The relationship between the stock market and foreign direct investment in Croatia: evidence from VAR and cointegration analysis

Abstract

The aim of this paper is to investigate the existence and characteristics of both the long- and short-term relationships between FDI and the stock market in Croatia. The main hypothesis is that, in the long run, trends in FDI should determine the movement of the stock market through the channel of economic growth. However, in the short run, upward movement on the stock market positively affects Croatian FDI stock, as events on the stock market signalize the vitality and investment climate of the domestic market to foreign investors. The long-term connection is tested by two cointegration approaches ; the results of both models suggest the absence of a long-term relationship among observed variables, which may be explained by the lack of connection between FDI and economic growth in Croatia. The short-run relationship is investigated by a two- variable VAR model, and the results obtained are consistent with the theoretical assumptions, as the stock market did prove to be an important short-term determinant of FDI in Croatia.