Moderating Role of Foreign Direct Investment On The Relationship Between Macroeconomic Factors and Development Expenditure In Kenya

Abstract

In Kenya, despite a projected GDP growth of 5.4% in 2025, up from 4.6% in 2024, the country faces challenges in effectively utilizing allocated development funds (KNBS, 2024). In the first half of the 2023/24 fiscal year, only 25.2% of the allocated development budget was absorbed by Ministries, Departments, and Agencies, indicating significant underutilization. This study aimed to identify trends, relationships, and potential causal effects between the variables by analyzing historical data over a period of time. The objective is to explore how fluctuations in interest rates, inflation, and exchange rates influence government development expenditure and the moderating role that FDI plays in this dynamic relationship. The development expenditure was measured in terms of government spending on infrastructure, education, healthcare, and other long-term development projects. The study was be guided by theories such as the Wagner's Law of Increasing State Activity, Keynesian Theory of Government Expenditure and Fiscal Illusion Theory, which examines how FDI impacts economic growth and development, and the Keynesian Theory, which highlights the importance of government expenditure in responding to macroeconomic challenges. The research adopted an exploratory study design where time series analysis was conducted to explain the significance of the relationship between the independent variables of the study on the dependent variables. The study concludes that interest rates have a negative and significant effect on development expenditure in Kenya. In addition, the study concludes that exchange rate fluctuations have a negative and significant effect on development expenditure in Kenya. Further, the study concludes that inflation rates have a negative and significant effect on development expenditure in Kenya. The study also concludes that Foreign Direct Investment has a negative and significant effect on the relationship between macroeconomic factors (interest rate, exchange rate, and inflation rate) and development expenditure in Kenya. Based on the findings the study the government of Kenya should strengthen inflation control measures through prudent fiscal discipline and effective monetary policies, so as to safeguard development expenditure. High inflation erodes the real value of allocated funds, leading to escalating project costs and delays in implementation. The study also recommends that that the government of Kenya should create a more stable and investor-friendly macroeconomic environment that aligns Foreign Direct Investment (FDI) with national development priorities.