An assessment of the effect of inflation on loan repayment among commercial banks in Kenya

Abstract

The macroeconomic environment is viewed as a critical driver for non-performing loans. In this regard, the main goal of this study was to determine the Effects of inflation as a macroeconomic variable on loan repayment in commercial banks in the Kenyan banking system. The dependent variable under investigation was nonperforming loans while independent variable was inflation. The study targeted 10 (ten) commercial banks listed at the Nairobi Securities Exchange (NSE) out of a total population of about 48 commercial banks in the financial sector in Kenya. The study used primary data source mainly from published financial statements for a span of five years (2008-2012). On the other hand the study relied on the Kenya National Bureau of Statistics to obtain inflation rates for the periods covered by the study. The study used an ordinary least square (OLS) regression equation and tested the values at 5% significance level and found evidence that Inflation was found to be positively and significantly related to credit risk (r-value 0.855). The study recommends that commercial banks managers employ a more flexible approach to dealing with the macroeconomic factors: such as with inflation, an increase in the loan loss provision is recommended when there exists high inflation and a decrease in loan loss provision during periods of low inflation rate. A reducing balance approach on loan amounts is also recommended while also incorporating a fixed lending rate approach on loans of huge amounts that span a number of years.