Relationship Between Exchange Rate Volatility and Demand for Foreign Currency in Kenya

Abstract

There has been an expanding enthusiasm by the general public and part of the media in regards to the development of the Kenya Shilling conversion standard in the past. Therefore, the quantity of interested commentators on the subject has risen. Examinations have concentrated on the sufficiency of the current foreign and local exchange reserves in the country. Since the beginning of 2011, currency depreciation has occurred in Kenya, just as in other parts of the African Continent. The CBK's essential obligation is planning and executing money related approaches and policies to accomplish stability in the overall price of item; this incorporates the exchange rates which is the cost of the Kenya Shilling as expressed against other currencies. The purpose of the current investigation is to examine the existing relationship between the volatility of the rate of exchange and the demand for foreign currency within Kenya. The examination depends on a multi-point of view unlimited portfolio balance model in use within the country. The ratio of foreign currency deposits that are in Kenya to the broad money supply is used as the dependent variable, against determinants of money demand, namely exchange rate, interest rates and the rates of inflation as the independent variables in the study. The findings of the investigation established that, the level of demand for foreign currency remained at about 15 % average but was highly related to exchange rate volatility, during the period of focus – 2009 to 2014. As expected, during periods of high volatility like in year 2011, the demand for other currencies increased to a high of 18%. The investigation concludes that there exists a very strong correlation between the volatility of the rate of exchange and the demand for foreign currency in Kenya.