The effect of interest rates spread on lending capacity of banks: a case study of Barclays Bank of Kenya

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Kampala International University, College of Economics and management
A key indicator of financial performance and efficiency is the spread between the lending and deposit rate. If this spread is large, it works as an impediment to the expansion and development of financial intermediation. This is because it discourages potential savers due to low returns on deposits and thus limits financing for potential borrowers. This has the economy wide effect of reducing feasible investment opportunities and thus limiting future growth potential. It has been observed that large spreads occur in taxation or repression, lack of competitive financial banking sector and macroeconomic instability. That is risks in the financial sector are high. Financial reforms and liberalization should improve efficiency in the intermediation process. This implies that the spread will decline over time as liberalization is accomplished and financial sector develops. But in Kenya financial liberalization seems to have led to a widening interest rate spread. The main factors that propel this are distortions in the loans market, institutional and policy factors impact on transaction costs compound the effects of risks and uncertainty in the market thus worsening the spread. To narrow the interest spread it is important to maintain a stable macroeconomic environment and thus reduce credit risks. There is also a need to minimize implicit taxes like reserve requirement and cash ratios accompanied by fiscal discipline to reduce the demand for financing budget deficit with low cost funds. Banks should perform more screening functions than simply investing in treasury bills to enhance economic growth and invest in information capital to reduce the moral hazard and adverse selection problems. By enhancing competitiveness in the Treasury bill market and promoting diversification of financial assets for investors banks will have to compete for public funds. The result of this will be to squeeze the spread from increasing deposit rate. Above all strengthening the institutional base is important in enhancing of contract
A research project submitted to the School of Business and Management in partial fulfillment for the Award of a Bachelor’s Degree in International Business Administration in the School of Business and Management at Kampala International University
Interest rates spread, Lending capacity of banks, Barclays Bank, Kenya