Relationship Between Capital Market Development and Economic Growth in Kenya

Abstract

This study examines the development of the Kenyan capital market and it’s relationship with economic growth and development between 1990 and 2011. Data was collected from Capital Markets Authority reports, Nairobi Securities Exchange Review Reports, Central Bank of Kenya Statistical Bulletin and ordinary least square method of regression was used with aid of STATA version 10 software packages to analyze the data. This study aims to examine the roles and challenges of capital markets, with special focus on Kenya. The study draws on economic theory to assess the potential role of capital markets, in terms of consumption, investment and economic growth; more specific roles with respect to corporate financing, asset pricing and corporate governance are highlighted. It is argued that the macroeconomic policy environment is critical in influencing the performance of capital markets and hence the extent to which the market may be able to play its role. The status quo of the markets is analyzed in terms of stock market capitalization, number of companies listed, liquidity, returns and volatility of the capital markets in Kenya. The main institutional challenges are considered in the light of market microstructure evidence on how the frontier capital markets in Kenya are responding to revitalization and reforms. The study concludes by pointing out some unresolved issues, undiscovered territory and the future of capital markets in Kenya. The study focused on data from the Nairobi Securities Exchange and Kenya National Bureau of Statistics. Time series data on stock market turnover, stock market size and bond market size were obtained from period 1992-2011. The research used quarterly data on economic growth indicators as provided by The Government of Kenya ix through the Kenya Bureau of Statistics as well as World Bank development indicators. This study will utilize the value traded ratio in the capital markets, which is a measure which equals the total value of bonds and shares traded divided by the Gross domestic product of the economy. This indicator of growth indicates the liquidity observed in the capital market. In this research this ratio will be used to compliment the market capitalization rate as a measure of growth of the capital market. STATA version10 was used to analyze the data. Tests of significance included the R2 tests as well as F-statistics which tested the significance of the relationship between the five independent variables of capital market deepening and the one dependent variable of economic growth. The results showed that capital market indices have impacted significantly on the GDP. The study recommends among others that government should put up measures to build up investors’ confidence in the capital market by fair transactions, increase investments instruments in the market and provide other basic infrastructures to boost investor participation in the bourse.