Selected macroeconomic determinants of foreign direct Investment in Kenya

Abstract

FDI plays an important role in the receiving country which makes it vital in policy formulation. Despite the economic importance of FDI, most countries have been facing a common challenge on how to attract considerable FDI. Kenya, like many other developing and emerging nations, has had a big challenge in attracting and sustaining foreign direct investment at levels that allow domestic investment to take advantage of benefits associated with capital inflows. The purpose of this study was to empirically analyze selected macroeconomic determinants of foreign direct investments in Kenya. More specifically, study objective was to examine the causal effect between foreign exchange volatility and foreign direct investments, causal effect between inflation rate and foreign direct investment and causal effect between interest rate and foreign direct investment. The study was informed by the ever increasing challenge of attracting and sustaining foreign direct investment. The study was anchored on the Dynamic macroeconomic foreign direct investment theory, the capital arbitrage theory and the Internalization theory. The study adopted an explanatory research design and employed an Auto-Regressive Distributed Lag to analyze the results. Study sample entailed of annual secondary time series data set for a period of 35 years from 1986 to 2021, sourced from KNBS, Central Bank of Kenya, and World Bank. Findings of diagnostic test demonstrated that there was no multicollinearity among the independent variables (vif=1.14), residuals were homoscedastic (p=0.0897>0.05), and there was no auto- correlation among the residuals (p=0.8637>0.05). The results of the Shapiro-Wilk normality test showed that the study's variables were normally distributed. The Augmented dickey fuller unit root test both showed that there was no unit root and that the variables had a short run relationship. Additionally, the model's stability over time was confirmed by the CUSUM test. Findings of the study were: the causal effect between foreign exchange volatility and foreign direct investment was positive and significant (𝛽1 =0.0070,000.0p ); inflation rate and foreign direct investment were positive and significant (𝛽2 =0.0238,001.0p ); interest rate had a positve significant causal effect (𝛽3 =0.0167,005.0p ) with foreign direct investment. The study therefore recommends that there is need for the government to regulate interest rates since high interest rates have significant negative influence on foreign direct investment inflows in the country. Additionally, there is need for policy makers to minimize exchange rate by improvising sustainable plans that properly controls the foreign exchange market. There is also need to manage inflation by developing price stability measures through the use of effective policy measures.