(4) Cote d’Ivoire, (5) Mali, (6) Senegal and (7) Togo. The sub-panel of non-CFA countries includes: (8) Botswana, (9) Cape Verde, (10) Ethiopia, (11) Kenya, (12) Malawi, (13) Rwanda, (14) South Africa, (15) Swaziland and (16) Zimbabwe. The sample selection is dictated by the scope of the database and availability of financial information on these countries.<sup>29</sup> The data are provided on an annual basis end-of-period, between 1993 and 2002, included. The minimum length of the panel covers a period of 3 years for the shortest series (Chad and Rwanda), and up to 10 years for the longest series, producing an unbalanced panel.

The correlation and causality analysis focuses on a number of macroeconomic and microeconomic (banking-sector) variables. At the macroeconomic level, the study investigates the correlation between nonperforming loans and a subset of economic variables: per capita GDP, inflation, interest rates, changes in the reel exchange rate, interest rate spread and broad money supply (M2). At the microeconomic level, it focuses on the association between nonperforming loans and banking-sector variables. The key banking variables include return on asset and equity, net interest margins and net income, and interbank loans. These variables are chosen in light of theoretical considerations and subject to data availability. Nonperforming loans are adjusted for specific provisions (nonperforming loans as a proportion of loans loss provisions) to provide the basis for cross-country comparisons.

For a full coverage, the analysis is carried out for all banks, public and privately-owned banks (see Table II). A disaggregation along the lines of CFA and non-CFA sub-panels is also considered to capture regional effects of banking crises (see Table 3 and 4 in the Annex). The results show a negative association between real GDP per capita and nonperforming loans expressed as a percentage of loans loss provision. This implies that falling per capita income is associated with rising scope of nonperforming loans. To the extent that changes in per capita income is proxy for changes in economic growth, the negative association with nonperforming loans may reflect the impact of cyclical output downturns on the banking sector; a result that is expected in the literature [Gonzalez-Hermosillo (1999)]. The sign of the coefficient is consistent across state and private banks, though the magnitude of the correlation is stronger for state banks and financial institutions.

The study also investigates the association between nonperforming loans and, domestic credit, broad money supply (M2) and inflation. Though the magnitude of the coefficient of correlation between inflation and nonperforming loans is low, the sign is negative; unexpected rise in inflation under cyclical downturns is likely to negatively affect the performance of the banking sector and recovery of loans to private operators and investors. In the extreme case, hyper-inflation may erode banks assets and equity and weaken banks position through the interest rate channel. However, the magnitude of the coefficient is relatively low, and may reflect the general context of declining inflationary pressures in the nineties, especially in the sub-panel of CFA countries.<sup>30</sup> The results also show a positive association between real exchange rate appreciation and nonperforming loans. The magnitude of this association is particularly strong in the sub-panel of CFA countries, which underwent a devaluation of their currency in the early nineties. Real

> 29 Bankscope collects data on individualized banks portfolio and assets structure, including nonperforming loans. 30 With few exceptions, the average CPI inflation rate was relatively low in the CFA monetary zone, which offers a limited room for independent monetary policy, and hence little scope for inflation through money supply [Husain and Faruqee (1994), Monga and Thatchouang (1996)].

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