Abstract:
Over the past twelve years Non-Performing Loans (NPLs) ratio in Community Banks (CBs) has
been above the threshold of the overall bank industry. Operating above the NPLs industry ratio
threshold connotes potential danger while the contrary is core for maintaining a safe loan
portfolio. This study examined the influence of CBs’ efficiency measures and bank categories on
the NPLs ratio threshold using unbalanced panel data from 9 CBs in a span of 17 years. Probit
regression modelled the relationship between variables. The study establishes that Technical
efficiency under Constant Returns to Scale (TeCRS) increased the probability of CBs to operate
within NPLs threshold, while Scale efficiency (SE) and Technical efficiency under Variable
Return to Scale (TeVRs) decreased the chances. Furthermore, Co-operative Community Banks
(CCBs) had lower chances to NPLs threshold compared to Non-Co-operative Community Banks
(NCCBs). The results are consistent with moral hazard hypothesis. The policy implications are
that, bank regulators (BOT) should control CBs’ undue expansion to limit overstretching their
capacity. Furthermore, CBs should fortify group lending methodologies in dealing with small
borrowers. Moreover, bank regulators should reinforce capital adequacy regulations to curb
excessive risk taking in CCBs in order increase probability to operate within NPLs threshold.
