Abstract
The paper investigates the nexus between foreign direct investment (FDI) and macroeconomic variables namely trade openness, oil prices, stock index returns, GDP, exchange rate in India. FDI is considered as the dependent variable whereas macroeconomic variables are considered as independent variables. Using the Vector error correction model (VECM), we examine both the short-run and long-run relationship between FDI and macroeconomic variables over the period 2007-2019. Based on the existing literature, interest rate and inflation are considered as the controlled variables in the study. Co-integration is found in the time series variables using the Johansen Co-integration test and hence, restricted VAR (VECM) is applied to examine the nexus. Empirical evidence indicates that neither there is long term nor short term relationship between FDI inflows and underlying macroeconomic variables of the study. Although, the results highlight that FDI is significantly and positively influenced by its own lags. Therefore within the specified scope, the study suggests that liberal and flexible government policies on foreign investment may not only mark a surge in FDI inflows but will also encourage further investments by foreign individuals and companies in India.
Highlights
foreign direct investment (FDI) has a crucial role in the overall development of a nation (UNCTAD, 2003)
Where FDI refers to the total monthly foreign direct investments in India, TO refers to trade openness based on monthly exports, monthly imports and monthly gross domestic product (GDP), ER refers to exchange rate of Indian rupee vs US dollar, SR refers to the stock index, NIFTY returns based on monthly closing prices and OILP refers to the monthly purchase price of oil by India, GDP is the monthly data for Gross Domestic Product, INF is the monthly Consumer Price Index indicating Inflation and INT are the monthly interest rates of India
The findings indicate that the time series variables are nonstationary and have co-integration among them, so the final step to estimate the model of our study, vector error correction model (VECM) is used, which helps in deducing the Granger causal relationship between the variables.The Vector error correction model (VECM) model is: Where, Yt = a k-vector of non-stationary I (1) variables, Xt = the vector of deterministic variables, Here, Yt is a vector of non-stationary variables
Summary
FDI has a crucial role in the overall development of a nation (UNCTAD, 2003). It drives economic growth and results in other immense benefits like productivity increase, employment opportunities, supplier of non-debt financial resources, developed infrastructure, technological advancement, and domestic currency stability (Campos & Kinoshita, 2002; Kim et al, 2003; Johnson, 2006; Busse & Groizard, 2008; Krifa-Schneider & Matei, 2010; Walsh & Yu, 2010; Alfaro et al, 2010; EBRD, 2002). It becomes extremely important for a host country to understand the impact of these major underlying forces on the FDI inflows With this background, we are not surprised to see numerous empirical research conducted to examine the determinants of foreign direct investment. After going through the literature, another issue that comes into light is that the results of earlier studies are controversial and not conclusive in terms of the relative importance of each determinant and the direction of impact of these determinants of FDI. Becomes necessary to conduct a study purely focusing on a developing economy, India, and investigating the impact of its key determinants on FDI inflows. The current study tries to examine the impact of potential determinants (that have been identified from existing literature) on FDI with special reference to India These factors are trade openness, GDP, exchange rate, inflation, interest rates. The rest of the paper is structured as follows: Section 2 presents a review of research; section 3 defines the data and the methodology employed in order to examine the relationship between FDI and underlying macroeconomic factors; section 4 reports the empirical results; and, section 5 is the conclusion, providing useful insights regarding the policy implications of the empirical findings
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