Oil Prices, Early Warning Indicator and Banking Crisis:A Study of an Oil Importing Country, Pakistan

Abstract

A high ratio of non-performing loans is not only a big challenge for the economic growth of a country but also an increasing threat for the smooth functioning of the banking industry. Moreover, oil is an essential commodity and large variations in its price are a major source of economic instability. Previous studies have reported that oil price has a significant impact on non-performing loans in oil-exporting countries. However, this paper studies the impact of Oil Prices and Early Warning Indicator (EWI) along with other macro-economic and bank-specific variables on non-performing loans in an oil-importing country, Pakistan. The time frame of the sample is 2006-2019 and one step and two-step system dynamic GMM model has been applied. According to the results, oil prices and early warning indicator both have a positive and significant impact on non-performing loans in an oil-importing country. Hence, it is recommended that bank management and policymakers should be vigilant when they see oil prices, credit to GDP gap of the economy rising. Furthermore, results show that economic growth, profitability, and capital adequacy ratio have a negative and significant impact on non-performing loans.