The Relationship Between Financial Deepening and Gross Domestic Product in Kenya: a Case of Nse Listed Financial Institutions

Abstract

Theory predicts close and positive relationship between financial deepening and growth in GDP. However, empirical evidence, however, presents varied positions. This study aimed at establishing the relationship between financial deepening and GDP growth in Kenya since theoretical positions and available evidence were not in universal agreement. The research was a time series regression analysis across a period of 20 years from 1993 to 2012. In this research, GDP growth rate was the dependent variable while the independent variables were the components of financial market development and deepening, namely, market capitalization, liquid liabilities, private credit from banks and stock turnover. The study used the multiple regression model regressing GDP growth rate against market capitalization, liquid liabilities, private credit from banks and stock turnover. The analysis was done at 95% confidence level. The significance of the constant term of the regression and the coefficient of each of the independent variables was tested using t-tests while the significance of the whole regression was measured using the F-test. The degree to which the variation in independent variables explained the variation in GDP growth was measured by the coefficient of determination. The research established that the economy would still grow at 6.18% independent of market capitalization, liquid liabilities, private credit from banks and stock turnover. It was also established that 1% rise in liquid liabilities would result in 0.17% drop in GDP. Increasing stock turnover by 1% would lead to 0.038 % rise in GDP growth rate. A 1% rise in market capitalization would lead to 10% rise in GDP growth and a 1% rise 'in private credit would drive 5.4% rise in GDP growth. The regression model captured the relationship between GDP growth and market capitalization, liquid liabilities, private credit from banks and stock turnover. This was established by the F-test which was statistically significant indicating close relationship between financial deepening arid GDP growth. However the coefficient of determination indicated that the variation in GDP growth was poorly explained by the variation in the independent variable. It is, therefore, recommended that strategies to enhance financial deepening be put in place as a mechanism of stimulating economic activity in Kenya.