Nexus between selected Macroeconomic variables and economic growth in Kenya (1980-2019)

Abstract

Economic growth has always been at the centre of human civilization. Challenges of economic growth dominate government policy and research agenda. Kenya Vision 2030 was the development blueprint in the country whose overall objective was to achieve a middle-income nation status in order to be globally competitive, prosperous and accord high quality of life to her citizens. Kenya’s Vision 2030 projected that Gross Domestic Product growth should be 10% beginning 2012. However, this has not been achieved. Available evidence indicated contrasting views on nexus between selected macroeconomic variables and economic growth. The general objective of the study was to determine nexus between selected macroeconomic variables and economic growth in Kenya. Specific objectives were to determine effect of external debt, domestic debt, inflation rate and foreign exchange rate on economic growth in Kenya. The study was guided by Keynesian, Solow-Swan and Classical theories. Explanatory research design was used and adopted positivism philosophy, which is based on ontological principle and doctrine. A dataset comprising 40 annual observations from 1980 to 2019 in Kenya was utilized for the analysis. A customized Vector Error Correction (VECM) Model was applied to examine the long-term and short-term impacts of macroeconomic variables on gross domestic product. The results from VECM model indicated that R-square value was 58.62, Chi-square of 26.913 (p > Chi2 = 0.0494) showing that the model was fit for parameter estimation. Coefficient of external debt was 0.0003 with a p-value of 0.001<0.05, which was positive and statistically significant at 5% level of significance. Domestic debt reported a coefficient of −0.266, with a p-value of 0.019<0.05, that was negative and significant at 5% level of significance. The coefficient of inflation was 0.055, p value = 0.020 < 0.05 positive and significant at 5% level of significance. Coefficient of exchange rate was −0.828 with a p-value of 0.001, which was negative and significant at 5% level of significance. The study concluded that external debt had a positive and significant effect which in essence could imply that external borrowing was used as intended as laid down in the borrowing schedules. The study showed that domestic debt expansion in Kenya had a negative and significant effect on economic growth rate. This study recommended that Kenyan government should consider minimizing domestic borrowing to avoid crowding out effect. Since increase in inflation rate increased economic growth rate, the policymakers in CBK need to obtain optimal level of inflation. Foreign exchange rate had a negative effect on economic growth in Kenya, implying Kenya government should encourage macroeconomic policies that strengthen stability of Kenya’s foreign exchange rate against the major world trading currencies.