Effects of equity capital changes on the lending rates of Kenyan banks

Abstract

This study examines the consequences of imposing higher capital requirements on banks, and more specifically their long-term effects on bank lending rates. The analysis involves econometric estimations of the determinants of lending rates based on a parameterized model of the Kenyan banking industry. It was found that the equity capital ratio has a positive and significant impact on the interest rates charged on bank loans. Raising the equity capital ratio by one percentage point leads to an increase in bank lending rates by about 5 basis points. These results suggest that higher equity capital requirements increase the average cost of funds for Kenyan banks, and this cost is passed on to bank customers through increased lending rates .