Decrypting The Dependency Relationship Between The Triad Of Foreign Direct Investment, Economic Growth And Human Development

Abstract

In this paper, we have explored the relationship between three key indicators of the health of any economy, namely, human development index (HDI), foreign direct investment (FDI) and gross domestic product (GDP). Three alternative models were assessed in the study to investigate the dynamics of the cause and effect relationship between the three variables. Thirty countries were selected for the purpose of the study on the basis of a positive change in their HDI ranks from 2012 to 2017. Further, the countries were categorized into countries with very high, high, medium and low HDI ranks. Annual FDI, HDI and GDP data for the period from 1990 through 2016 were used to investigate the nature of the relationship among the selected variables. The proposed models testing the outcome-explanatory variable relationship between FDI, HDI, and GDP were tested using cointegrating regression with panel dynamic least square model (DOLS) and panel fully modified least square model (FMOLS). The findings of the study show that HDI and FDI are the statistically significant variables that positively impact the changes in GDP. Further, the impact of HDI is of larger magnitude than FDI. However, GDP and FDI were not found to exert any statistically significant impact on HDI for the period under the study. Similarly, HDI and GDP were also not found to exert any significant impact on FDI. Before applying DOLS and FMOLS, stationarity was confirmed using five panel unit root tests, namely, LLC, IPS, Fisher-type tests using ADF and PP and Hadri. Thereafter, Pedroni residual cointegration test and Kao residual cointegration test were used to confirm the existence of cointegration among the variables, which is a necessary condition for applying DOLS and FMOLS. The study has key implications for the policymakers in search of models and plans to boost GDPs of their respective countries. Since HDI exerts more than proportionate positive impact on GDP, governments can focus on improving the three components of HDI, namely, life expectancy, adult literacy and education enrolment to promote economic growth. Further, since FDI exerts a positive impact on GDP, policymakers can strategize to make more friendly policies to attract foreign investors.