Effect of Domestic Debt on Economic Growth in Kenya

Abstract

The overall shift of public debt in favour of domestic debt in Kenya coupled with the debt sustainability analysis which showed that domestic debt over the period under the study is not sustainable raises the need for the Kenyan government to formulate and implement prudent domestic debt management strategies to mitigate the effects of the rising domestic debt levels. The effects of the rising domestic debts on economic growth is of main concern. This study seeks to find out if government domestic borrowing from the financial markets has any effects on economic growth in kenya in order to be able to suggest policy measures aimed at debt management that would promote economic growth . The Ordinary Least Squares Method (OLS) is used to analyse the yearly time series data between 1981 and 2012. The Jacque Bera (JB) and the Augmented Dickey Fuller (ADF) tests have been used in investigating the properties of the macroeconomic time series data in the aspects of normality and unit root respectively. Cointegration analysis was conducted using the Engel-Granger residual, there was evidence of cointegration at 10% level of significance. Having established cointegration an Error Correction Model (ECM) which links the short run dynamics of the model with the long run was used. The study shows that domestic debt expansion in Kenya, for the period of study, has a positive and insignificant effect on economic growth. In view of this, the study recommends that the Kenyan government should encourage sustainable domestic borrowing by exploring other avenues of financing the budget deficit other than just resulting to more domestic borrowing.