The Impact of Financial Development on Income Velocity of Money in Kenya
Ng'imor, Benjamin Pkemei
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The primary roles of monetary authority are to ensure that the level of money supply in the economy spurs economic growth and ensures price stability in the economy. Economic theory and practice show that velocity of money is a crucial element in understanding the nature of money demand in the economy. Velocity of money is critical in formulation and implementation of monetary policies in the economy. In Kenya, the stability of velocity of money is fundamentally affected by institutional and structural changes such as robust growth of the financial sector, financial innovation, increased pace of monetization in the economy among others. To this end, there was needed to investigate structural and institutional factors affecting velocity of money in Kenya. This study is guided by two main objectives; First: to assess the determinants of velocity of money giving particular emphasis to structural factors in the financial sector. Secondly, to determine the extent to which institutional and structural factors affect the income of velocity of money in Kenya. The investigation was guided by nonexperimental research design. Time series data from CBK and Economic Surveys was used for analysis. An ARDL model was estimated. To address the first objectives, the significance of the coefficients of key independent variables was evaluated. To address the second objective, stepwise regression model was used where the effect of individual institutional and structural independent variables on the dependent variable was evaluated. The F-statistics and adjusted R-Square was used to for examination. The findings revealed that real exchange rate, was an important negative influence on income velocity. Real GDP had a positive effect on income velocity. The results also confirmed that financial sector growth has a significant negative relationship on income velocity. The study recommended that policies on financial sector development should focus on stabilization of real exchange rate in order to maintain a stable money demand function.