Effect of bank capitalization on liquidity of commercial banks in Kenya
Abstract
The relationship between a bank’s capitalization and liquidity position has important
implications for regulatory policies. This is because banks as financial markets’ outlet are
regarded as one of the important chains in the economy in performing the resource distribution
function which exposes it to liquidity risk arising from different terms of assets and liabilities
maturity. This study sought to establish the effect of bank capitalization on the liquidity of
Commercial banks in Kenya using the annual data of 42 banks for the period 2010 to 2014. The
results of panel data regression reveal that bank size, capital asset ratio and the asset quality are
positively related to bank liquidity and are all significantly related to bank liquidity. The
implication is that better capitalized banks tend to create more liquidity, which supports the
‘financial fragility-crowding out’ hypothesis. This finding has important policy implications for
emerging countries like Kenya as it suggests that bank capital requirements, that is,
recapitalization policy, implemented to support financial stability, may enhance the level of
liquidity. The financial regulatory body needs to provide appropriate effective measures to
adequately enhance transparent accountability in the capitalization process. The study also
recommends that bank capitalization should be encouraged in all commercial banks and other
financial institutions so that performance can be enhanced. Institutions should endeavor to retain
earnings to boost up capital rather than paying exorbitant bonuses. Well-capitalized Institutions
have lower financial risk and thus are more likely to survive financial crisis thus, a well capitalized
banking system will ensure financial stability and make the industry more resilient
against external shocks and risk.
Publisher
University of Nairobi