Quantitative thesis

IMPACT OF EXPORT AND FOREIGN DIRECT INVESTMENT ON GROSS DOMESTIC PRODUCTS

INFLUENCE OF FOREIGN DIRECT INVESTMENT AND EXPORT ON ECONOMIC GROWTH IN PAKISTAN ECONOMY

SIR TEHSEEN JAVAID

ATIF AHMED - 1228SYED AHMED ALI – 0538MUHAMMAD FARRUKH EJAZ – 0251SHAKIR ULLAH - 0159SALEEM ABBAS - 0243

The purpose of this paper is to examine that how much export and foreign direct investment plays a significant role in the growth of economy of Pakistan. Data

gathered from 1970 to 2011.

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ABSTRACT

In the study, we want to examine that whether there is any significant effect of export and foreign direct investment on economy of Pakistan, so, we collect the data from 1970 – 2011 on time series. Data was took from website of state bank of Pakistan and applied on e-views for different test to verify that our statement is valid or not. Gross domestic product is taken as dependent variable while export and foreign direct investment as independent variable. The economic growth of any country plays a vital role in the progress of the country; there are various factors and sectors on which it depends. The result shows that there is significant effect of export and foreign direct investment on economy growth i.e. gross domestic product. Suggestion after the examining the data and its result, the policy makers of Pakistan have to focus more on the tools of fiscal and monetary policy to encourage the exporter. Therefore, the percentage of export would be enhanced against economy of country and play more essential role in the growth of the country as well as the balance of payment and balance of trade should be in surplus or on breakeven point which help the country to make the term of trade better off. While, on the other hand, using the channel of foreign direct investment, to entertain those sectors, which are below the par such as agriculture, education and health sector.

Key Words: Gross Domestic Product - Foreign Direct Investment - Export – Pakistan

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ACKNOWLEDGEMENT

We are deeply grateful to Almighty Allah for enabling us to accomplish this research project.

Our sincere thanks to our supervisor and advisor Sir Tehseen Javiad without his help and guidance this study would not have been possible.

Further, the respondents are also equally thanked for their support in carrying out this research. We are also thankful to those who guided us throughout the project.

Last but not the least; we would render great thanks to our Family and others who had directly and indirectly cooperated with us throughout our research.

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TABLE OF CONTENTS

1. INTRODUCTION.................................................................................................................................5

2. PURPOSE OF STUDY..........................................................................................................................6

3. LITERATURE REVIEW......................................................................................................................6

3.1 Review of Theoretical Literature.......................................................................................................6

3.2 Review of Recent Empirical Literature.............................................................................................7

4. METHODOLOGY................................................................................................................................8

4.1 Modeling Framework.........................................................................................................................8

4.2 Hypothesis of the Model....................................................................................................................8

5. ESTIMATION AND RESULTS...........................................................................................................9

5.1 Least Square Test...............................................................................................................................9

5.2 Adjusted R-Square.............................................................................................................................9

5.3 Multicollinearity Test.......................................................................................................................10

5.4 Auto-Correlation Test......................................................................................................................10

5.4.1 Durbin Watson.............................................................................................................................10

5.4.2 Series Correlation (Lm Test).......................................................................................................11

5.5 Heteroskedasticity............................................................................................................................11

5.6 Stability Analysis.............................................................................................................................11

6. CONCLUSION MARKS.....................................................................................................................12

DATA SOURCES.......................................................................................................................................12

Appendix......................................................................................................................................................13

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1. INTRODUCTION

Pakistan is a development country and enrich in the all-natural recourses. Due to the different socioeconomic conditions, economic growth of Pakistan is declining or we can say that towards downward slope due to many reasons. We have identified the impacts of some economics factors like exports and foreign direct investment on the economic growth of Pakistan i.e. gross domestic products. Gross domestic product is calculated as how much a country produces a goods and services during a financial year within their physical boundary of a country. It is usually, calculated by adding together several categories like consumption, investment and government spending, net exports of goods and services.

From the past analysis and 1literature review is also indicating that exports put a positive impact on the economic growth of the country. Government of Pakistan encourages expansion in exports through various incentives such as, export subsidies, benefits in taxes, etc. The direction of exports need to be diversified, the focus of exports on a few primary commodities makes country highly at risk because if market prices change globally, it would affect badly. For efficient utilization of available scarce resources is essential for expanding global trade volume. Economists often assert that trade liberalization improves social welfare and alleviates poverty, because it generate jobs opportunities, speedup economic growth and improves consumer choice and living standard of the peoples of the societies.

Foreign direct investment is nowadays key factor for the developing country and helps them to build their economy. Country likes Pakistan which is based on opened economy2, foreign direct investment is considered as source of income which supports them to better off their balance of trade and utilize their scare resources. But, it would be badly affected by energy crisis, poor law & order situation, unsecure condition in the business activities due to terrorism, high prices of fuel and gas and government negligence. Native person or foreigners like to earn profit or double their money; they want a high profit and do not want to take a risk. Mostly, foreign investor earned profits, transferred them to their countries, and did not transfer the latest technologies to the host countries. As a result, foreign direct investment has less impact on the economic growth. Foreign direct investment contributed not much in the growth of the country as relate to domestic investment. Although, many researchers has proved that there is positive impact of foreign direct investment on economy

Since Pakistan is also an important Asian nation, the question arises as to why it failed to achieve rapid growth in the economy like the other Asian countries. It has been examined that in the literature review that Pakistan actually failed to identify the importance of some variables in that period, so, we have collected the data of last 41 years to analysis that is there any significant effect of export and foreign direct investment on the growth of the economy of the Pakistan.

1 Literature (theoretical and empirical) is given in the chapter # 3 (Page # 6)2 Opened economy is that economy where investment is accepted in the both form i.e. local and foreign investment like FDI5 | P a g e


2. PURPOSE OF STUDY

The purpose of this study is to find out that whether there is any impact of export and foreign direct investment on the economy of the Pakistan or not. For that purpose, we have taken the data of 41 years and put the gross domestic product is taken as independent variable while export and foreign direct investment as dependent variable.

3. LITERATURE REVIEW

3.1 Review of Theoretical Literature

The impact of export and foreign direct investment is going to be discussed in theoretical under the light of various researchers. Adam Smith and Ricardo had discussed a lot about the factor export; it creates a huge impact on the economy of any country. Due to export, an unutilized resource are going to be utilized in the proper way and due to it, latest technologies and development is made which not only help in earning of the foreign currencies but lift the economy of the country. Alam in 2011, in his paper, he concluded as the direct relationship between export and gross domestic product in the long run as well as in the short run. He took the time series data on the quarterly basis from the period of 1971-2007. Helpman and Krugman in 1985 said that, international trade (export) has positive impact on the economy of the country. Because, trade has implicit impact on the country e.g. specialization and reallocation of resources would be made, those sectors which has less comparative advantages would produces more goods comparatively in their preceding periods, which would lead the economic growth of the country. From the last decade, Pakistan is creating a strong impact in the trade sector (export). Gross domestic product is considered of the consumption, investment, government expenditures and export minus import. If the balance of trade is in favorable, the impact on the economy is positive or vice versa. On the other hand, investment could be in the form of local saving or foreign direct investment. Foreign direct investment has two impacts on the economy of the country, one in the form of productivity of the country and other one has on the business activity.

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EXPORT FDI

GDP


Shabbir, Mahmood and Niazi in 1992, in their paper said that, foreign direct investment plays an essential role in building new facilities for the person (individual, associate of person and corporate), profits and reinvestment is made by the overseas in the economy of their native land that boost their gross domestic product. In the year of 1994, Nelson stated, “Please come and invest in my country”. Fernando Henrique Cardoso in 1995 stated, “We need private capital”. The foreign direct investment has attached with the many small and medium sectors. By combining of all the sectors (education, stock exchange trading, small business like dairy farms and others, government sectors and many others), it creates massive impact on the economy.

3.2 Review of Recent Empirical Literature

Miankhel, Thangavelu and Kalirajan had published the paper foreign direct investment and exports on economic growth in May 2009 and topic was foreign direct investment and exports on economic growth. Data was collected on time series and period was 1970 to 2005. Variables are gross domestic product, export, import and foreign direct investment. Methodologies are unit root tests and cointegration. Conclusion is that export and foreign direct investment have impact on gross domestic product. Impact is not only in short run but in the long run too. Government has to develop effective policy to promote greater exports and foreign direct investment inflows into the domestic economy. The recommendation is that gross domestic product is not a common factor in the short run but in the long run to, so, the government has to make the strong policy. Export and foreign direct investment is the key components which and have a direct relation with the gross domestic product.

Ahmadi and Ghanbarzadeh had published the paper i.e. effect of foreign direct investment and exports on economic growth in 2011. Period for collecting the data was taken from 1970 to 2008. Variables are gross domestic product, real consumption, real domestic investment, foreign direct investment, export, import, interest rate and exchange rate of foreign currency in term of the domestic currency. Methodologies used unit root tests and granger causality tests. Conclusion is that there is a positive effect and direct relation between foreign direct investment and exports on gross domestic product i.e. on economic growth of the country. The recommendation is given in this paper is that for enhancing the economy of the country there should be more expenditure on the both foreign direct investment and exports because they both have direct relation with economic growth.

Rehman and Atif collected the data from 1985 to 2009 of time series and published the paper foreign direct investment and exports on economic growth in 2008, 09. Variables are chosen as gross domestic product, export, import, foreign direct investment and error. They have used the following methodologies; unit root tests, least squares, ARDL test for lag estimation, WALD test and diagnostic tests. Conclusion of this research is that the impact of foreign direct investment on economic growth of Pakistan is less or not statistically significant. This shows that on average foreign direct investment has been not a problem in Pakistan during long run period under study. Trade is also made a significant effect on the economy. Recommendation is that Pakistan should

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take some measures to enhance the levels of foreign direct investment directly or to private sector to improve its economic growth rate, which also suggests that Pakistan should focus on export-led growth.

4. METHODOLOGY

4.1 Modeling Framework

For the examination of the impact of the export and foreign direct investment on the economy growth of the Pakistan, we have work on secondary data that is taken from the Statement Bank of Pakistan of 41 years (1970-2011). Model of the study is as follows:

GDP = c + β1 (FDI) + β2 (EXT)Where, GDP = Gross Domestic Product or economy growthFDI = Foreign Direct InvestmentEXT = ExportC = Constant i.e. all those other factors which has impact on GDPβ1, β2 = Coefficients

Gross domestic product is dependent variable while export and foreign direct investment as independent variable.

4.2 Hypothesis of the Model

The hypothesis of the model is as follows:

HO: Significant impact of export and foreign direct investment on gross domestic productHA: Insignificant impact of export and foreign direct investment on gross domestic product

5. ESTIMATION AND RESULTS

5.1 Least Square Test

We have applied our data on the least square test because we want to examine that whether our statement is valid or not i.e., there is significant impact of export and foreign direct investment on economy growth of the Pakistan. The confident interval our data is 99% i.e. chances of error is 1%.

Table # 1: Least Square Test3

Variable Coefficient t-Statistic Prob.

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C 1.96E+09 1.079479 0.2870EXPORT 6.567059 27.88775 0.0000FDI 2.183081 1.719254 0.0935F-statistic 956.3072 Prob. Value 0.3805

From the above table, we conclude that Prob. Value is 0.3805. Therefore, our alternative hypothesis that is, is there any significant impact of export and foreign direct investment on gross domestic product is valid.

The value of the coefficient means that if one unit of independent variable (constant, export and foreign direct investment) is increased than the dependent variable (gross domestic product) is increased by beta value times i.e. 1.96E+09, 6.567059 and 2.183081 respectively, other things remaining constant. It could be express:

GDP = 1.96E+09 + 6.567059*Export + 2.183081*FDI

5.2 Adjusted R-Square

Table # 2: Adjustment R-Square4

Adjusted R-squared 0.978992

The R-square indicate that how much percentage of dependent variable explain the independent variable. In our case, dependent variables are export and foreign direct investment and independent variable is economy of the country. The value of Adjusted R-square is 97% that means our data is near to the mean value. If the value is not according to our standard then we have either to increase our data values or change the pattern of collecting the data.

5.3 Multicollinearity Test

Multicollinearity test is conducted to specify that whether our independent variables do have any correlation between them or not. The result shows that there is no multicollinearity between our independent variable (export and foreign direct investment) because the value of the Centered VIF is below 10. If, there is any correlation between the independent variables then beta values becomes invalid. For analyzing the data, we have conducted the variance inflation factor test. If, the value of the test is below ten, it means that there is no correlation between our independent variables. The best measure against the multicollinearity is to increase the sample size or use LOG function.

Table # 3: Multicollinearity Test5

VIF TEST

Variable Centered VIF

CONSTANT NA

EXPORT 2.2446214 Appendix – 5.1 Least Square Test5 Appendix – 5.3 Multicollinearity Test9 | P a g e


FDI 2.244621

5.4 Auto-Correlation Test

Autocorrelation indicate the trend of error. It compares the current period with precede period and show that whether the error is consistent or not. If, the error is consistent then it is not acceptable. Therefore, we have conducted the Durbin Watson test.

5.4.1 Durbin Watson

Value of the Durbin Watson is between 0-2 then it shows that there is positive trend and if the value of between is 2-4 then there is negative trend but if the value is exact 2, which means that there is no autocorrelation.

Table # 4.1: Autocorrelation Test6

Durbin-Watson stat 0.385987

In our case, value of the Durbin Watson is 0.385987 that indicate that there is a positive trend of error. Now, we test our data on LM Test, the purpose of that test is to check that auto-correlation is several or not.

5.4.2 Series Correlation (Lm Test)

LM Test is conducted to know whether autocorrelation is several or not. The value of Prob. F is greater than 0.1, which means that we accepted HO.

Table # 4.2: Autocorrelation Test7

Breusch-Godfrey Serial Correlation LM Test:F-statistic 97.65804Prob. F(1,38) 0.196200

HO: No auto-correlation exists in the dataHA: Auto-correlation exists in the data

5.5 Heteroskedasticity

Table # 5: Heteroskedasticity Test8

Heteroskedasticity Test: WhiteF-statistic 16.61588Prob. F(5,36) 0.374100

6 Appendix – 5.1 Least Square Test7 Appendix – 5.4 Autocorrelation8 5.5 Heteroskedasticity10 | P a g e


5.6 Stability Analysis

We conducted the stability test to check that whether our data is stable or not. Blue line i.e. model is within our Red lines i.e. limitation.

Table # 6: Stability Test

6. CONCLUSION MARKS WITH RECOMMENDATIONS

Conclusion of the entire test is that there is a significant impact of export and foreign direct investment on the economy of Pakistan. Confident interval is considered as 99% and data is stable as well as valid. No, trend of error found while autocorrelation is not several although the test is positive and shows the autocorrelation in the data. To enhance the economy of Pakistan, foreign direct investment and export plays a vital role and generate the more income or revenue as compare the other factors. Pakistan is a developing country and depends on its agriculture sector for export as well as on cotton and other sectors too. Policy makers have to make such type of policy that shall be fruitful for the exporters and provide them a platform to enter into the western market and create the opportunity for them. While on the other hand, foreign direct investment has direct impact on the reduction of the energy crises, unemployment, business opportunity that are associated with the economics growth of Pakistan.

DATA SOURCES

Ahmadi, R., & Ghanbarzadeh, M. (2011). FDI, exports and economic growth: Evidence from Mena Region. Middle-East Journal of Scientific Research, 10(2), 174-182.

Hsiao, F. S., & Hsiao, M. C. W. (2006). FDI, exports, and GDP in East and Southeast Asia—Panel data versus time-series causality analyses. Journal of Asian Economics, 17(6), 1082-1106.

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1975 1980 1985 1990 1995 2000 2005 2010

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Kalirajan, K., Miankhel, A. K., & Thangavelu, S. M. (2009). Foreign direct investment, exports, and economic growth in selected emerging countries: Multivariate VAR analysis. Exports, and Economic Growth in Selected Emerging Countries: Multivariate VAR Analysis (December 20, 2009).

Agrawal, S., Raghuwanshi, S., & Pradhan, R. (2014). Influence of leading indicators on national economy. International Journal of Research in Economics and Social Sciences, 4(3), 1-14.

Helpman, E., & Krugman, P. R. (1985). Market structure and foreign trade: Increasing returns, imperfect competition, and the international economy. MIT press.

Shabbir, T., Mahmood, A., & Niazi, S. A. (1992). The Effects of Foreign Private Investment on Economic Growth in Pakistan [with Comments]. The Pakistan Development Review, 831-841.

Shan, J., & Sun, F. (1998). On the export-led growth hypothesis: the econometric evidence from China. Applied Economics, 30(8), 1055-1065.

Appendix

5.1 LEAST SQUARE TESTS

Dependent Variable: GDPMethod: Least SquaresDate: 04/28/15 Time: 11:04Sample: 1970 2011Included observations: 42

Variable Coefficient Std. Error t-Statistic Prob.C 1.96E+09 1.81E+09 1.079479 0.287000EXPORT 6.567059 0.235482 27.88775 0.000000FDI 2.183081 1.269784 1.719254 0.093500========================================================

================R-squared 0.980017 Mean dependent var 5.91E+10Adjusted R-squared 0.978992 S.D. dependent var 5.08E+10S.E. of regression 7.36E+09 Akaike info criterion 48.34557Sum squared resid 2.11E+21 Schwarz criterion 48.46969Log likelihood -1012.257 Hannan-Quinn criter. 48.39106F-statistic 956.3072 Durbin-Watson stat 0.385987Prob(F-statistic) 0.000000

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5.3 MULTICOLLINEARITY TESTVariance Inflation Factors

Variance Inflation FactorsDate: 04/28/15 Time: 11:04Sample: 1970 2011Included observations: 42

VariableCoefficient Variance

Uncentered VIF Centered VIF

C 3.29E+18 2.553179 NAEXPORT 0.055452 5.306109 2.244621FDI 1.612352 2.997820 2.244621

5.4 AUTOCORRELATION

Series Correlation LM Test

Breusch-Godfrey Serial Correlation LM Test:F-statistic 97.65804 Prob. F(1,38) 0.196200Obs*R-squared 30.23512 Prob. Chi-Square(1) 0.0000000

Test Equation:Dependent Variable: RESIDMethod: Least SquaresDate: 04/28/15 Time: 11:05Sample: 1970 2011Included observations: 42Presample missing value lagged residuals set to zero.

Variable Coefficient Std. Error t-Statistic Prob.C 5.62E+08 9.75E+08 0.576105 0.567900EXPORT -0.251275 0.128795 -1.950964 0.058500FDI 2.290425 0.719201 3.184681 0.002900RESID(-1) 0.921243 0.093222 9.882208 0.000000============================================================

============R-squared 0.719884 Mean dependent var 8.90E-06Adjusted R-squared

0.697769S.D. dependent var

7.18E+09

S.E. of regression 3.95E+09 Akaike info criterion 47.12063

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Sum squared resid 5.92E+20 Schwarz criterion 47.28613Log likelihood -985.5333 Hannan-Quinn criter. 47.18129F-statistic 32.55268 Durbin-Watson stat 1.792043Prob(F-statistic) 0.000000

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5.5 HETEROSKEDASTICITY

Heteroskedasticity Test: WhiteF-statistic 16.61588 Prob. F(5,36) 0.37410Obs*R-squared 29.30259 Prob. Chi-Square(5) 0.00000Scaled explained SS 19.26330 Prob. Chi-Square(5) 0.00170Test Equation:Dependent Variable: RESID^2Method: Least SquaresDate: 04/28/15 Time: 11:10Sample: 1970 2011Included observations: 42

Variable Coefficient Std. Error t-Statistic Prob.

C -3.05E+18 1.37E+19 -0.223041 0.82480EXPORT^2 -0.748288 0.251111 -2.979905 0.00510EXPORT*FDI 15.71214 4.443621 3.535886 0.00110EXPORT 1.23E+10 5.41E+09 2.273438 0.02910FDI^2 -30.62992 6.007432 -5.098670 0.00000FDI -1.30E+11 7.71E+10 -1.684841 0.10070================================================================

========================R-squared 0.697681 Mean dependent var 5.03E+19Adjusted R-squared 0.655692 S.D. dependent var 6.29E+19S.E. of regression 3.69E+19 Akaike info criterion 93.07887Sum squared resid 4.90E+40 Schwarz criterion 93.32711Log likelihood -1948.656 Hannan-Quinn criter. 93.16986F-statistic 16.61588 Durbin-Watson stat 2.029912Prob(F-statistic) 0.000000

5.6 STABILITY ANALYSIS

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Business

Quantitative thesis