The relationship between capital requirement and Financial performance of Commercial Banks in Kenya
Mwai, Evah Nyawira
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Financial regulation imposes requirements on banks to hold certain amounts of capital. When the financial crisis began in 2007, the capital banks held fell significantly. Regulators could have taken the view that capital is there as a buffer against a rainy day, and the rainy day had come, so the buffer should be used up indeed. Regulators tended to maintain their rules, so that if banks capital had fallen below the regulatory thresholds they were required to raise additional capital. Spurred by stronger regulatory requirement, banks steadily increased their capital ratios since the financial crisis as required by the Central Bank of Kenya. This study sought to evaluate the relationship that exists between capital requirement set by the Central Bank of Kenya and the financial performance for the Kenyan banking sector. The study was guided by the, Economic theory of regulation, the capital buffer theory, the liquidity theory and the agency theory. The specific objective of the study was to evaluate the relationship between capital requirement and financial performance of commercial banks in Kenya. The research design adopted by the study was descriptive to examine the relationship between the variables. The target population was a total of forty-three (43) commercial banks operating in Kenya. All the banks were considered in the study since the number of banks in Kenya is small and manageable for a census study. The study used secondary data which was collected from bank supervision and banking sector reports which are released on an annual and quarterly basis by the Central Bank of Kenya and the Commercial Banks. Data was analyzed using descriptive statistics and regression analysis. The findings of the study was that there was a significant positive relationship between minimum core capital and financial performance, a significant positive relationship between total capital and financial performance, there was a significant negative relationship between leverage and financial performance as measured by ROA and ROE but the relationship was insignificant as measured by NIM. With the moderating variable included in the model, the results of all the models gave insignificant results indicating that ownership did not have a significant effect on performance of commercial banks in Kenya. The study recommended that banks should comply with capital requirements since apart from increasing on its financial performance, increased capital provides a measure of assurance to the public that an institution will continue to provide financial services even when losses have been incurred, thereby helping to maintain confidence in the banking system and minimize liquidity concerns. The study also recommended strict regulations to cap leverage levels among commercial banks to avoid any possible cases of insolvency. This study was limited to capital adequacy ratios only and did not include many other variables that influence performance of banks. Therefore, other researches can include such variables as liquidity ratios, management efficiency ratios, asset quality measures and variables that encompass sensitivity to market conditions.