Effect of Interest Rates Spread on the Financial Performance of Deposit Taking Microfinance Institutions in Kenya

Abstract

To realize the sustainability of financial institutions among Microfinance Institutions, the interest of clients should be factored in and prioritized. Since the clients are presupposed to make rational decisions, therefore, the increment in the interest rate enhances the income to the bank but discourages the potential clients. This study aimed at finding the effect of interest rates spread and the financial performance of Deposit Taking Microfinance Institutions in Kenya. The major theories that supported this study comprised agency theory, microcredit theory, and liquidity preference theory. The study maximized descriptive research design. The assessment used this approach because it gives information that can be used to generalize the results to the entire population. Furthermore, the research computed the calibration of elements before settling on the relevance operationalization metrics. This survey adopted the census method thereby prioritizing all the fourteen DTMFIs in Kenya from 2017 to 2021. Furthermore, the data was sourced by secondary methods. The information used came from published financial statements of Deposit Taking Microfinance Institutions in Kenya. The study was sourced from published statements and CBK. The survey covers four-year period from 2017 to 2021. Additionally, the linear model was used to determine if the rate of interest spread had a significant effect on the performance of DMFIs in Kenya. Further, the predictor variables of the study include the interest rate spread, management efficiency, and operational cost efficiency. The predicted variable is ROA, which measures financial performance. Contextually, the assessment concentrated on the 14 DTMFIs located in Kenya operational in a timeframe of 5years. Empirically, the analysis made included multicollinearity, autocorrelation and the normality test were spearheaded. In this research output, the study postulated that the interest rate spread, and operational efficiency recorded a negative correlation towards financial performance as portrayed in the (r=-0.15712, r=-0.20809) respectively. Management efficiency had a positive correlation of r=0.448862 towards the dependent variable. The computation R-Square Adjusted was expounded on the model summary of regression post with 0.171. Therefore, showing that a 17.1% variation in financial performance caused by operational cost efficiency, Interest rate spread, and management efficiency. The remaining variations of 79.3% are caused by factors not captured in the study. In addition, the findings in the coefficient of determination posted that interest rate spread had a negative effect on financial performance by 4% when all factors were held at 0. Nevertheless, management efficiency posted a positive effect on the financial performance of 26.6% while operational cost efficiency portrayed a negative effect of 4.3% when all other factors are equated to 0. The conclusion is that this formulation can be useful in the prediction. In a nutshell, the investigation recommended periodic revision of rules, policies, and standards to meet the market dynamic transformations and technological innovation. Therefore, deposit-taking microfinance institutions should strive for quality portfolios, and quality systems for evaluation, monitoring, and correcting variance. It is worthwhile suggesting the study of interest rates spread as a predictor variable with capital structure as the mediating variable and corporate governance as the intervening and lastly financial performance as a regressed variable can give a more in-depth understanding.