Credit Risk, Liquidity and Operating Efficiency for Low and High Market Share Commercial Banks in Kenya

Abstract

Commercial banks play an important role as financial intermediaries for savers and borrowers in an economy. All sectors of the economy virtually depend on the banking sector for their very survival and growth. Operational efficiency is the ability to deliver products and services cost effectively without sacrificing quality. The Kenyan banking sector has grown tremendously over years in numbers, size and profitability. Despite growth in the sector, challenges still remain,market risk, credit risk and operational risk posses a major challenge. Kenyan commercial banks are yet to adopt a model that managers and any interested party may use to determine the level of operating efficiency. Guided by the efficiency theory, this study examined the effects of bank specific performance indicators, credit risk and liquidity on operating efficiency for low and high market share banks in Kenya. The study adopted an explanatory research design using panel data. Secondary data was obtained from annual financial statements and reports of 43commercial banks operating in Kenya for the period 2005 - 2011. Data was analyzed using fixed effects regression model. Statistical significance checked by an F- test of the overall fit and t-tests of individual parameters. The results indicated that previous year’s operating efficiency and credit risk proxy by loan loss provision to total equity ratio was significant while liquidity proxy by interbank ratio was insignificant in explaining operating efficiency. The overall R 2 of0.4861was derived meaning that 48.61% of banks operational efficiency is as a result of the study variables. This implies that the history of a firm’s performance influences how a firm moves forward in an effort to streamline its operational strategies. Further, there exist structural statistical differences between low and high market share banks. Banks should seek on mechanisms to improve on these variables in readiness to improve operating efficiency andremain competitive in the market.