Impact of stock market development on economic growth: case study of Nairobi stock exchange

Abstract

The Nairobi Stock Exchange has performed dismally in relation to other developing countries and newly industrialized countries (Asian tigers) that at one period, they were at the same stage of economic development with Kenya. These economies grew at a faster rate and they have more than 15 times the number of listed companies on their stock markets. This paper investigated the link between stock market development and economic growth in Kenya. The specific objectives of the study were: First, to find out the long-run relationship between measures of stock market development and economic growth in Kenya using a Vector Autoregressive (VAR) model. Second, to find out whether there is causality between stock market development and economic growth in Kenya and drawing policy recommendations based on investigative empirical results. Investigation of the co-integration results shows that there exists long-run infer-linkage between stock market development and economic growth. Thus, the co-integrating equation shows that market capitalization ratio positively influence GDP growth rate. This is consistent with findings by Levine (1996). These results are also supported by the co-integration plot which indicated long-run relationship between the indicators of stock .' market development and economic growth. The results indicate that stock market development does indeed influence economic growth. These research findings of the study are; the size of the stock as indicated by market capitalization ratio positively affects economic growth significantly, while and liquidity of the stock market as captured by total value of shares traded and turnover ratio and volatility significantly affect economic growth negatively. The effects of these measures of the stock market development on growth may be direct or indirect. The speed of adjustment coefficient is also significantly different from zero and shows that there is a long-run relationship between indicators of stock market development and economic growth. The study recommends NSE needs to be developed further to enhance domestic resource mobilization. Various policies and programs that affect stock market development such as regulation of institutional investors and privatization need to be addressed. The policy makers should consider reducing impediments to stock market development by easing restrictions on international capital flows.