Determinants of foreign direct investment in India

Abstract

PurposeThe purpose of this paper is to examine the determinants of foreign direct investment (FDI) in India.Design/methodology/approachUsing macroeconomic variables – GDP, inflation rate, interest rate, patents, money growth and foreign trade – the authors tried to find the best fit model (ARIMA (p,d,q)) to explain variation in FDI inflows into India. The authors tested for various assumptions taken before applying autoregressive integrated moving average (ARIMA) such as heteroscedasticity, autocorrelations, etc. using standard tests and quantified FDI policy changes using dummy variables.FindingsIt was found that of all macroeconomic variables taken, only GDP, inflation rate and scientific research are significant and that FDI Policy changes during years 1995‐1997 have had a significant impact on FDI inflows into India.Research limitations/implicationsThe authors' econometric model explains 63 percent variation in FDI inflows into India. Implicitly, the balance 37 percent variation in FDI inflows is still unexplained and so further study should be undertaken with even wider scope in terms of macroeconomic variables such as exchange rate, etc.Practical implicationsAs a recommendation for future FDI policy planning and implementation, the authors suggest the Government of India gives resources towards variables that have been classified as significant in this paper, namely GDP growth and inflation rate and should open the economy further. Sectors not yet open to FDI investments should be opened and although inflation rate should be controlled but some inflation is beneficial.Originality/valueThere has been no authoritative study until now to find “Determinants of FDI inflow to India” and this paper also goes a step forward and presents accurate models that can be used to forecast FDI inflows based on the macroeconomic variables considered.