Economic factors determining the financial performance of selected commercial banks in Kenya

Abstract

erformance of commercial banks has critical implications on economic growth of countries. The Kenyan banking sector remained resilient on the backdrop of turbulence, characterized by interest rate capping in 2015 and the prolonged electioneering period in 2017 which brought uncertainties in the banking sector. This study investigated the economic factors determining the financial performance of selected commercial banks in Kenya. Specifically, the study was to determine the effects of capital adequacy, liquidity, asset quality and management efficiency on financial performance of commercial banks in Kenya. Efficient market hypothesis and modern portfolio theory guided the study. The study adopted an explanatory research design. The study used 2009-2018 secondary consolidated time Series data of 40 commercial banks from Central Bank of Kenya and International Monetary Fund. Time series econometric procedures of co-integration and Vector Error Correction model (VECM) were used so as to determine nature of the time series data and equilibrium relation between the variables. The VECM estimation results identified a significant short run and long run equilibrium relation between coefficients of Capital Adequacy, bank liquidity and management efficiency except for asset quality and financial performance of commercial banks in Kenya. The Co-efficient of Capital Adequacy was0.164,p=0.0217<0.05, The Coefficient of Bank liquidity was 0.374, p=0.001<0.05,The Coefficient of Management Efficiency was 0.2359, p=0.008<0.05, The Coefficient of Asset Quality was 0.883, p=0.3415>0.05. The coefficients of capital Adequacy, bank liquidity and management efficiency were positive and significant at 5% level. The coefficient of asset quality was not significant at 5% level. This implied that for every unit increase in coefficient of Capital Adequacy, bank liquidity and management efficiency would increase by 0.164; 0.374 and 0.2359 units of financial performance of commercial banks in Kenya respectively in the long run. The findings indicated that no evidence was found of significant co-integration relation between Financial Performance and Asset Quality of commercial banks in Kenya. The VECM results also indicated that Asset quality and financial performance does not have a long run equilibrium during the study period. Managerial policies and strategies that are cost effective and productive efficient could raise the managerial efficiency and financial performance of banks. Findings also indicated that bank liquidity was an important driver of financial health of commercial banks in Kenya in the short run and long run implying strengthening the liquidity was critical in ensuring a strong financial base of banks which would lead to improved financial performance of commercial banks in Kenya. Based on the findings the study recommended that banks put a lot of focus on their own internal processes since capital adequacy, liquidity and management efficiency, had positive influence on their profitability policies.