Foreign Direct Investment and Economic Growth in Kenya

Abstract

Foreign direct investment (FDI) is widely regarded as an important source of capital, technology transfer, employment creation and productivity enhancement in developing economies. Kenya has implemented various measures to attract FDI; however, economic growth has remained unstable, and empirical evidence on the contribution of FDI to growth is mixed. This uncertainty creates a need to reassess the short-run and long-run effects of FDI on Kenya’s economic growth while accounting for domestic capital formation and inflation. The paper investigated the effect of FDI on economic growth in Kenya using annual time-series data from 1990 to 2025. The study employed an ex post facto research design and used the autoregressive distributed lag (ARDL) method to estimate both the short-run and long-run relationships among economic growth, FDI, gross capital formation and inflation. The unit-root tests indicated a mixed order of integration: economic growth, FDI and inflation were stationary at level, whereas gross capital formation was stationary after first differencing. The bounds test demonstrated the existence of a long-run relationship among the variables. The paper found that the short-run and long-run effects of FDI on economic growth were positive and negative, respectively, and statistically insignificant. Gross capital formation had a positive and significant short-run effect on economic growth but a positive and insignificant long-run effect. Inflation had a significant negative effect on economic growth in both the short run and the long run. The paper concluded that FDI did not contribute significantly to Kenya's economic growth during the study period, whereas domestic capital formation and macroeconomic stability were important for sustaining economic growth.