The Agency Theoretical Explanation of Bank Interest Rate Spreads in Accra

ABSTRACT

Few empirical studies have been done on the bank interest rate spread in the context of Africa as a whole. However, these studies failed to explain the possible effects of agency costs on the bank interest rate spread in Africa. This study, therefore, depending on bank-level data on two hundred and ten (210) banks in twenty-eight countries in Africa, and controlling for macroeconomic variables, bank-specific variables, regulatory as well as industry-specific factors, we employed the fixed effects panel regression on the data in explaining the effects of agency costs on the bank interest rate spread in Africa over the period 2006 to 2013. In trying to correct for serial correlation and heteroskedasticity we used the Prais-Winsten estimation technique which is robust to these problems. We employed two definitions for the dependent variable (spread 1-net interest income divided by total assets and spread 2- difference between the advertised universal bank average lending rate and the average deposit rate). Our results show that emolument (agency costs) feeds into the spread models suggesting that the higher the emoluments the higher the interest margin of banks in Africa. This is an indication that bank management charge higher margins since they can extract high rents in a form of high emoluments. This is a source of conflict of interest between the shareholders and the management. Secondly, our results show that the factors that were posited by Ho and Saunders (1981) are still relevant in the determination of bank interest spreads in Africa. Moreover, the findings suggest that determinants and significance of the bank net interest margin and spread can be different. Therefore, empirical models should be chosen with cautious for academic and policy studies. We recommend that bank regulators and board of directors must ensure that the level of emoluments (agency costs) are cut down to a reasonable limit that will not tend to influence high spread in Africa. This can be attained by holding on to efficient and more compatible incentive compensation packages. The results also show that central Africa contributes largely to Africa’s high spread.