Factors That Influence Interest Rate Spread in Kenya (2000-2014)

Abstract

The financial sector in Kenya and a number of other African countries underwent liberalization in the early 90’s, despite this though we still continue grappling with the issue of high interest rate spreads prompting debate on how to address it. The discussion that follows will primarily investigates factors that determine interest rate spreads taking Kenya as the case scenario. It provides an econometric analysis of the macroeconomic and industry –specific factors that influence interest rate spread. A time –series data estimation is carried out owing to its reliability in analyzing data for a broad period of time. It’s also best in analyzing seasonal patterns which is variances measured and compared from year to year, trend estimation and growth especially for policy variables. The variables used in the study are the; 91-day Treasury bill rate, ratio of broad money (M2) to GDP, exchange rate volatility, inflation, bank rate and real rate of economic growth. Quarterly data for the period 2002 to 2014 for the 43commercial banks is used in the study. The empirical results show that factors such as bank rate, Treasury bill, exchange rate volatility and inflation rate are key in determining interest rate spreads. The effect of macroeconomic factors such as real economic growth and ratio of broad money to GDP is not much significant. There is need for explore policy options meant to enhance competition in the industry. Innovations in banks operations and products, development of efficient financial markets are examples of such options. A stable exchange rate is key since inflation, exchange rate and interest rate are highly correlated.