India offers better growth prospects and earning potential in almost all the areas of business as it is the fifth largest economy in the world and second largest among underdeveloped countries. But rugged regulations, political turmoil, bureaucratic Hassles, infrastructural bottlenecks etc all these factors restricted the entry of foreign capital into the Indian Territory.Foreign Investment is a key component in the economic growth of any developing country. Foreign Direct Investment (FDI) and foreign institutional investors (FIIs) truly act as catalyst in this context. With the ongoing wave of globalisation, foreign investors are overhauling their business practices to address the Opportunities in the Global Markets and under developed economies too are grabbing the opportunity in order to accelerate its economic growth through reforms and liberalization. In this context the present paper makes a modest attempt to highlight the trends and patterns of foreign capital in form of FDI and FIIs in India and also analysis its impact on the Indian economic growth. To analyze the we employ, Augmented Dickey Fuller Test and Philip Perron, tests of stationarity, Johenson's co integration approach, and Granger causality/Block Exogeneity Wald tests to conclude the objective of the study. The data span for the study is from 1992-93 to 2011-12.The results reveal a significant relationship of foreign capital and economic growth.
Keywords: Foreign capital, Foreign Direct Investment, Foreign Institutional Investors, Liberalization, Globalisation, GDP
EFFECT OF FOREIGN CAPITAL ON THE ECONOMIC GROWTH OF INDIA:
AN ECONOMETRIC STUDY
SECTION I: INTRODUCTION:
A great deal of economic progress has taken place in India since independence, but with the advent of globalization, India has experienced a substantial surge of foreign inflows during the last two decades. Foreign capital plays a vital role in the economic development of any developing country. Foreign capital can enter in any form Foreign Direct Investment (FDI), Foreign Institutional Investors (FII), Foreign Portfolio Investment (FPI), Foreign Technical collaboration, NRI deposits, Global Depository, investment in Government securities and corporate debt, foreign venture capital investment etc. The countries with sound macroeconomic policies and well functioning institutions can reap the benefits of foreign inflows well. Globalization and Liberalization in early 1990's has led to the implementation of Financial Market reforms seeking the integration of Indian Financial Market with the Global Markets. These measures have allowed the capital inflows from capital surplus countries to capital scarce country with the objective of high returns and effective utilization of capital at global level. The Financial Liberalization and Deregulation in September'1992 attracted Foreign Investors in the Indian market which has accelerated the economic growth of India. Since then, India has witnessed a momentous increase in the share of foreign investment and Gross capital flows between industrial countries rose by 300 per cent, while trade flows increased by 63 percent. According to the Outlook Report of OECD, India's economic growth is likely to rise to more than 7.5 percent in the calendar year 2013 in comparison to 6.5 percent in the financial year 2011-12, subject to the government policies and uncertainty whereas, ICRA, a rating agency predicts India's GDP growth rate at 6.2-6.4 for the financial year 2012-13 suggesting that various reform measures are imperative to enhance the macroeconomic outlook and to reinstate the confidence of investors. Liberalized foreign investment regime and regulations have resulted in favorable business environment in the Indian market. The integration of domestic and global financial markets helps in strengthening the market discipline and enhancing the financial system soundness of developing countries like India. In the emerging markets, foreign direct investment represents the largest share in the composition of capital flows as it is the most stable capital in comparison to Net portfolio investment and banking flows which are volatile in nature.
The main objective of the study
To examine the Changing Pattern of Financial Market after Liberalization
To examine the impact of International Capital Inflows on Economic Growth of India owing to it's rapidly changing Financial Markets.
To suggest some Vital Policy Implication.
To achieve the objective of the study, the paper is divided into following sections. Section I i.e. the present section gives the insights of foreign investment inflows and its possible impact on economic growth, followed by Section II which gives an exhaustive Review of Existing Literature. Section III describes the nature of Data and Methodology used .Section IV entails the Analysis and Interpretations of the results, followed by Empirical Results, Conclusion and Policy Implication which will be part of Section V and VI. References used in the study will be a part of the last Section.
SECTION II: REVIEW OF LITERATURE:
The following section gives the extensive review of literature relating to economic growth and development. Griffin (1970) opposes the implication that the economic growth is accelerated by capital inflow in form of foreign aid. He further states that foreign aid is a burden on the economy of underdeveloped countries. Chenery and Strout, Papanek (1972) find that there is inconsequential effect of foreign capital inflow on the economic growth of developing countries. (Rana, Ali, Shabbir and Mahmood, Khan and Rahim, 1993) validates Griffin's study after conducting his research in developing Asian countries. On the basis of pragmatic findings and using dual-gap model, they both report that foreign capital inflows (FCI) helps in spurring the economic growth of under developing countries. Mosely, Tsai, 1994, Rugged regulations, political turmoil, bureaucratic Hassles, infrastructural bottlenecks etc all these factors restricted the entry of foreign capital into the Indian Territory. Before 1992, only Non-Resident Indians (NRIs) and Overseas Corporate Bodies were allowed to assume portfolio investments in India but in 1992, India opened its stock market for FIIs through liberalization and financial market reforms. Major reforms were made in the primary as well as secondary markets which authorized FIIs to make investment in both the markets (Pal and Chitre, 1996). In his study on Korean economy, Hong (1997) reveals that foreign capital inflows are affirmative with the economy's productivity. Agarwal, 1997; Bernan 1997 in their study reveals that India has witnessed a momentous increase in the share of FII investment in the stock market due to financial market reforms and government intervention have made the financial market more competent through mobilization of savings and effective capital investment. In their study, Chadee and Schlichting (1997) conclude that FDI has a positive impact on the economies of Asia-Pacific region.Borensztien; et al (1998) reveals in study of 69 underdeveloped countries that such countries can reap the benefits of FDI subject to their technology absorptive capabilities. Singh and Weisrie (1998) explain the relationship between Indian stock market, portfolio capital flows and economic growth with micro and macroeconomic perspective and find that emerging economies need to bring some reforms in the banking system and in the regulations of foreign capital inflows in order to gain maximum benefits from foreign investments. Khanna, 1999 states that in 1992 SEBI was assigned the power to set rules and to administer the FIIs in India and it also aimed to bring fundamental transformation in the equity market through reforms and deregulation since then. In late 90s there was decline in the share GDR in the composition of foreign capital in Indian stock market. Bhole, 1999 states that for transparency, efficient price discovery, reduction in the transaction cost and market segmentation, SEBI in 1999, banned all private off market deals in shares and listed corporate debts and issued the guidelines to adopt on line screen based electronic trading. Since then all Indian Stock Exchanges replaced Outery System with screen trading.Rangarajan (2000) reveals that there is an immense upward shift in the foreign capital in form of FDI in the emerging markets and after 1994 the flows of net portfolio investments have become more volatile. Hasnain (2000) states after conducting survey in Pakistan that the saving rate is not stimulated by the foreign capital.Kiong and Jomo (2001) discover that in Malaysian economy, domestic savings and foreign capital are affirmative to GDP. Kohli (2001) concludes that globalization and liberalization have resulted in the integration of domestic and foreign financial markets which have increased the inflows of net private capital to financial markets. In his study Chakrabarti, 2001 reports that till 1991 foreign inflows were mainly in form of foreign aid but post liberalization foreigners are pumping heavily in the Indian stock market in the form of FIIs.Chakrabrati and Samal,1997 states that conventionally only two instruments i.e. debt and equity were traded in the Indian Stock market but after 1991-92 ,there has been spectacular augmentation in the foreign capital inflow and new issues due to the introduction of new and hybrid instruments. In his study on 8 developed countries and 17 developing countries using VAR model, root and Ramadorai (2001) reveal that foreign investors must have information advantage for effective investment and price pressure is highly correlated with international portfolio flows. Ram and Zhang (2002) examine the relationship between FDI and Indian economic growth using co-integration and an error-correction model and reports that it helps host country to integrate with the global market and participate in the globalization process. In their study on 84 countries using a panel data for the period of 30 years from 1970 to 1999, Lensik, et.al, 2003 discovers that in Indian Capital market FIIs are more volatile in nature hence it is negatively related to the Indian economic growth whereas FDI and FPI are positively related to economic growth. Hsiao and Shen (2003) state that there is a two way or feedback relationship between FDI and GDP. Li and Liu (2004) discover that in the mid 8o's there was an increasingly endogenous relationship between FDI and economic growth.Katerina et al (2004) states that there is a negative relationship between FDI and economic growth and development of various transition economies like Albania, Belarus, Latvia, Moldova, Romania, Slovenia, Turkmenistan, Uzbekistan. Marwah and Tavakoli (2004) conclude the impact of FDI inflows and Imports on economic growth and productivity of Indonesia, Malaysia, Philippines and Thailand. Kemal et at (2004) reports that when inflation is rising, financial development may be injurious for economic growth and both the variables show non-dynamic rigid effect at the same time in his study on 19 highly income countries. Using dynamic panel models, Baharumshah and Thanoon (2006) reveals that in East Asian economies, FDI is contributing positively to the growth process of the economies. Herzer et al (2007) reveals in a study of 28 developing countries that there is no unidirectional long term effect of FDI on GDP of any country.Bhandari et al (2007) explores the impact of FDI and Foreign aid on the economic growth of East European countries and reveals that FDI and augmented domestic capital both play an important role in enhancing the growth in comparison with foreign aid. Mohey-ud-din (2007) in his study finds that foreign capital plays a significant role in enhancing the GDP growth of Pakistan as it provides financial and technical backing to industrial, agricultural and social sectors. It also helps in overcoming budget deficit and balance of payment deficit through expertise advice.Sethi (2007) examine that FII and FDI both have differential effect on the Indian economy using various tests in his study like Dicky-fuller (DF), Augmented-Dicky fuller (ADF), Phillips-person (PP) test etc. Moshirian (2008) reveals the effect of globalization and liberalization of financial markets on GDP and human development index.In his study Kamath (2008) explores that FDI plays a significant role in enhancing India's exports and economic growth.Ahmad and Qayyum (2008) suggest that impact of FDI on the Agricultural sector of Pakistan over the period of 1986-2006 and find that it may offer positive impact through consistent government policies and political stability.Chakraborty and Nunnenkamp (2008) examine the impact of FDI on service sector of India and report that FDI in service sector have accelerated the growth rate of manufacturing sector. Using a two stage growth accounting approach, Whaley and Xing (2009) examine the role of inward FDI on the economic growth of China and find that the stability in inward FDI may endanger the country's export and overall economic growth. Barajas et al (2009) states using regression technique that there is no correlation between remittances and the economic growth in the long run of 88 emerging economies over the period of 1970-2004.Duasa and Salina (2009) investigate the relationship between foreign portfolio investment and economic growth in Malaysia over the period of 1991-2006 using Granger Causality test and non-causality analysis. Zhang ; Hansen, Rand; Karimi and Yusop , Wijeweera et al. (2010) reports that FDI helps in accelerating the economic growth of the countries which adopts liberalized trade regime and have highly educated and skilled workforce. Arshad and Sujaat (2011) using Time series analysis, Granger Causality test, Panel co integration test, validates that FDI and Economic Growth both are directly related with each other and FDI has enhanced the growth of Primary sector in Pakistan.
SECTION III: DATA AND METHODOLOGY:
The data used in the study have been collected from various sources like, the handbook of statistics in Indian Economy (RBI), International Financial Statistics (IFS), and IMF. The period of study is from 1992 to December 2012. Foreign Direct Investment (FDI) is the major part of the direct flows into India, which contribute the direct contribution to growth. Foreign Institutional Investment (FII) is portfolio flows into India since September 1992.
Owing to the nature of data used in the study it becomes very important to test the Stationarity of data before applying test like Cointegration, Granger Causality and OLS technique as the nature of the data is time series. We use different unit root tests, namely Dicky- Fuller (DF), Augmented- Dicky Fuller (ADF) and Phillips-Perron (PP) (1988) test to add robustness in the results. We first study the data properties from an econometric perspective starting with the stationarity of data. We employ cointegration technique to understand the causality in Foreign Capital and GDP at Factor Cost. The Stationarity of series has been tested using Augmented Dickey Fuller (ADF) 1981. The ADF test uses the existence of unit root as the null hypothesis. To double check the robustness of the results, Phillips and Perron (1988) test of Stationarity has also been performed for the series.The next logical step for our purpose is to examine the Granger-causal relationship among the variables. X is said to "Granger-cause" Y if and only if the forecast of Y is improved by using the past values of X together with the past values of Y, than by not doing so (Granger 1969). Granger causality distinguishes between unidirectional and bi-directional causality. Unidirectional causality is said to exist from X to Y if X causes Y but Y does not cause X. If neither of them causes the other, then the two time series are statistically independent. If each of the variables causes the other, then a mutual feedback is said to exist between the variables.
MODEL DESIGN
Symbolically, the model on the impact of FDI, and FII on India's economic growth can be written as:
GDP FC = ï¡0 + ï¡1 FDIt + ï¡2 FII +ut ------------------ (1)
Where,
GDP FC = Gross Domestic Product (GDP) is taken as a proxy for economic
Growth
FDI = Foreign Direct Investment in Rs Crores. The actual data are given in Rs. (Crs.)
FII = Foreign Institutional Investment in Rs Crores.
SECTION IV: ANALYSIS AND INTERPRETATION OF THE RESULTS:
Trends and Composition of Foreign Flows into India
To understand the impact of foreign capital on economic growth it is important to analyze the trends and composition of financial flows into India. This will give us an inclusive picture of how the landscape of India changed with the inflows of foreign capital in India. There was a major upsurge of foreign capital in 90's and a major transformation in the nature of capital flow into India.
Till 1992, Private capital flows were negligible. However, over the years their volume has multiplied. External Assistance in the form of grants and loans from bilateral and multilateral sources constitutes almost 75-80 percent of flows till 1991. This decreased to about 20 percent in 1994 and below 5 percent by 1990's.Table 1 exhibits Total Inflows into the Indian Territory from 1992-93 till 2011-12 and also depicts the Trends of GDP at factor cost of India. All these trends have been shown graphically in Figure 1 and Figure 2.
Table 1: Total Inflows and GDP at Factor Cost (in crores)
Year
Total inflows
GDP at factor cost(in INR crores)
1992-93
977
11,58,025
1993-94
6,964
12,23,816
1994-95
8,923
13,02,076
1995-96
14,114
13,96,974
1996-97
18,589
15,08,378
1997-98
19,178
15,73,263
1998-99
8,774
16,78,410
1999-00
19,460
17,86,526
2000-01
28,339
18,64,301
2001-02
37,998
19,72,606
2002-03
27,056
20,48,286
2003-04
65,625
22,22,758
2004-05
72,953
29,71,464
2005-06
81,141
32,54,216
2006-07
1,34,204
35,66,011
2007-08
2,06,359
38,98,958
2008-09
1,27,930
41,62,509
2009-10
3,21,717
44,93,743
2010-11
2,84,900
48,85,954
2011-12
2,67,672
52,22,027
Source: World Investment Report, UNCTAD
Figure 1: Trends of Total Inflows and GDP at Factor Cost
Figure2: Trends of Foreign Direct Investment and Foreign Institutional Investment into India
India has engrossed more than US $ 40 billion of Foreign Investment in the last 10 years. Private flows to India have strengthened and at present it has increased to US $ 9 to 10 billion per year which constitute more than 55 per cent of FDI and FIIs. As the funds from the multilateral finance institutions and FDI are insufficient, there is an urgent need to attract foreign capital in the Indian Stock Market. Foreign capital in form of FII lowers the cost of capital as FIIs prefers equity than debt in their asset structures which contributes towards building the investment gaps. It enhances the competition and efficiency of financial market and also improves the corporate governance as FIIs is a professional body comprising of Asset managers and financial analysts thereby managing uncertainty and controlling risks. It also helps in the financial innovation, development of hedging instruments and also leads to higher asset prices.RBI restricted the access of bank borrowing or floating of bonds abroad only to few large corporate with high credit ratings in order to limit debt creating inflow. Liberalization has attracted inflow of Foreign Capital Investment in Primary and Secondary market for Indian Equity and Corporate Bond Market. About 460 Foreign Institutional Investors (FIIs) entered the Indian market which has brought more than US $ 14 billion GDR.
Table-1 exhibits an outline of the total foreign capital that India engrossed during the 1992-2012 period. Out of the total inflows, India has attracted about 965 Crores of foreign direct investment and 13 Crores of FIIs in 1992-93 which has increased to 173947 Crores and 93725 Crores in 2011-12.in the year 1998-99 and 2008-09,the FIIs figures were negative which depicts that during these years there was disinvestment .i.e. outflows were more than inflows. Many Indian companies issued GDR and got listed themselves on European exchanges like Luxembourg during the first phase of stock market liberalization. Initially, the FII investment was restricted to a selected group of stocks and was barred from the emergent market for bonds and government securities. The entry into the government securities was allowed in the late 1990s only. However, in the mid 1990s, FII investment in the Indian equity or bond market became the chief type of portfolio inflows (Khanna, 2002).Thus, private foreign investment to India constituted more than 55 % of aggregate inflows in a period of less than a decade. Such inflows helped Indian economy earn a comfortable foreign exchange position, thereby reducing the vulnerability of the economy to minor shocks and also brought hefty investments from Non-Resident Indians (NRIs). There was a spiky cry off in capital flight and black market premium on foreign exchange also disappeared due to trade liberalization resulting in the diversion of transfer payments from illicit channels to banking channels. By the end of the decade 1999-2000, there was razor-sharp rise in transfer payments also which rose from $2-3 billion in 1991-92 to $11-13 billion.
Evolution in Indian Financial Market after Liberalization
There has been evolution in the financial structure over the time due to market practices, government policies and five years plan priorities. During 1980's the role of Indian stock market in the financial market was increased due to household savings in corporate securities. Indirectly, Government was also responsible in influencing the financial markets as huge fraction of shares belongs to government owned financial institution like UTI (Gokarn, 1996). Before the financial sector reforms i.e. in the early 1990's although the volume of transaction was very high but still the pricing was not determined by the market forces. The transaction cost was very high and there was existence of uncertainty as securities sustained to exist in the physical form. A serious problem was created for clearing houses due to long and uncertain settlement cycles. Foreign investors were also defiant. Prior approval was required from the Controller of Capital Issues (CCI) under the Capital Issues (control) Act, 1947 for raising resource in market. In 1992, there were some amendments in this act which liberalized the regulations. In 1992, the Securities and Exchange Board of India (SEBI) was given statutory powers to embark on the job of policies, regulations and supervision (Khanna, 1999). In September 1992, India opened its stock market for foreign investors through Financial Market Reforms since then Foreigners are pumping money heavily in the Indian Stock Market in the form of Foreign institutional Investors (FII).To make a huge chunk of investment in the stock market, FIIs need to get register themselves with SEBI and follow the guidelines of RBI and SEBI.A FII may make investment through two routes: Equity Investment route and 100%Debt route. In case of former route FIIs can invest in the securities in the primary and secondary market including Shares (Listed, Unlisted or to be listed in the recognized Indian Stock Exchange), Unit schemes of Unit Trust of India, Domestic mutual funds and warrants. The latter provides opportunity to invest in Debentures (Non-convertible, Partly convertible), Bonds, Dated government securities, Treasury bills and other debt market instruments. But foreign companies and individuals are not allowed to invest through 100%debt route. A foreign company can set up and commence its operations in India through Joint ventures and wholly owned subsidiaries under the companies Act 1956.FIIs can acquire the shares and debentures of Indian companies under the Portfolio investment scheme (PIS).under this scheme, a FII can invest up to 24% of the paid up capital of the Indian Company. This ceiling can be raised subject to certain conditions. According to the draft report released by RBI's working group, the dominant roadblock for FII participation in the local currency bond markets is the "Withholding Tax". Report also mentions that in order to improve the financial market efficiency and to gain long term benefits, there is need to eliminate the Withholding Tax. Continuous depreciation is one of the pivotal risks to FII inflows in the stock market. In order to reverse the declining trend; there is an urgent need to bring a breakthrough in the investment pattern in the country which is hooked with the government policies and reforms. The main fall out of the financial sector reforms was the introduction of new guidelines regarding new issues and free pricing. Initially for floating new capital issues only fixed price mechanism were followed but in 1995, an alternative mechanism of book building was introduced giving the issuer an option to raise resources but due to certain restrictive guidelines no issues were floated. Later this mechanism was modified in 1999. This mechanism was devised with the aim to enable small investors to subscribe securities through transparent process. Issuers were required to meet the guiding principles of SEBI on certain issues like Disclosure and Investors protection (Reddy, 1997). Foreign Institutional Investor's (FII's) were allowed an unobstructed entry in both primary and secondary markets in September, 1992 in terms of volume of investment. Major reforms were made in the secondary market during this period like capital adequacy ratio for brokers, the prohibition of insider trading and the opening of computer based trading system (Pal, 1998 and Chitre, 1996).At present on-line-screen-based electronic trading has been adopted by all the stock exchanges of India which has replaced the open outery system. This mechanism helps in better transparency, more efficient price discovery, reduction in transaction costs and the segmentation of markets (Bhole, 1999).After 1991-92, there has been a spectacular swell in the number of new issues and amount of capital raised due to disclosure of information, safeguarding of investor's interest and entry of foreign investors. It also resulted in introduction of a large number of new and hybrid instruments. (Chakraborty, 2001 and Samal, 1997).
1 .Analysis of results
Before applying OLS technique the first step is test the stationary of the variables. The results of various unit root tests namely DF, ADF and PP test are shown in table-3 below. All the three tests suggest that not all the variables are having unit root. That means they are stationary at level. The DF, ADF and PP test are carried out using without trend and with trend option. In both the cases, results suggest that all the variables are stationary. However, the story is somewhat different in case of GDPFC variable. The ADF test for GDPFC suggest that it is stationary at level with trend, where as DF and PP tests indicate it is stationary. However, DF and PP tests suggest that the GDPFC variable is stationary at level when trend is allowed, where as ADF test does not support it.
To show the Dicky-Fuller (DF) test, the AR (1) process is shown.
Yt = µ+ Ï.Yt-1+εt
Where Ï and µ are parameters and εt is a white noise. Y is stationary, if 1<Ï<1. if Ï= 1, y is non stationary. The test is carried out by estimating an equation with Yt-1 subtracted from both sides of equations.
∆Yt = µ+ γ Yt-1 + εt
Where, γ = Ï - 1 and the null and alternative hypothesis are
H0: γ = 0
H1: γ >1
The t-statistics under the null hypothesis of a unit root does not have the conventional t-distribution. Dicky-Fuller (1979) shows that the distribution is non-standard, and simulated critical values for the selected sample. Later Mackinnon (1991) generalizes the critical values for any sample size by implementing a much larger set of simulations. One advantage of ADF is that it corrects for higher order serial correlation by adding lagged difference term on the right hand side.
One of the important assumptions of DF test is that error terms are uncorrelated, homoscedastic as well as identically and independently distributed (IID). Phillips-Perron (1988) has modified the DF test, known as PP test, which can be applied to situations where the above assumptions may not be valid. Another advantage of PP test is that it can also be applied to frequency domain approach, to time series analysis. The derivations of the PP test statistic is quite involved and hence not given here. The PP test has been shown to follow the same critical values as that of DF test, but has greater power to reject the null hypothesis of unit root test.
Table 2: Unit Root Tests Result
NAME
Panel-A
Panel-B
Integrated to I(1)
(ADF) Test
Phillips-Perron Test
(ADF) Test
Phillips-Perron Test
T-Statistics
T-Statistics
T-Statistics**
T- Satistics**
TOTAL INFLOWS
-1.09
-0.51
-41.98 **
-41.98 **
GDP FC
1.12
-1.38
-41.35 **
-41.32 **
The table describes the sample series that have been tested using Augmented Dickey Fuller (ADF) 1981. The ADF test uses the existence of a unit root as the null hypothesis. To double check the robustness of the results, Phillips and Perron (1988) test of Stationarity has also been performed for the series and then both the test are performed on series also as shown in Panel-A (non-integrated series) and Panel B are integrated to I(1). All tests are performed using 5%level of significance (**).
The sample return series exhibit Stationarity thus conforming that sample series are integrated to the first order. Panel (A) shows existence of unit root, and Panel (B) shows results of unit root as integrated to order 1, i.e. I (I) using both Philip Perron Test (PP) and Augmented Dicker Fulley Test (ADF).To employ cointegration technique it is a pre condition that the series have to non-stationary which is met. Hence we employ co-integration techniques to determine the existence of a stable long-run relationship between the GDPFC and Foreign Capital Inflows in India. Co integrating methodology fundamentally proceeds with non-stationary nature of level series and minimizes the discrepancy that arises from the deviation of long-run equilibrium. The observed deviations from long-run equilibrium are not only guided by the stochastic process and random shocks in the system. Cointegration implies linear combinations of both level series cancelling the stochastic trend; thereby producing a stationary series. Johansen's cointegration test is more sensitive to the lag length employed. Besides, inappropriate lag length may give rise to problems of either over parameterization or underparametrisation. The objective of the estimation is to ensure that there is no serial correlation in the residuals. Here, Akaike information criterion (AIC) is used to select the optimal lag length and all related calculations have been done embedding that lag length and is coming to be 2 lags. The results are presented in Table 3
Table 3: Johanson's Co integration Results
NAME
Hypothesis
Lag Length
Trace
Critical Value**
R=0,
Accept
R=1 Reject
Null
Alternate
Criterion
(Sc)
Max Eigen value
Statistic
5 % Sig Level
TOTAL INFLOWS & GDP FC
r =0
r ≥1
4 lags*
0.1249
362.5
15.49
Reject
The table provides the Johansen's co-integration test, maximal Eigen value and Trace test statistics are used to interpret whether null hypothesis of r=0 is rejected at 5 % level and not rejected where r=1. Rejection of null hypothesis implies that there exists at least one co-integrating vector which confirms a long run equilibrium relationship between the two variables
After analysing that there is a significant cointegration in the sample series we employ Granger Causality Test to know the causality between the two variables. Granger causality is a statistical concept of causality that is based on prediction. According to Granger causality, if a signal X1 "Granger-causes" (or "G-causes") a signal X2, then past values of X1 should contain information that helps predict X2 above and beyond the information contained in past values of X2 alone. "Granger causality" is a term for a specific notion of causality in time-series analysis. The idea of Granger causality is a pretty simple one: A variable X Granger-causes Y if Y can be better predicted using the histories of both X and Y than it can using the history of Y alone.
Table 4: Granger Causality Results
Null Hypothesis
Observations
F-Statistic
Probability
GDP AT FACTOR COST does not Granger Cause TOTAL INFLOWS
19
11.6335
0.00106
TOTAL INFLOWS does not Granger Cause GDP AT FACTOR COST
19
7.62369
0.00576
Ordinary least-squares (OLS) regression is one of the most popular statistical techniques used in the social sciences. It is used to predict values of a continuous response variable using one or more explanatory variables and can also identify the strength of the relationships between these variables (these two goals of regression are often referred to as prediction and explanation). The results of regression analysis are shown in the table 5.
Table 5: OLS Results
DEPENDENT VARIABLE : GDP AT FC, METHOD: LEAST SQUARES
Variable
Coefficient
Std. Error
t-Statistic
Prob.
TOTAL_INFLOWS
15.27
2.92
5.21
0
C
1439
3307
4.35
0.0003
R-squared
0.568
Mean dependent Var
2566963
Adjusted R-squared
0.569
S.D. dependent Var
1743888
S.E. of regression
1147152
Akaike info criterion
30.83386
Sum squared resid
2.50E+13
Schwarz criterion
30.93333
Log likelihood
-321.7555
F-statistic
47.21955
Durbin-Watson stat
1.927304
Prob(F-statistic)
0.000049
SECTION V: EMPIRICAL RESULT
The present paper tries to analyse empirically, the impact of Foreign Capital Inflows on GDPfc of India after Post Liberalization using annual data over the period 1992-93 to 2011-12. The result is based on OLS regression analysis.The unit root properties of the data were explored with the help of Augmented Dickey Fuller test (ADF), Phillips-Perron (PP) Test followed by co integration and causality tests. The major findings are as follows:OLS Method suggests that a positive relationship exists between foreign capital inflows and GDP and vice versa. In addition, whereas the Ordinary Least squares regression analysis can establish the dependence of either GDP on Foreign capital inflows or vice versa; this does not necessarily imply direction of causation.Unit root test clarified that both economic growth and foreign capital inflows are non-stationary at both level and the first differences in case of Augmented Dickey Fuller test (ADF), Phillips-Perron (PP) Test. Co integration test confirmed that economic growth and foreign capital inflows are co integrated, indicating an existence of long run equilibrium relationship between the two as confirmed by the Johansen co integration test results. Granger Causality test finally confirmed the presence of Uni-directional causality which runs from economic growth to foreign capital inflows.
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