Factors influencing the Development of capital Markets in a Developing Economy: A Case Study of Nairobi Securities Exchange in Kenya

Abstract

The study examined the factors influencing the growth and development of capital markets in an emerging economy. The study focused on the factors that influence the growth and development of the Nairobi Securities Exchange in Kenya (N.S.E.). This study sought to survey the factors that impinge on the growth and development of the stock market. The Nairobi Securities Exchange has experienced lack luster performance over its entire existence since it was founded in 1954. Over the years the number of stocks traded has stagnated at around 53 quoted companies. Ordinarily one would expect to find a significant degree of correlation between economic growth and the growth of the stock exchange. The former has averaged 3.8% p.a. in the period 1985-1996 while the latter averaged only 0.6% as measured by the number of quoted companies. To achieve the study objectives both primary and secondary data was used. Primary data was generated through the administration of questionnaires to the stakeholders of the NSE. Key informants were drawn from managers of investment banks; staff of the NSE, capital markets Authorities, Ministry of finance, Economic planning and the Central Bureau of statistics. The target population were all the 53 firms listed at N.S.E. Stratified random sampling based on the segmentation of the trading counters was used for sampling the population of the study. A sample of 30 firms was selected. Data was summarized using the inferential statistical methods. Descriptive research design was adopted and used for the study. The findings of the study indicated that the government policy reforms were viewed as having major influence on the growth and development of capital markets in Kenya. The NSE has experienced growth over the previous years, however the rate of growth has been dismal. The key factors that influence the growth and development of NSE include the strong regulatory and legal framework, good macroeconomic environment, investor education and awareness, improved market infrastructure, and increased participation by foreign investors. Introduction The Nairobi Securities Exchange was established in the 1920's by the British as an informal market for Europeans only. In 1954, the market was formalized through incorporation into a company. In 1963, Africans were allowed to join and trade in the market. For many years, the market operated through the telephone with a weekly meeting at the Stanley Hotel. At the dawn of independence, stock market activity slumped due to uncertainty about the future of independent Kenya. However, after three years of calm and economic growth, confidence in the market was rekindled and the exchanged handled a number of highly over-subscribed public issues. The growth was, however, halted when the oil crisis of 1972 introduced inflationary pressures on the economy which depressed share prices. A 35% capital gains tax introduced in 1975 (suspended since 1985) inflicted further losses to the exchange. The bourse lost its regional character following the nationalizations, exchange controls and other inter-territorial restrictions introduced in neighboring Tanzania and Uganda. For instances, in 1976 Uganda compulsorily acquired a number of companies which were either quoted, or were subsidiaries of companies quoted on the Nairobi Securities Exchange. In the 1980s the Kenyan Government realized the need to design and implement policy reforms to foster sustainable economic development with an efficient and stable financial system. In particular, it set out to enhance the role of the private sector in the economy, reduce the demands of public enterprises on the exchequer, rationalize the operations of the public enterprise sector to broaden the base of ownership and enhance capital market development. In 1984 an IFC/CBK study, "Development of Money and capital Markets in Kenya", became a blueprint for structural reforms in the financial markets, culminating in the formation of a regulatory body-The capital Markets Authority (CMA) in 1989, to assist in the creation of an environment conducive to the