Risk and Resilience: Examining the Role of Capital Adequacy and Credit Risk in Shaping the Performance of Nepalese Commercial Banks

Abstract

The purpose of this study is to evaluate the effects of capital adequacy and credit risk management on the profitability of the Nepalese banking sector. The specific objectives include analyzing the trends of major performance indicators, evaluating the explanatory power of capital adequacy, examining the causal link between credit risks and bank performance, analyzing the relationship with liquidity, and exploring the opinions of bank staff on factors affecting performance. The results reveal that the return on equity (ROE) of commercial banks fluctuated between 6% and 43% during the study period. Positive correlations were found between ROE/ROA and capital adequacy ratio, while negative correlations were observed with loan loss provision, non-performing loans, and liquidity. The study concludes that capital adequacy, liquidity, and loans and advances significantly influence profitability, while loan loss provision and non-performing loans have negative impacts. The results confirm the significance of prudent credit risk management and emphasize the need for banks to adopt effective risk management strategies and enhance capital requirements to improve profitability.