Predictability of Economic Growth Using the Yield Spread in Kenya (2006-2015)
Abstract
Thisobjective ofresearch study was to establish the relationship between economic growth and
yield spread (the difference between the three month Treasury bill and the ten year Treasury
bond). There exists enormous literature not just on the potency of the yield spread to predict
economic activity but its leading indicator property too. However, this paper is motivated by the
lack of comparative evidence from emerging markets and developing countries.
Numerous studies have established the findings that an upward sloping yield curve is indicative
of an increased levels of economic activity in the future whereas flat or inverted yield curve
means that there will be slowdown in the level of economic activity. This study used a VAR model
which satisfied stability test as well as absence of autcorrelation of the residuals. The study
established that the yield spread is statistically significant in explaining economic growth.
Growth too was found to statistically significant to explain the yield spread.
There after the study forecasted economic growth in Kenya and found out the economy is
projected to grow at 5.8 and 5.9 for the third and fourth quarters of 2015 respectively and 6.0
and 6.1 for the first and second quarters of 2016 respectively. In addition, the study found out the
identified structural break in the central bank rates (Monetary policy) had significant effect on
the economic growth in Kenya.
The findings of the study are consistent with those of the literature review and to that extent
corroborates the findings the yield spread is capable of offering foresight in to the direction the
economy is expected to take.
Publisher
University of Nairobi