Nexus between Financial Innovation and Financial Stability in Nigeria

Motivated by the cashless policy drives of the Central Bank of Nigeria to digitalize the Nigerian payment system and the quest for ensuring financial stability, this paper examined the nexus between financial innovations and financial stability in Nigeria. The paper employed disaggregated and aggregated indices in measuring financial innovation and financial stability and analyzed the data using the Dynamic Ordinary Least Square (DOLS). The paper conducts robustness checks using the Autoregressive Distributed Lag (ARDL) model and by employing alternative proxies. The result indicates the presence of a long-run equilibrium relationship between disaggregated measures of financial stability and financial innovation. The outcome was consistent using alternative methods. However, the study also finds the absence of a long-run equilibrium relationship between the aggregated proxy of financial innovation and financial stability, nonetheless, other bank-base and macroeconomic indicators appear to influence financial stability. The impact of the various measures of financial innovation on financial stability appears to be mixed in both the main and robustness analysis, implying that technology-based financial products promote financial stability but are associated with a cost. Therefore, the Central Bank of Nigeria is encouraged to incentivize the use of financially innovative channels toward enhancing the stability of the Nigerian financial system, while employing appropriate prudential tools to safeguard any unsavoury consequences of innovation.