The Relationship Between Liquidity Risk and Bank Performance

Risks are everyday natural anticipated events in business and community settings that may have a detrimental impact on an individual or institution if not well managed. In particular, in the banking sector, Agoraki, Delis, and Pasiouras (2011) observed that risks are conditions that might escalate the chances of loss or gain and are uncertain thus holds the potential to manipulate the financial performance of a bank and other financial institutions. Therefore, there is a need for the establishment or adoption of risk management practices (RMPs) that would be instrumental in reducing banks’ exposure to risks. Financial liquidity is an elusive concept yet of significant importance in determining any given economic system (Vodovà 2013). Moreover, according to Hakimi and Zaghdoudi (2017), prudent management of liquidity is paramount in determining the financial institutions’ performance in a country, region or the entire world. On the other hand, liquidity risk is the possibility that the bank will be unable to meet its financial obligations in the future with immediacy without suffering a considerable loss. Arif and Anees (2012) opined that liquidity risks are detrimental to the banks’ financial performance and have a significant negative impact on the firm’s reputation.

Wójcik-Mazur and Szajt (2015) opined that the financial sector faces various liquidity risks, which have been linked to lack of proper asset and liability management and to some extent, the financial volatility markets. According to Chortareas, Girardone, and Ventouri (2011), liquidity risks emanate from various factors, including the inability of the banks to balance their currents assets against current liabilities effectively. However, in the recent studies, it has been revealed that despite the efforts by a financial institution to manage their liquid assets prudently, they have experienced a degree of liquidity risks resulting from the global economic crises the most recent one being the 2007-2009 depression (Ibrahim, 2018). The European banking industry had been initially hit by the global financial crisis of 2007-2009 but is considered to have been recovering slowly but steadily (Ly, 2015). Natural calamities also play a crucial role in enhancing liquidity risks with the recent global COVID-19 pandemic being predicted to have a potential impact on banks’ financial well-being due decline in consumption of financial services and low performance of existing loans.