Abstract:
The study examined the relationship between financial innovation and monetary
sector development in Kenya using Generalized Method of Moments (GMM)
approach based on Ordinary Least Squares (OLS) technique and time series annual
data over the period between 2000 and 2017. The GMM version is superior over OLS
technique because it allows adjustment of long-term variation between financial
innovation and macroeconomic development. Financial innovation is measured by
five indexes: currency-money (CM) ratio, e-money (EM), intermediation ratio (IR),
financial ratio (FR), and e-payment (EP). Monetary policy development is measured
by seven indicators, namely: real GDP, money supply (MS3), domestic credit (DC),
interest rates, inflation rate, exchange rate, and stock market development. Based
on the empirical results, evidence shows that financial innovation (i.e. EM, IR, FR,
and EP) had significant impact on monetary sector development. Rapid innovation
as a phenomenon in the past decades has changed the array of financial services
available to customers and increased the efficiency of the financial sector (or
system), but at the same time, complicated the environment in which Central Bank
of Kenya (CBK) implements its monetary policies. This study was important for
the purpose of combating the implications associated with the future development
of these innovations in the financial system and the conduct of monetary policy.
Also, the CBK) should be able to conduct a monetary policy process based on the
changing financial environment by implementing essential reforms and critical
forward-looking policies for a sustainable financial development and economy
