Relationship of FDI and GDP of Bangladesh Introduction Foreign Direct Investment (FDI) is a key component of the global capitalflow that entails world economic growth through investment opportunities. As an investment tool FDI also affect the aggregated growth of the host country. FDI as a share of GDP has become the largest source of capital moving from developed nations to developing ones. FDI inflow usually involves starting new production facilities namely Greenfield investments or purchase of existing business through mergers and acquisitions. In developing nations, equity investments as a percentage of gross national income have been growing in recent years. In spite of FDI’s potential to impact on know-how, output and investment, development economists have unexpectedly not interested in finding a strong causal link to economic growth. However, some studies have identified a positive impact, but only if the country has human capital and infrastructural support. Literature Review The Gross Domestic Product (GDP) is a measure of a country's aggregated economic output. It is the final market value of all goods and services finally produced within the territory of a country in a particular year. GDP can be estimated in different ways and in different measurements which would give results with different implication. According to Sullivan and Steven (2003) GDP can be measured in three ways such as the product (or output) approach, the income approach, and the expenditure approach. The expenditure approach measures that all of the product must be bought by somebody and thus the value of the total product must be equal to total expenditures for purchase. Product approach aggregates the outputs of every business to get the total. The income approach measures the sum of all producers' incomes based on the principal that the incomes of the productive factors must be equal to the value of their product. Foreign direct investment (FDI) is the long term capital investment by a country into another country. It usually involves participation in a business entity by means of management, joint-venture, technological know-how and expertise. There are three types of FDI: inward foreign direct investment and outward foreign direct investment, resulting in a net FDI inflow. Whereas, foreign direct investment stock or FDI Stock is the cumulative number for a given period. FDI and Economic Growth Agrawal (2000) examined the impact of FDI inflows on GDP and found negative impact prior to 1980, mildly positive for early eighties and strongly positive over the late eighties and early nineties. This supported the view that FDI is more likely to be beneficial in more open economies. His study was based on both time-series and cross- section analysis of data from five South Asian countries i.e. India, Pakistan, Bangladesh, Sri Lanka and Nepal. Page 1 of 5 Deviation 11321. UNCTAD has the most complete FDI database and it compiles data on bilateral FDI flows .848 1066.30 Std. The main sources for UNCTAD’s FDI flows are national authorities (central banks or statistical office). Thus the study concluded that economic growth in Vietnam was viewed as an important factor to attract FDI inflows into Vietnam.677 Page 2 of 5 . Summary statistics in table 3 include the mean and the standard deviation for time period of 1986-2005. and UNCTAD´s own estimates. However. Exchanges rates for different economies are established in the WEO assumptions for each WEO exercise. the study did not imply that FDI is insignificant. the World Bank (World Development Indicators). Gregorio and Lee (1998) argued that FDI had a positive growth effect when the country had human capital that allowed it to disseminate FDI spillovers. Lan (2006) stated that FDI and economic growth are important determinants of each other in Vietnam over the period of 1996-2003.both inflows and outflows. These data are further complemented by data obtained from other international organizations such as the IMF.65 1434. Both Remittance and Official Development Assistance (ODA) data are retrieved from the website that compiled from IMF balance of payments data.715 253. Values are based upon GDP in national currency and the exchange rate projections provided by country economists for the group of other emerging market and developing countries. the Organisation for Economic Cooperation and Development (OECD). Table 1 : Descriptive Statistics Variables GDP FDI Remittance ODA Mean 39972. Further the study suggested that the economic development will depend on the performance in attracting foreign investment in Cyprus.Relationship of FDI and GDP of Bangladesh Athukorala (2003) argued that there is no such extreme link between FDI and economic growth in Sri Lanka. Feridun (2004) used Granger test to examine the causality between FDI and GDP in the economy of Cyprus and found that GDP in Cyprus was caused only by the FDI. Methodology and Data GDP data has been obtained from World Bank website (World Development Indicators).00 1648. Alfaro et al (2003) argued that FDI promotes economic growth in countries having developed and liberalized financial markets. rather. Table 1 presents descriptive statistics for the variables used in the estimates.544 327. However. Borensztein. the study concluded that the direction of causal relation was not towards from FDI to GDP growth but GDP growth to FDI. Empirical Analysis & Interpretations of the Results This section presents the result of regressions of the previously defined measure of GDP using 20 years data of Bangladesh.45 214. 175 3.80 that indicates multicollinearity. The F statistic exceeds the critical F value at both 1% and 5% level and thus proves that the independent variables have effect on GDP.000 FDI .4%.766 1. ODA.829** -1.150 .612 -. bivariate (pair-wise) correlations among the independent variables were examined to find out the multicollinearity problem.637 1.383 5. FDI and Remittance have pair-wise coefficient of correlation larger than . Error 5429.231 Standardized Coefficients Beta . Error of the Estimate 3509.021 -4. First of all.465 6.684 8. Before running the regression.153 t Sig.9% of the variation in the dependent variable/GDP.820 1.186* 6.501* .253 . The adjusted explanation of the model is about 90. Table 2 presents the Pearson correlation coefficients for the variables used in this estimation. Table 2 : Pearson Correlation Matrix GDP 1. Remittance.919 Adjusted R Square .80 or larger indicates that there is problem of multicollinearity (Lewis-Back 1993).495 1.57. The existence of correlation of about 0.Regression Results Unstandardized Coefficients (Constant) FDI Remittance ODA B 32275.649 -. examination of the multicollinearity problem was carried out using the Pearson Correlation method. a Dependent Variable: GDP *significant at 20% ** significant at 1% Page 3 of 5 . The model explains around 91.609 F Change 60.000 . FDI Table 4 : Determinants of GDP .000 GDP FDI Remittance ODA Explanatory power of the model as indicated by R2 (multiple coefficient of determination) and adjusted R2 is fairly good.000 ODA -. The F value which is a measure of overall significance of the estimated regression and also a test of significance of R2 is 60.000 Remittance .575 a Predictors: (Constant).851 Std.756 -.Relationship of FDI and GDP of Bangladesh Multiple regressions were run in SPSS using the Least Square Estimation Method to test the set hypotheses or more clearly to test how the independent variables explain the GDP.940 .000 . Table 3 : Model Summary R Square .904 Std.945 1.140 5. 851ODA Causality Relation In order to test for direct causality between FDI and economic growth. If in equation (1) i =1 k ∑ βi is significantly different from zero. and k is the maximum lag length used in each time series.46 + 6. if any. if i =1 in equation (2) is significantly different from zero. RSSur.275. RSSr.684FDI + 8. 2. The optimum lag length is identified using Hsiao’s (1981) sequential procedure. Regress current GDP on all lagged GDP terms and other variables. t and t are error terms. then we conclude that GDP Granger causes FDI. a possibility. (1) i =1 k k k i =1 FDI t where = φ + ∑ δ i ⋅ GDPt −i + ∑ λi ⋅ FDI t −i + η t …………………….(2) i =1 i =1 k GDPt and FDI t are stationary time series sequences.Relationship of FDI and GDP of Bangladesh The independent variables Remittance and ODA have statistically significant effect on the GDP whereas FDI has statistically insignificant effect on the GDP (Table 4) Thus.. From this regression obtain the unrestricted residual sum of squares.021Remit . 3. Separately.. From this regression obtain the restricted residual sum of squares. we perform a Granger causality test using equations (1) and (2): GDPt = γ + ∑α i ⋅GDPt −i + ∑ β i ⋅ FDI t −i + µ t ……………………. the empirical model showing the impact of independent variables on GDP is shown in the following equation: GDP = a+b1FDI + b2Remit + b3ODA +u GDP = 32. then we conclude that FDI Granger causes GDP. 1970) minimum final prediction error criterion.4. Now run the regression including the lagged FDI terms. The steps involved in implementing the Granger causality test are as follows (Gujrati. Granger causality in both directions is. To test this hypothesis. of course. but do not include the lagged FDI variables in this regression. we apply the F test given by: F = ( RSSr − RSSur ) / m RSSur /( n − k ) Empirical Study Page 4 of 5 . 2007): ∑δ i k 1. γ and φ are the µ η respective intercepts. which is based on Granger’s definition of causality and Akaike’s (1969. Thus FDI-GDP relation cannot be generalized and must be considered using other factors i. we cannot generalize any FDI-Growth causal relationship for Bangladesh. On the other hand.45 (for 1 and 17 df). Using Granger causality test.4%. The causal relationship between economic growth and increased FDI in Bangladesh has been revealed here.Relationship of FDI and GDP of Bangladesh The causality relationship of FDI and GDP has been tested using 20 years data of Bangladesh. infrastructural setup. Page 5 of 5 .050 10. human capital. The null hypothesis in each case is that the variable under consideration does not “Granger-cause” the other variable Table 2: Granger Causality Test for GDP and FDI Direction of causality FDI → GDP GDP → FDI F value 2. GDP constant price in million US dollar is compared with FDI inflow in million US dollar.80 that indicates multicollinearity compare to ODA. The F statistic proves that the independent variables have effect on GDP. there is no “reverse causation” from FDI to GDP since the F value is statistically insignificant at 5 percent level. trade openness. Conclusion The model explains around 91. it is evident that FDI-to-growth causality is absence in Bangladesh.738 Decision (H0) Do not reject Reject Causality No Yes These results suggest that the direction of causality is from GDP to FDI since the estimated F is significant at the 5 percent level. From Table 1 it is evident that despite the growth rates in both GDP and FDI in the sample years of Bangladesh. the critical F value is 4. The adjusted explanation of the model is about 90. industrial policy and political regime. On the other hand Remittance and ODA have statistically significant effect on the GDP whereas FDI has statistically insignificant effect on the GDP.9% of the variation in the dependent variable/GDP.e. Rather growth seems to stimulate FDI for case of Bangladesh. FDI and Remittance have pair-wise coefficient of correlation larger than .