How far is FDI relevant to India’s foreign trade growth? An empirical investigation

Abstract

The study seeks to foster fresh empirical evidence on how FDI is relevant to the foreign trade growth in India under a time-varying parameter model with vector autoregressive specification. The Johansen’s cointegration test documents a significant and positive long-run co-movement between FDI and foreign trade in India. The vector error correction model suggests a unidirectional long-run causality from foreign trade to FDI. However, the Granger causality test confirms a bidirectional short-run causal relationship between these variables. Further, the variance decomposition analysis approves strong exogeneity of foreign trade. Again, the impulse response function analysis reveals that the responses generated from a positive shock of foreign trade to FDI and vice versa are small and initially negative and thereafter remain persistently positive at a constant level. The study finally concludes that the absence of long-run causality from FDI to export is the result of much domestic market orientation of foreign investors and less emphasis on the export-oriented sectors in India.