The Effect of Selected Macro Economic Variables on Trade Finance Loans of Commercial Banks in Kenya

Abstract

The paper sought to find out the effect of effects of selected macro-economic variables on the performance of trade finance loans issued by commercial banks in Kenya. The dependent variable was the performance of trade finance loans originated by the banks and the independent variable were selected macroeconomic variables such as inflation, interest rate, and exchange rate. The size of the loan portfolio outstanding was also used as an independent variable. Data was collected from the CBK and CRB detailing trade finance loans issued by the 43 banks. The macro economic data was collected from KNBS registry. The justification for the study was premised on the conflicting empirical findings advanced by other previous studies. Moreover, the theories anchoring the relationship in the performance of macroeconomic variables and the performance of loans give conflicting prepositions. The liquidity preference theory and the financial accelerator theory proposes a positive relationship between contractionary macro-economic variables and defaults, yet the moral hazard theory opines that there is no relationship between the, macroeconomic variables and default. The theory avers that managers are able to predict the movements in macro-economic variables and price it at the origination of the loan. It therefore proposes that defaults are created because of excess risk assumed by manager in order to qualify for bonuses. A non-directional two tailed test indicate that the model as constituted above contributes to 68 % of the changes in performance. The Pearson correlation matrix indicates that inflation and interest rate are positively correlated. Exchange rate and size was found to have a negative relationship. The paper used the ordinary least square regression model to assess the impact of explanatory variable on the dependent variable at 95% level of significance. The research found a positive association between interest rate and performance and a negative statistically significant relationship between exchange rate and performance. These results validate the assumptions advanced by the liquidity preference theory of interest and money and the financial accelerator theory. These theories aver that inflation worsens the welfare of lenders thus making them to increase interest rates to cover up for the lost value of money. These multiplier effects increase the debt burden and consequently leads to defaults. The research also concludes that the moral hazard theory as proposed by Meckling (1976) does not hold because the macro economic variables were found to be statistically significant as opposed to its general assumption that thy are insignificant in explaining defaults. Given the findings the study therefore recommends to banks and regulators to consider restructuring the loans during high inflationary moments.