INTRODUCTION
This paper presents the theoretical framework for the Central Bank of Kenya (CBK) macroeconometric model. In addition, it highlights the theoretical base for the model’s main behavioral equations. The justification for the model relates to its usefulness in aiding the policymaking process at the CBK. It is expected that the model will support the Monetary Policy Committee (MPC) and Research Department in further understanding how the economy works through the complex interactions of various economic agents. The conduct of monetary policy requires fairly accurate analyses and forecasts backed up by sound economic theory and a rationale ensuring that effective monetary policy is formulated and implemented. In this regard, the model will provide consistent short-term forecasts of key macroeconomic variables such as economic growth and inflation. In addition, the model will be helpful in evaluating the impact of various shocks and policies on the economy. The MPC may also use the model as an instrument to help in structuring its communication with the public on the rationale behind its decisions.
This paper is organized as follows. The rest of Section 1 discusses the type of macro model developed, Section 2 presents the model’s logical and theoretical framework and illustrates the linkages between the monetary submodel and the other blocks of the model, Section 3 discusses the theoretical foundations of the model’s behavioral equations, and Section 4 concludes.
