Abstract
This paper examines the linkage between FDI, trade openness, capital formation, and economic growth rates inBangladesh over a period 1986 to 2008 using time series analysis. All variables are found stationary at firstdifferencing both at constant and constant plus trend level under the ADF and PP stationary tests. TheJohansen-Juselius procedure is applied to test the cointegrating relation between variables followed by a vectorerror correction model. The empirical results trace a strong long-run equilibrium relationship between GDPgrowth rates and the explanatory variables with unidirectional casual flows. The volume of FDI and level ofcapital formation are found to have significant positive effect on changes in real GDP. The degree of tradeopenness unleashes negative but diminishing influence on GDP growth rates. We conclude that Bangladeshshould formulate FDI-led polices and ensure higher degree of capital formation to enhance her economic growthrates at large.
Highlights
The linkage between foreign direct investment (FDI), trade openness, capital formation, and economic growth tends to be positive
This study investigates the linkage between FDI, trade openness, capital formation, and economic growth rates empirically in the context of Bangladesh by analyzing time series data for a period 1986-2008
A strong unidirectional long-term causal flow is evidenced stemming from changes in FDI, trade openness and capital formation to the economic growth rates of Bangladesh
Summary
The linkage between foreign direct investment (FDI), trade openness, capital formation, and economic growth tends to be positive. FDI channels much needed capital for investment and provides support to capital formation; trade openness facilitates the flows of international capital and redirects factor endowments to more productive sectors; a high level of capital formation ensures needed finance for the industries growth and development; and all of them jointly promote economic growth at large. With respect to GDP growth rates, the country exhibits a heterogenic trend that varies between 2.15% to 6.62% over the period 1986-2008 This creates an interest for us to investigate empirically the long-term equilibrium relationship among FDI, Trade openness, capital formation and GDP growth rates in Bangladesh with a view to assisting policy making institutions.
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