Determinants of Private Sector Credit Growth in Kenya, Does Interbank Lending Matter?

Abstract

Capital as factor of production is a key input in both the private and the public sector for growth and development. Regulation plays an important role in maintaining the balance between the demand and supply side hence preventing market or economic failure by achieving equilibrium in both price and quantity. Private sector credit growth in Kenya and most developing economies has failed to grow at impressive rates, on the other hand interbank bank lending across frontier markets remain poorly structured. The main aim of the paper was to examine the nature of the relationship between the interbank operations and lending to the private sector. Using an Auto Regressive Distributed lag model (ARDL), the time series analysis examines if the demand for credit in the interbank market affects credit available for the non-bank private sector. The study used the 91-day T-bill rate, average lending rate, interbank rate, deposit rate, inflation and the exchange rates. The study opted level-level (linear-linear) model. The study established that there is no statistical evidence that interbank lending affects credit growth that any of the significant levels. Deposit rate and the inflation rate were statistically significant at the 10 and 5 percent level respectively. The 91-Day T-bill rate was not statistically significant at any of the critical meaning that short term credit to the government doesn’t affect credit to the private disbursement to the private sector. Lending rates were found to affect credit growth positively. Exchange rates also had a positive relationship with private sector credit growth and significant at the 1 percent level. As a key policy recommendation, the paper recommends that the Central Bank should tighten the screws on interbank lending to safeguard the banking space against the collapse of another lender since the rate does not have an effect on credit disbursement. A key recommendation to the Central Bank is to tighten is monetary policy tools to keep inflation in check which will put credit growth on a sustainable path since inflation and exchange rates were found to be statistically significant.