Macroeconomic factors, institutional quality, and stock market performance in Kenya

Abstract

The stability of the stock market is an important reflection of a country’s financial and economic resilience. In recent years, the Nairobi Securities Exchange (NSE) has shown notable fluctuations in performance, raising the need to understand the underlying macroeconomic and institutional dynamics that influence its behavior. This study examined the relationship between key macroeconomic variables and stock market performance in Kenya, with institutional quality incorporated as a moderating factor. Using monthly time-series data covering the period from January 2005 to December 2024, the study employed the Autoregressive Distributed Lag (ARDL) model to estimate both short-run and long-run effects, while interaction terms of selected macroeconomic factors with institutional quality captured the moderating influence of institutional quality. The variables considered included inflation, interest rates, exchange rate volatility, market liquidity, and political events. The results showed that inflation had a lagged negative effect on stock performance, suggesting that its impact was realized over time, while interest rates showed a positive short-run association, implying that credible monetary policy enhances investor confidence. Exchange rate volatility showed a delayed positive effect, reflecting improved export competitiveness aftermarket adjustment. Institutional quality significantly moderates the effects of inflation and interest rates, confirming its role in stabilizing market responses to macroeconomic shocks. The study concludes that the performance of Kenya’s stock market is jointly determined by macroeconomic fundamentals and institutional strength. Sustainable market growth therefore requires effective management of inflation, predictable interest rate policy, and enhanced institutional governance to foster transparency, policy consistency, and investor confidence in the capital market.