Systematic Risk Factors and Non-Performing Loans of Non-Listed Commercial Banks in Kenya
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Date
2025-01
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Kenyatta University
Abstract
Commercial banks are vital in the economic growth and development of countries. The ability of the banking sector to function effectively is essential for promoting economic expansion, attracting foreign and investment from within the country, reducing poverty, and creating jobs. Banks in carrying out their financial intermediation roles are faced with the risk of loan default. Commercial banks in Kenya are characterized by high level of nonperforming loans. It is reported that non listed commercial banks constituted a significant portion of the non-performing loan. The non-performance of loans by listed these banks at the Nairobi Securities Exchange has been attributed to systematic risk factors. The investigation, therefore, examined how systemic risk factors affect the loans that are non-performing of commercial banks that are listed on the NSE. Particularly, it explored how interest rates, inflation, and exchange rates affect the non- performing loans of Kenyan banks that are not publicly traded. Life Cycle Consumption Theory, Deflation Theory and Trade-off Theory were utilized. The study employed exploratory research design. The intended audience included each of Kenya's forty-one (41) commercial banks where a census sampling design was utilized. The time frame 2013 to 2021 was considered. Panel data was utilized and was analyzed using panel regression model. Diagnostics tests for norma1ity, multicollinearity and homoscedasticity were conducted. Findings are accessible in tabular format with inflation having negative and statistically insignificant influence on non-performing loans (NPLs) of these banks over the long term; however, it exhibits a significant positive effect in the short term. The research concludes that the overall influence of inflation on the NPLs of commercial banks is statistically insignificant, attributed to effective policies implemented by the monetary authority aimed at reducing such impacts on bank customers in Kenya. It is recommended that the central bank prioritize short-term strategies to alleviate inflation's effects on the banking sector. Additionally, interest rates have a positive correlation with non- performing loans in Kenyan commercial banks, affecting both the short and long term. While the long-term impact is deemed insignificant, the short-term effect of interest rates on NPLs is significant, leading to the conclusion that rising interest rates increase borrowing costs, thereby affecting customers' repayment capabilities over time. In contrast, fluctuations in interest rates during the short term can prompt borrowers to seek ways to increase their default rates, which adversely influences loan performance for banks in Kenya. Consequently, targeted short-term measures should be implemented by the central bank to manage interest rate volatility and its immediate repercussions on loan performance. Moreover, the exchange rate positively influences non-performing loans among commercial banks in Kenya in both the short and long term. However, its long-term effect on NPLs is considered insignificant, while it has a significant impact in the short term, highlighting that changes in exchange rates play a crucial role in determining non-performing loans for Kenyan banks in the short run. To address excessive volatility in the currency market, it is suggested that the central bank bolster its foreign exchange reserves through strategic interventions. Lastly, gross domestic product (GDP) shows a negative effect on NPLs for these banks across both time frames, yet this effect remains statistically insignificant in both the long and short run. Conclusively, fluctuations in economic growth do not significantly influence the levels of NPLs within the banking sector. Policymakers should focus on enhancing the overall financial stability and operational efficiency of the banking sector rather than relying on GDP growth as a primary lever for managing NPLs.
Description
A Research Project Submitted to the School of Business, Economics and Tourism in Partial Fulfilment of the Requirement for the Award of the Degree of Master of Business Administration (Finance Option) of Kenyatta University, January, 2025
Supervisor;
1.Danel Makori