| dc.description.abstract | This study sought to identify the determinants of interest rate spreads amongst
commercial; banks in Kenya and to quantify the impact of those factors on interest rate
spreads. Determinants from previous studies were used to guide the choice of
independent variables, but instead of focusing on the customary spreads or margins of
individual banks, the spreads for the banking sector as a whole were examined. Monthly
data on the change in overall consumer price index (inflation), 91 day treasury bill rates,
inter-bank rate, cash reserve ratio, Central Bank Rate, credit loss ratio (measured by
specific provisions to total loans), the ratio of operating costs to total income, and the
Herfindahl- Hirschman index (a proxy for market structure) for the entire banking sector
were used as independent variables.
A multivariate interest rate spread model was formulated to test the significance of each
of the independent variables as determinants of bank’s spread. The monthly average data
of the variables were regressed against the percentage of interest rate spread for the month
as the dependent variable. The study covered the period 2007: 1 to 2011: 12 when the
macroeconomic environment was quite volatile, and the debate on interest rate spreads
was reignited. Secondary data was obtained from various published sources, but mainly
from the Central Bank of Kenya and the Kenya National Bureau of Statistics. The R
Statistical Package was used for analysis.
The results of the study indicate that over the last five years, the Central Bank Rate and
the Credit Loss Ratio have been the most significant determinants of interest rate spreads
amongst commercial banks in Kenya. The Treasury Bill Rate and Market Structure have
also contributed to banking sector spreads. The results however also clearly indicate that
many of the factors commonly believed to be critical determinants of interest rate spreads
may not in fact have been relevant to the size of the banking sector spreads over the last 5
years. Possibly most surprising was the statistical insignificance of the inflation, interbank
rate and cost to income ratios. Although these variables have been highlighted in
previous studies as determinants of interest rate spreads they were unable to explain the
variation in banking sector spreads in Kenya for the period studied. This may be due to
the relatively short period (5 years), which is insufficient to draw inferences over the long
run. The results therefore do not suggest that inflation, inter-bank rate and cost to income
ratio are not determinants of the size of spreads, but rather indicate the need for the
further studies on these variables, taking a longer period into account. | en |
