topic and finally the study will be of great importance to academia’s as it will add to the pool of knowledge.


1.6 Definition of terms:

Open market operation

Open market operations refers to the buying and selling of government securities in the open market in order to expand or contract the amount of money in the banking system facilitated by the federal reserve. Purchases inject money into the banking system and stimulate growth, while sales of securities do the opposite and contract the economy. The federal’s goal in using this technique is to adjust and manipulate the federal funds rate which is the rate at which banks borrow reserves from one another.



A bank is a financial institution that accepts deposits from the public and creates credit. Lending activities can be performed either directly or indirectly through capital markets. Due to their importance in the financial stability of a country, banks are highly regulated in most countries. Most nations have institutionalized a system known as fractional reserve banking under which banks hold liquid assets equal to only a portion of their current liabilities. In addition to other regulations intended to ensure liquidity, banks are generally subject to minimum capital requirements based on an international set of capital standards known as the basel accords.


1.7  Organization of the study

This research work is organized in five chapters, for easy understanding as follows, Chapter one is concern with the introduction which consist of the (overview of the study), statement of problem, objectives of the study, research question, significance or the study, research methodology, definition of terms and historical background of the study. Chapter two highlight the theoretical framework on which the study is based, thus the review of related literature. Chapter three deals on the research design and methodology adopted in the study. Chapter four concentrate on the data collection and analysis and presentation of finding.  Chapter five gives summary, conclusion, and recommendations made of the study.


Brief history of first bank

First Bank of Nigeria sometimes referred to as first bank is a Nigerian multinational bank and financial services headquartered in Lagos. It is the biggest bank in Nigeria by total deposits and gross earnings and operates a network of over 750 business locations across Africa, the United Kingdom and representative offices in Abu Dhabi, Beijing and Johannesburg set up to capture trade-related business between geographies. It specializes in retail banking and has the largest retail client base in Nigeria. In 2015, The Asian banker awarded First bank the Best Retail Bank in Nigeria award for the fifth consecutive year.

The Nigerian banking business operates nationally, with an active customer base of over 10 million, and employs over 7,000 staff. First bank operates along four key Strategic Business Units (SBUs) – Retail Banking, Corporate Banking, Commercial Banking and Public Sector Banking. It was previously structured as an operating holding company before the implementation of a non-operating Holding Company structure

First Bank of Nigeria Limited (First bank) is Nigeria’s premier and most valuable banking brand, and largest financial services institution by total assets and gross earnings. With more than 10 million customer accounts, First bank has over 750 branches providing a comprehensive range of retail and corporate financial services.

Since its establishment in 1894, First bank has consistently built relationships with customers focusing on the fundamentals of good corporate governance, strong liquidity, optimized risk management and leadership. Over the years, the Bank has led the financing of private investment in infrastructure development in the Nigerian economy by playing key roles in the Federal Government’s privatization and commercialization schemes. With its global reach, First bank provides prospective investors wishing to explore the vast business opportunities that are available in Nigeria, an internationally competitive world-class brand and a credible financial partner.

First bank has been named “Most Valuable Bank Brand in Nigeria” five times in a row 2011, 2012, 2013, 2014, 2015 by the globally renowned “The Banker Magazine” of the financial times group; and “Most Innovative Bank in Africa” in the EMEA finance african banking awards 2014. Recently, for the fifth consecutive time, the Bank clinched the “Best Retail Bank in Nigeria” award by The Asian Banker. Their brand purpose is to always put their customers, partners and stakeholders at the heart of their business, even as they standardize customer experience and excellence in financial solutions across Sub-Saharan Africa, in consonance with their brand vision.











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Effect of open market operation on commercial banks operation (a case study of first bank plc)


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