Interest Rates and Non-Performing Loans of Commercial Banks in Kenya
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Date
2023
Authors
Robert, Eric Kinyoti
Journal Title
Journal ISSN
Volume Title
Publisher
Kenyatta University
Abstract
In the last ten years (2010 to 2019), NPLs in Kenyan commercial banks has been rising.
Between the year 2011 and 2018, NPLs increased from 4.4 per cent and 12.7 per cent. High
interest rates contribute to NPLs as they influence the borrowers’ capacities to service the
loans. However, despite the decrease in interest rates, after introduction of interest rate
capping in 2016 non-performing loans have still been increasing. It was therefore essential
to examine influence of interest rates on NPLs in Kenyan commercial banks. Therefore,
general study objective was to assess the association between IR and Kenyan commercial
banks’ NPLs. Specific objectives were to examine influence of credit size, bank lending
rates and interest on deposit on NPLs. The study sought to evaluate moderating effect of
CBR on association between interest rate and NPLs. The study was guided by classical
theory of interest rate, Keynes theory of liquidity reference, information asymmetry theory
as well as adverse selection theory. An explanatory research approach was adopted. Group
of interest comprised all 39 commercial banks operating in Kenya that were currently
operational. Since the sample size was small (39) a bank census was carried out and
duration between 2016 and 2020 was covered in this study. The study deployed secondary
data, which was acquired from Kenyan commercial banks’ financial statements and from
CBK supervision reports. Moreover, the study made use of a data extraction tool to collect
secondary data. In analysis of data, the researcher used inferential and also descriptive
statistics and all statistical analysis was carried out with the support of STATA version 14.
Descriptive statistics comprised of frequency distributions, percentages, mean, variances
as well as standard deviation. On the other hand, inferential statistics were carried out using
regression analysis, which was fixed effect based on the results from Hausman test.
Diagnostic tests that were done include normality test, heteroscedasticity test,
autocorrelation test, linear test, Hausman test, multicollinearity test, and the UR test. The
study found that IOD measured in terms of Interest on Money Deposited has significant
and inverse effect on the NPLs (Ratio of gross NPLs to gross loans) of Kenyan commercial
banks. The research discovered that BLR measured in terms of Commercial banks
weighted average rates, has a significant and positive effect on NPLs of Kenyan
commercial banks. In addition, CS measured using amount of loans and advances has
insignificant negative effect on NPLs. Additionally, CBR has no moderating influence on
the link between IR and NPLs in Kenyan commercial banks. The study therefore
recommends that the commercial banks in Kenya ought to lower the interest rate charged
on deposits since increasing rate of interest lowers demand for loans and also leads to loan
default by the borrowers. In addition, the commercial banks’ management in Kenya should
develop proper strategies to increase the lending interest rates such as increasing the spread
between federal funds rate and the rate that customers are charged by the bank in order to
increase the loans’ profitability. Moreover, the management of commercial banks should
put proper measures to lower the credit size since huge loans size leads to high possibility
of defaulters. Moreover, lowering the credit size increases the number of loan borrowers
which consequently increases the profitability.
Description
A Research Project Submitted to School of Business in Partial Fulfillment of the Requirement for the Award of the Degree of Master of Business Administration (Finance Option) of Kenyatta University, November, 2022
Keywords
Interest Rates, Non-Performing Loans, Commercial Banks, Kenya