An assessment of the interest rate channel on monetary policy transmission in Kenya 2006-2015
Siele, Daisy Chepng'eno
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For the government to achieve its desired level of economic growth, appropriate monetary policy needs to be formulated and implemented. Theoretical and empirical literature highlights the importance of the interest rate channel. However in Kenya there have been inconclusive evidence on the effectiveness of this channel. This study attempts to investigate the effectiveness of the interest rate channel of monetary policy transmission in Kenya during the period 1996-2015. The study employed Vector Autoregressive Models. The paper also employs time series techniques namely Unit root tests, cointegration, impulse responses and variance decomposition. Cointegration tests showed the presence of 2 cointegrating equations and the study proceeded to use Vector error correction models (VECM). From the impulse response tests, the interest rate channel of monetary policy is proved to be effective since the Central bank rate (CBR) is able to transmit effects on output and prices but its effectiveness is with the four lags for CPI and three lags for GDP. The forecast error variance decomposition show that in forecasting CPl, all fluctuations were attributed to itself, with decreasing significant contribution from CBR in the long run. Forecasting GDP showed that GDP fluctuations were greatly denominated by itself, however in the long run there was significant contribution in the other variables. The results show that the interest rate channel of monetary policy transmission is effective in Kenya.