Effects of Budget Deficit on Economic Growth in Kenya

Abstract

Kenyan economy has consistently and persistently experienced budget deficits for a long time and this exposes the economy to various vulnerabilities from both within and outside. The study sought to examine the relationship between budget deficit and economic growth and then determine the level of budget deficit that is favourable to the economy of Kenya using time series data for the period 1980 to 2014 on stata by employing Ordinary Least Squares (OLS) method of estimation. The results indicate a positive relationship between budget deficit and economic growth but as the budget deficit increases, the impact on growth decreases. The study identified a budget deficit of approximately 4 per cent of Gross Domestic Product (GDP) as being optimal for the case of Kenya economy, beyond this level, the benefits obtained from the deficits start diminishing. This result supports the Keynesian view of budget deficit which advocates for deficit in stimulating the economy during recession periods. In conclusion, the government`s concern should not be about running the budget deficits but whether the levels are sustainable. The study recommends financing of development expenditures through public private partnerships or off the balance sheet to create fiscal space.