Abstract:
Capital markets in an economy play a substantial social value by facilitating efficient
use of the economy’s existing productive capacity and allocation of scarce capital,
promoting the efficient division of available resources, and facilitating the allocation of
risks. On this account, the Government of Kenya has over the years introduced various
tax-based policy initiatives to support the growth of the capital markets. However, the
prevailing studies have not established whether these tax incentives have made any
influence to deepen the capital markets or have been revenue leakages. The main
objective of this study was to investigate the influence of tax incentives introduced in
the tax law and policy actions on the performance of the listed and over-the-counter
capital markets in Kenya from 1990 to 2020. The specific objectives of the study were
to assess the effect of equities tax incentives, establish the influence of debt tax
incentives and evaluate the effect of trading incentives all on the performance of capital
markets. The study was underpinned by several theories including efficient market
hypothesis, information asymmetry theory, signalling theory, and optimal tax theory.
The study employed an explanatory research design. It focused on select tax incentives
in the capital markets from the year 1990 to 2020 and reviewed their influence on the
performance of capital markets measured by trends in equity and bonds turnover. The
study relied on secondary data obtained from the analysis of tax statutes, policy
documents, and CMA periodic reports on capital markets' performance. The study
relied on data from Kenya. The study findings indicated that equities tax incentives (β=
-11.46910, P=0.0148), and debt tax incentives (β= -5.651615, P=0.0135) paradoxically
had a negative and significant effect on capital market performance in the short run.
Trading tax incentives did not have a statistically significant effect on capital market
performance (P-value =0.6060 > 0.05). The study concluded that equities tax incentives
often serve as a signal for investors to stampede out of the markets, hence occasioning
a negative and significant effect on capital markets performance in Kenya. The study
recommendation was that the government need not employ the tax incentives associated
with equities and debt capital markets such as corporation tax and withholding tax on
interest because these incentives do not positively influence the overall performance of
capital markets and maybe an opportunity loss on revenue collection. However, trading
tax incentives influence the sustaining of market liquidity and ought to be sustained.