ECONOMIC IMPACT OF FOREIGN DIRECT INVESTMENT IN SOUTH ASIA

Pradeep Agrawal Indira Gandhi Institute of Development Research, Gen. A.K. Vaidya Marg, Goregaon (E), Bombay - 400 065, India Email: pradeep@igidr.ac.in Fax: (22) 840 2752. Phone: (22) 8400919

January 2000

ABSTRACT This paper presents empirical evidence on the impact of foreign direct investment (FDI) inflows on investment by national investors and on GDP growth. While our focus is on India, for enhanced reliability, we undertake time-series cross-section analysis of panel data from five South Asian countries: India, Pakistan, Bangladesh, Sri Lanka and Nepal. We find that increases in the FDI inflows in South Asia were associated with a many-fold increase in the investment by national investors, suggesting that there exist complementarity and linkage effects between foreign and national investment (a part, but not all, of this effect appears to be driven by the government policies requiring FDI to share some equity with national investors). Further, the impact of FDI inflows on GDP growth rate is found to be negative prior to 1980, mildly positive for early eighties and strongly positive over the late eighties and early nineties, supporting the view that FDI is more likely to be beneficial in more open economies. We also found that since 1980, FDI inflows contributed more to GDP growth in South Asia than did an equal amount of foreign borrowing. This suggests that FDI is preferable to foreign borrowing.

ECONOMIC IMPACT OF FOREIGN DIRECT INVESTMENT IN SOUTH ASIA Pradeep Agrawal

1. INTRODUCTION One of the important and contentious issues in the forthcoming WTO 2000 meetings is the Multilateral Agreement on Investment (MIA) being pushed by the members of the European Union. The purpose of this agreement is to establish a multilateral framework for investment. The object of these moves appears to be to secure for foreign investor, virtually unfettered rights to invest in all sectors of the host countrys economy and to obtain for them the same treatment as investors from the host nation. However, many developing countries, including India, are wary of such demands. Some concerns among developing countries are that the multinational firms might adversely affect the development of domestic firms and otherwise be a source of their economic exploitation. In order to be able to negotiate effectively, it is important that we better understand the economic role of foreign direct investment (FDI) in developing countries in general and India in particular. Some of the important issues of contention are as follows: (1) Does FDI crowd out domestic private investment or does it increase it by fostering various backward and forward linkages with domestic firms? (2) Does FDI increase GDP growth by creating jobs, increasing exports, bringing new management and production techniques or does it lower GDP growth in the long run by taking excessive profits out of the developing country. These issues can be analyzed econometrically. A few cross-country studies do exist which suggest that, by and large, FDI is economically beneficial to developing countries (see for 2

example, Balasubramanyam, Salisu and Sapsford, 1996; and Fry, 1993). However, additional work is needed to carry out more careful and country or region specific studies (for example, to eliminate doubts that the cross-country results may be driven by a few extreme cases and may not apply to the specific country or region in question). In this paper, we analyze the above-mentioned issues econometrically. Since FDI inflows into India have been very small (averaging less than 0.1 percent of the GDP until 1991 and about 0.5 percent of the GDP over 1992-96), for enhanced reliability, we undertake timeseries cross-section (panel) analysis of data for five South Asian countries: India, Pakistan, Bangladesh, Sri Lanka, and Nepal. This is reasonable since the south Asian countries generally have similar economic structure and have followed similar policies towards FDI, The analysis is done using about 25-30 years data over the 1965-96 period from each of the five countries. The plan for the paper is as follows. In section 2, we study the impact of FDI on domestic investment and in Section 3, we study the impact of FDI on GDP growth in South Asia. Some concluding remarks are made in Section 4. We hope the study can provide a more clear understanding of the economic impact of FDI in South Asia.

2. THE IMPACT OF FDI ON INVESTMENT BY NATIONAL INVESTORS In order to study the impact of FDI on domestic investment, we need to estimate an investment function and then analyze the impact of FDI. Thus, in this section we briefly discuss the various variables that affect investment and specify a likely functional form for it. Then, we briefly discuss the econometric procedures used in this paper (Section 2.2).

The Investment Function Blejer and Khan (1984, p. 383) describe some of the difficulties of estimating neoclassical investment functions for developing countries, such as, the lack of readily available 3

measures of the capital stock or its rate of return. Thus, the investment function estimated here is based on the flexible accelerator model as developed in Fry (1998). The accelerator model has the desired real capital stock k* proportional to real output, y: k* = y. This can be expressed in terms of a desired investment rate (INV/Y)*: (INV/Y)* = G, (2) (1)

where INV denotes gross domestic fixed investment in current prices, Y denotes GDP in current prices and G is the rate of growth of real GDP, y. A partial adjustment mechanism allows the actual investment rate to adjust to the difference between the desired investment rate and the investment rate in the previous period: (INV/Y)t = [(INV/Y)* (INV/Y)t-1 ] Or, (INV/Y)t = (INV/Y)* + (1)(INV/Y)t-1 , (3)

where is the coefficient of adjustment. The flexible accelerator model allows economic conditions to influence the adjustment coefficient . Specially, = 0 + (1 X1 +2 X2 +3 X3 +)/[(INV/Y)*-(INV/Y) t-1 ], (4)

where Xi are the variables (including an intercept term for a constant depreciation rate) that affect and i are their respective coefficients. The explanatory variables used here are GDP growth rate (G) over the previous year, domestic credit availability as share of GDP (CRDT/Y), net foreign direct investment inflows as share of GDP (FDI/Y), terms of trade (TOT) an index with base year (1990) value set to 100, real exchange rate (RER), net total foreign borrowing as share of GDP (TEDtot/Y) and the real lending rate (RL). These are explained below. The inflows of foreign direct investments constitute a source of funds for investment. The use of this source of funds depends on the various policies towards FDI (such as the maximum

share of foreign equity allowed in joint venture, regulations relating to repatriation of profits, various other policies and regulations relating to industry and labour and the overall attractiveness of the country). The foreign direct investment can also promote domestic investment through the backward and forward linkages with the domestic industries. Similarly, the foreign borrowing can be used as a source of funds for investment (although public foreign borrowing does have a tendency to go (partially) into meeting urgent government budgetary requirements as well). Thus, we also include as an explanatory variable, the net total foreign borrowings as a share of GDP. This variable will also allow us to compare the relative effectiveness of foreign borrowing and FDI inflows in promoting investment. An improvement in the terms of trade (unit price of exports divided by the unit price of imports) can increase investment by increasing real income, making capital goods (mostly importables in developing countries) cheaper relative to the domestic goods. In some situations, it could also decrease investment by decreasing the demand for domestic goods compared to importables (see, for example, Cardoso, 1993). Now consider the impact of an increase in the real exchange rate, RER. It is defined as: RER = E.Pf/P (5)

where E is the exchange rate (number of domestic currency units per Dollar), P is the domestic price level (the GDP deflator) and Pf is the foreign price level (proxied here by the US GDP deflator, given that USA is the most important trading partner of the countries being studied). An increase in RER would increase the price of imported capital and intermediate goods and result in a contraction of investment (Serven and Solimano, 1992; Fry, 1995). Van Wijnbergen (1985) develops a two-sector model that show that the net effect of a real depreciation is ambiguous investment in tradeable goods increases while that in the domestic goods declines. True domestic costs of capital are very difficult to measure in the South Asian developing countries examined here because of the lack of data on tax rates, selective credit policies and 5

dis-equilibrium institutional interest rates. Therefore, here we use the real lending rate of banks as a proxy for the cost of capital. The real lending rate is obtained by subtracting the average of current and next years inflation rates from the nominal prime-lending rate of the banks. The availability of institutional credit is one of the most important determinant of the investment rate in developing countries (see, Blinder and Stiglitz, 1983; Fry, 1995). The quantity of credit is likely to be important in a credit market where the interest rates are controlled at below market clearing levels and/or directed credit programs exist for selected industrial sectors (the later have continued in most of the countries under consideration even after they have liberalized their financial system over the 1980s). Further, banks specialize in acquiring information on default risk. This information is highly specific to each client. Hence, the market for bank loans is a customer market, in which borrowers and lenders are imperfect subsitutes. A credit squeeze rations out some bank borrowers who may be unable to find loans elsewhere and so be unable to finance their investment projects (Blinder and Stiglitz, 1983, p. 300). Here, therefore, the investment rate INV/Y is influenced by the ratio of domestic credit to GDP, CRDT/Y. Finally, note that the gross fixed domestic investment includes the foreign direct investment. However, our interest is in studying the impact of FDI inflows on the investment made by the host country investors. Thus we consider the nationally owned gross fixed investment defined as gross fixed domestic investment minus the net FDI inflows (and denoted INVnf). Then we define the dependent variable as the ratio of nationally owned gross fixed investment to GDP (INVnf/Y). Given the above explanatory variables, equations (3) and (4) suggest estimating a long run relation of the type:

INVnf/Yt = bo + b1 Y + b2 CRDT/Yt + b3 FDI/Yt + b4TOTt + b5 RER + b6 TEDtot/Y + RL

(6)

For our purposes, the crucial variable here is FDI/Y. The coefficient, b3, of FDI/Y should be zero if FDI has no impact on investment by local or national sources. If FDI is associated with a decline in investment from host country investors, b3 should be negative while if FDI inflows are associated with an increase in investment by local investors, the co-efficient b should be 3 positive. The above relation is estimated using pooled time series cross section data for about 25 to 30 annual observations between 1965 and 1996 for the five South Asian countries under consideration. A dynamic version of the linear model was estimated, by including the lagged dependent variable since the explanatory variables can be expected to determine the change in the investment rate rather than its absolute level. We used the fixed effects model, which is usually appropriate when one has relatively small number of countries and large number of observations for each country. In this model, dummy variables were included for all but one country, although their coefficients are not reported for brevity. The results of the estimation are shown in Table 1. It is seen that most of the variables have the expected sign: higher GDP growth and additional credit availability is associated with increased investment. The impact of net total foreign borrowing as share of GDP (TEDtot/Y) is positive and that of real lending rate (RL) on investment is negative (column C). The coefficients of these variables have the correct signs but their magnitudes are not significant - they were therefore dropped from the estimation. Similarly, the changes in terms of trade (TOT) and real exchange rate (RER) have an insignificant effect on investment (see columns C and B) and they too were dropped from the estimated relation. The resulting relation is reported in column A. The crucial variable, the ratio of net FDI

inflows to GDP (FDI/Y) has a strongly positive effect with a coefficient in the range of 1.7 to 2.8 in columns A to C. Note that when the lagged dependent variable is included in the regression, as is the case here, the long run co-efficient is obtained by dividing the coefficient of FDI/Y by 1- the coefficient of the lagged dependent variable1. Using this result, the long run coefficient of FDI/Y is found to be in the range of 4 to 5. This implies that a 1 percent increase in FDI is associated with a 4 to 5 percent increase in nationally owned investment in the long run. This suggests that there exists complementarity between FDI and the nationally owned investment, possibly through various backward and forward linkages. However, there is a possibility that this result could be driven by the requirement of less than 100% equity ownership by foreign direct investors (common in most South Asian countries except in some selected sectors (such as export oriented units and those in certain high technology areas). For example, India did not allow more than 40 percent foreign ownership of a firm until 1992. Given that such foreign equity restrictions in South Asia were gradually relaxed over the 1980s and even further over the 1990s, one would expect this coefficient to decrease over time. To test this hypothesis, we repeated the regression in column A of Table 1 over (A) all available observations over 1965-96, (B) all observations over 1980-96, (C) all observations over 1985-96, and (D) all observations over 1990-96. The results are shown in Table 2, Columns A to D, respectively (using the same explanatory variables as in column A of Table 1). It is seen that the co-efficient of FDI/Y does indeed decrease from 1.92 for the 1965-96 period to only 0.48 over the 1990-96 period this implies that the long term coefficient of FDI/Y (see footnote 1) declined from 4.42 over the 1965-96 period to only 1.98 for the 1990-96 period (Table 2). This corroborates our hypothesis that the complementarity between FDI and national investment was, at least partly, policy driven. However, it is noteworthy that the coefficient of FDI/Y remains
1

To see the logic behind this, note that if Yt = aXt + bYt1

then in the long run equilibrium where Yt =Yt-1 = Y and Xt = X, we have,

positive even over the 1990-96 period so that the FDI inflows have a positive effect on the nationally owned investment over all periods of our analysis. Furthermore, the long run coefficient for gross fixed investment net of FDI when foreign equity is 40 percent (as in pre-1992 India) would be 1.5, which would decline to 0.33 when foreign equity increases to about 75 percent (which is a reasonable estimate for India for the 1992-96 period since foreign equity limits varied from of 51 to 100 percent depending upon the sector of operation). Since the estimated long-run coefficients for these periods are 4.42 and 1.98 respectively, they suggest that the FDI inflows had a positive impact on the nationally owned investment, over and above that necessitated by the policy restrictions on foreign equity share. Thus, the complementarity between FDI and the nationally owned investment can be expected to continue even if the restrictions on foreign equity share are further liberalized or removed all together. However, doing so would dilute the complementarity (that is, increases in national investment accompanying a given amount of FDI would be lower). Thus, further liberalization of equity restrictions on foreign firms would be especially desirable when doing so attracts considerably larger inflows of FDI (as was the case in India following the 1992 liberalization of restrictions on foreign equity share) and the impact of FDI inflows on economic growth is positive. The last aspect is considered in the next section.

3. IMPACT OF FDI ON GDP GROWTH We have seen in the previous section that FDI has had a strongly complementary effect on investment, leading to additional investment by host country investors, which is several times the FDI inflow. However, the more important question is, how do FDI inflows affect GDP growth. FDI inflows could promote GDP growth by providing additional employment in a labour surplus economy and by improving technological know-how and human capital. On the other hand, as Y= aX+bY, so that; Y= [ a/(1-b)].X. 9

the analysis of Brecher and Diaz-Alejandro (1977) suggests, foreign capital inflows could lead to immiserizing growth when such inflows can earn excessive profits in the host country, which are particularly likely in economies subject to various trade and financial distortions. India and most other South Asian economies suffered from severe trade distortions while they were following protectionist policies in the 1960s and 1970s; these have eased slowly as they liberalized gradually over the 1980s and 1990s. Thus, the issue assumes added significance in the context of South Asia. To test the impact of FDI on growth, we use the conventional neo-classical production function, but add foreign capital as an additional variable2. Further, following a large number of empirical studies (Ram, 1985; Salvatere and Hatcher, 1991; Greenaway and Sapsferd, 1994, Edward, 1996) which have supported the export led growth hypothesis, we also introduce exports as a variable in the production function. This is done because exports, like FDI, can result in a higher rate of technological innovation and dynamic learning from abroad. They also impose a certain market discipline, thus reducing the rent seeking ability of special interest groups - and thereby minimizing distortions in the economy (Agrawal et al 2000). Thus, the production function can be written as y = F(L, kd, kf, x, t) Where, y= Gross Domestic Product (GDP) in real terms L = Labour Input kd= Stock of Domestic Capital in real terms kf= Stock of Foreign Capital in real terms x= Exports in real terms t = a time trend which captures the improvement in productivity due to technical
2

(7)

This approach has been previously used by Balasubramanyam, Salisu and Sapsford (1996).

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progress. Assuming the production function to be log-linear, taking logs and differentiating with respect to time, we obtain
^ ^

G = a + b kd + c kf + d x + e L + u

(8)

Where a hat on a variable denotes its growth rate, G denotes the growth rate of real GDP (y) and u denotes a random error term. In the context of surplus labour economies of South Asia, growth of labour force is not likely to be a significant determinant of GDP growth (this was also confirmed by empirical estimations). Thus, this variable was dropped as an explanatory variable. Furthermore, in view of serious difficulties associated with measuring capital stocks (even more so in the context of developing countries), we follow the precedent set in numerous previous studies and approximate the rate of growth of domestic and foreign capitals by the ratio of domestic fixed investment (net of FDI) to GDP (INVnf/Y) and the ratio of net FDI inflows to GDP (FDI/Y). Thus the equation to be estimated is:

G = a + b INVnf / Y + c FDI / Y + d x + u

(9)

For our purposes, the crucial variable here is again FDI/Y. Note that the coefficient, c, of this variable should be equal to the coefficient, b, of INVnf/Y if FDI is just as efficient in promoting GDP growth as nationally owned investment. If the greater technological know-how, human capital or exporting capabilities of FDI make it more efficient in promoting growth, the co-efficient, c, can be expected to be greater than the coefficient, b. On the other hand, if FDI takes excessive profits out of the country without contributing much in terms of technology etc., the coefficient, c, should be smaller than the coefficient, b. Finally, if the co-efficient, c, of FDI/Y were negative, it would imply a net negative impact on GDP growth i.e., immiserizing growth resulting from FDI inflows. 11

The above relation is estimated using pooled time series cross section data for about 25 to 30 annual observations between 1965 and 1996 for the five countries under consideration. We used the fixed effects model, which is usually appropriate when one has relatively small number of countries and large number of observations for each country. In this model, dummy variables were included for all but one country, although their coefficients are not reported for brevity. The results of the estimation are shown in Table 3, column A. It is seen that both a higher
^

rate of growth of exports ( x ) and a higher investment rate (INV/Y) are associated with a higher rate of GDP growth. The crucial coefficient of FDI/Y is negative though not statistically

significant. Given that FDI inflows have been around 0.5 percent of GDP on average over the period of our analysis (1965-96) in the South Asian countries, the statistical insignificance is somewhat understandable. Thus, the negative sign of the coefficient of FDI/Y is still of concern since it implies that in South Asia, FDI inflows might be leading to immiserizing growth as suggested by the work of Brecher and Diaz-Alejandro(1977). However, Brecher and Diaz-Alejandro(1977) also suggest that such immiserizing growth is likely to result primarily under severe trade and financial market distortions that present FDI with an opportunity to earn excessive profits. In the case of most South Asian Countries, there has been gradual movement over the 1980s and 1990s in the direction of economic reforms and reduction in the trade and financial market distortions. Thus, it would be of interest to examine whether the economic impact of FDI has changed over time. Accordingly, we re-estimated the above relation with observations only for periods 1980-96, 1985-96 and 1990-96. The results of these three additional regressions are also shown in Table 3, columns B, C and D. It is seen that the sign of the co-efficient of FDI/Y variable becomes positive over the period 1980-96 and gradually increases in magnitude as we move to latter periods. Over the period 1990-96, it is as much as 1.37, almost 13 times the co-efficient of total national investment INVnf/Y.

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Thus we find that while the FDI inflows may have earned excessive profits and led to immiserizing growth over the 1960s and 1970s when there were severe trade and financial market distortions, the FDI inflows have helped achieve faster economic growth in South Asia in the liberalized environment beginning in 1980s and especially over the 1990s. This may be due to reduction in excessive profits due to reduced distortions and a greater contribution to technological know-how etc in the more competitive environment over 1980s and 1990s. Thus, further FDI inflows appear to be desirable and should be encouraged. In this context, it is also worth comparing the relative merits of FDI inflows and foreign borrowing (an alternative form of foreign capital). For this purpose, we re-estimated relation (9) after adding another variable, namely, net total (private and public) additional foreign borrowing as share of GDP, TEDtot/Y. This was obtained by calculating the change in total external debt in US dollars, converting it to current local units and dividing by nominal GDP). That is, we estimated the following relation:

G = a + b INVnf / Y + c FDI / Y + d TEDtot / Y + e x + u

(10)

This relation was estimated over the same four periods as in Table 3 (that is, all available observations over 1965-96, 1980-96, 1985-96 and 1990-96). The results of estimation are shown in Table 4. It is seen that over the periods since 1980, the coefficient of TEDtot/Y is positive but small compared to the coefficient of FDI/Y. This suggests that FDI inflows are more desirable than the foreign borrowing. It may be worth noting that since 1980, FDI inflows in the rapidly growing East Asian economies) have averaged about 3 percent of GDP, they have averaged about 5 percent in communist China, while they have averaged only 0.5 percent in South Asia (Figure 1). Thus, there is scope for increasing FDI inflows considerably and doing so could increase the South Asian GDP growth rates by a few percent.

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4. CONCLUSIONS In this paper, we have tried to infer the economic impact of foreign direct investment in South Asia. This is done by using time-series cross-section analysis of panel data from the five main South Asian countries to estimate the impact of FDI inflows on nationally owned investment and on GDP growth. We find that an increase in the FDI inflows in South Asia was associated with a manyfold increase in the investment by national investors. Our analysis suggests that this is partly due to the requirement in most South Asian countries of less than 100% equity ownership by foreign direct investors, except in some selected sectors (such as export oriented units and those in certain high technology areas). For example, India did not allow more than 40 percent foreign ownership of a firm until 1992. This also explains why this coefficient has decreased over time as the foreign equity restrictions have been eased. However, since the long run positive impact of FDI on national investors is considerably more than this effect alone would imply, our analysis suggests that there exist complementarity and linkage effects between foreign and nationally owned investment, over and above those imposed by the restrictions on foreign equity ownership. The impact of FDI inflow on GDP growth rate is found to be negative prior to 1980, mildly positive for early eighties and increasingly positive over the late eighties and early nineties. It is noteworthy that most South Asian countries followed the import substitution policies and had high import tariffs in the 1960s and 1970s. These policies gradually changed over the 1980s, and by the early 1990s, most countries had largely abandoned the import substitution strategy in favor of more open international trade and generally, market oriented policies. Thus, the work of Brecher and Diaz-Alejandro (1977), who argued that foreign capital can lower the economic growth by earning excessive profits in a country with severe trade distortions (such as high tariffs), provides a plausible explanation for these results. 14

We also found that since 1980, FDI inflows contributed more to investment and to GDP growth in South Asia than an equal amount of foreign borrowing. This suggests that to the extent that some foreign capital inflow has to be used, foreign direct investment is preferable to foreign borrowing. These results provide some support for more liberal policies towards foreign direct investment. However, it should be remembered that FDI is not beneficial under all conditions. Just as the lack of competition and high import tariffs may have allowed FDI to earn excessive profits and be associated with immiserizing GDP growth during the 1960 and 1970s, excessive concessions (on taxes, access for FDI to some of the more vulnerable or non-competitive sectors of the economy, or other fronts) could have a similar effect in the future. Thus, the South Asian countries need to negotiate hard to ensure that they do not give unreasonable concessions under the Multilateral Investment Agreement under the WTO 2000 negotiations (such as national treatment of FDI and essentially unlimited access to our domestic markets) at least not without getting adequate concessions 3 in return from developed countries.

For example, we could negotiate for considerably improved access to the labor markets of developed countries for our workers. Currently, many of our professionals (e.g. doctors) face unfair restrictions in many developed countries which are designed primarily to protect jobs for their nationals.

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REFERENCES:
Agrawal, Pradeep (2000), Policy Regimes and Industrial Competitiveness: A Comparative Study of South Asia and India, Macmillan, UK. Balasubramanyam , V.N., M.Salisu and D. Sapsford (1996) Foreign Direct Investment and Growth in EP and IS Countries, The Economic Journal, 106 (January), 92-105. Blejer, M. and Khan, M. (1984) "Government Policy and Private Investment in Developing Countries", IMF Staff Papers 31(2), 379-403. Blinder, Alan S and J. E.Stiglitz (1983), Money,Credit Constraints and Economic Activity, American Economic Review, vol.73, 297-302. Brecher, R.A. and Diaz-Alejandro, C.F. (1977) Tariffs, Foreign Capital and Immeserizing Growth, Journal of International Economics, Vol.7, pp.317-22. Cardoso, Eliana (1993), Private Investment in Latin America, Economic Development and Cultural Change; 41(4), July 1993, pages 833-48. Edwards, S. (1996) "Why are Latin America's Saving Rates so low? An International Comparative Analysis", Journal of Development Economics, 51, 5-44. Fry, M. (1995) Money Interest and Banking in Economic Development Baltimore, MD, USA : Johns Hopkins University Press, 2nd edition. Fry, Maxwell J. (1998) Saving, Investment, Growth and Financial Distortions in Pacific Asia and other Developing Areas, International Economic Journal vol.12, no. 1, 1-25 Fry, Maxwell J. (1993) Foreign Direct Investment in Souteast Asia : Differential Impacts, Institute off Southeast Asian Studies, Singapore. Greenway, D. and Sapsford, D. (1994), What does Liberalisation Do for Exports and Growth?, Weltwirtschaftliches Archiv, vol. 130, no. 1, pp. 152-73. Ram, R. (1985) Exports and Economic Growth. Some Additional Evidence, EconomicDevelopment and Cultural Change, vol. 33, pp. 415-25. Salvatore, D. and Hatcher, T. (1991) Inward Oriented and Outward Oriented Trade Strategies, Journal of Development Studies, vol. 27, pp. 7-25. Serven, Luis and Solimano Andres (1992) Private Investment and Macroeconomic Adjustment: A Survey, World Bank Research Observer vol. 7, no.1, 95-114 Van Wijnbergen, S., (1982) "Stagflationary Effect of Monetary Stabilization Policies: A Quantitative Analysis of South Korea", Journal of Development Economics, 133-169

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Table 1 : OLS Estimation of Gross Fixed Investment net of FDI (share in GDP) Using Panel data from South Asia, 1965-96, (Fixed Effects Model) Explanatory Variable A B C Constant GDP growth Rate, G Total Domestic Credit as share of GDP, CRTOT/Y FDI (net) Inflow as share of GDP, FDI/Y Terms of Trade, TOT Real Exchange Rate, RER Net Foreign Borrowing as share of GDP, TEDtotY Real Lending rate, RL Lagged Dependent Variable, INVnf/Y(-1) Long term coefficient for FDI/Y R2 Std Error of Regression 4.263 (4.366)** 0.0399 (0.759) 0.0929 (3.770)** 1.917 (4.005)** --5.191 (3.396)** 0.1034 (1.650) 0.0913 (3.078)** 1.705 (2.809)** -.01003 (-1.260) -.0115 (-.216) 5.348 (3.031)** 0.0977 (1.232) 0.129 (3.770)** 2.853 (3.847)** -.617 (-.680) -.263 (-.041) 0.0312 (0.561) -.0119 (-.246) 0.447 (4.656)** 5.159 0.906 1.569 2.13 69

0.566 (8.204)** 4.417 0.873 1.468

0.570 (7.252)** 3.965 0.890 1.506

Durwin-Watson Stat., DW 1.91 1.87 No. of Observations, N 127 98 Notes: The t-ratios of regression coefficients are given in brackets. ** implies confidence level of 99%, * implies confidence level of 95%

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Table 2 : OLS Estimation of Gross Fixed Investment net of FDI (share in GDP) Using Panel data from South Asia for four different time periods, (Fixed Effects Model) Explanatory Variable A B C D Constant GDP growth Rate, G All Obs. 4.263 (4.366)** 0.0399 (0.759) 0.0929 (3.770)** 1980-96 4.535 (1.940)* 0.054 (0.722) 0.107 (2.521)** 1985-96 4.956 (1.440) 0.0897 (1.050) 0.0413 (0.767) 1990-96 2.623 (0.565) 0.154 (1.181) 0.0415 (0.518) 0.476 (0.630) 0.759 (5.095)** 1.975 0.930 1.175 2.007 35

Total Domestic Credit as share of GDP, CRTOT/Y

FDI (net) Inflow as share 1.917 1.461 0.934 of GDP, FDI/Y (4.005)** (2.402** (1.605) Lagged Dependent 0.566 0.519 0.660 Variable, INVnf/Y(-1) (8.204)** (5.498)** (5.977)** Long term coefficient for 4.417 3.037 2.747 FDI/Y 0.893 0.929 R2 0.873 Std. Error of Regression 1.468 1.453 1.090 Durbin-Watson Stat., DW 1.91 2.263 2.099 No. of Obs., N 127 84 60 Notes: The t-ratios of regression coefficients are given in brackets. ** implies confidence level of 99%, * implies confidence level of 95%

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Table 3 : Impact of FDI Inflows on GDP Growth OLS estimation using Panel data from South Asia, 1965-96, (Fixed Effects Model) Explanatory Variable A B C Constant Growth Rate of Real Exports,
^

D 1990-96 2.301 (0.526) 0.0376 (1.289) 0.102 (0.541) 1.378 (1.401)* 0.161 1.682 2.29 35

X
Fixed Investment (net of FDI) as share of GDP, INVnf/Y

All Obs. 1.043 (0.617) 0.0452 (2.837)*** 0.170 (1.961)**

1980-96 2.627 (0.993) 0.0873 (4.042)*** 0.107 (0.872)

1985-96 2.998 (0.804) 0.0337 (1.403) 0.106 (0.625)

FDI (net) Inflow as share of -.302 0.179 0.595 GDP, FDI/Y (-.361) (0.200) (0.703) R2 0.121 0.261 0.179 Std. Error of Regression 2.485 2.063 1.745 Durbin-Watson Stat., DW 2.31 2.385 2.17 No. of Obs., N 132 85 60 Notes: The t-ratios of regression coefficients are given in brackets. *** implies confidence level of 99%, ** implies confidence level of 95% and * implies confidence level of 90%.

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Table 4 : Impact of FDI Inflows on GDP Growth OLS estimation using Panel data from South Asia, 1965-96, (Fixed Effects Model) Explanatory Variable A B C All Obs. 1980-96 1985-96 Constant 1.0033 2.498 1.676 (0.596) (0.939) (0.430) ^ 0.0471 0.08520 0.0352 Growth Rate of Real Exports, X (2.956)*** (4.080)*** (1.468)* Fixed Investment (net of FDI) as 0.1647 0.1075 0.153 share of GDP, INVnf/Y (1.897)* (0.872) (0.892) FDI (net) Inflow as share of GDP, -.288 0.225 0.7668 FDI/Y (-.345) (0.252) (0.895) Net Foreign Debt inflow as share of 0.077 0.0547 0.0906 GDP, TEDtot/Y (1.418) (0.663) (1.146) R2 0.135 0.261 0.199 Std. Error of Regression 2.476 2.063 1.740 Durbin-Watson Stat., DW 2.28 2.385 2.12 No. of Obs., N 132 85 60 Notes: The t-ratios of regression coefficients are given in brackets. *** implies confidence level of 99%, ** implies confidence level of 95% and * implies confidence level of 90%.

D 1990-96 -.473 (-.109) 0.0348 (1.271) 0.212 (1.146) 1.840 (1.940)* 0.2066 (2.148)*** 0.287 1.580 2.16 35

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Figure 1: Ratio of foreign direct investment inflows to GDP

5 4.5

Foreign Direct Investment as % of GDP

4 3.5 3
B'desh(8) EA_Avg India(7)

2.5 2 1.5 1 0.5 0 1960 1963 1966 1969 1972 1975 1978 1981 1984 1987 1990 1993 -0.5 1996

Nepal(9) Srilanka(10) Pakistan(11)

Year

Note : EA Avg refers to simple average over six East Asian Countries (South Korea, Taiwan, Singapore, Malaysia, Thailand and Indoneasia)