Can Foreign Direct Investments Influence Sri Lankan Economic Growth? An Econometric Analysis

Abstract

According to the early economics literature, factor accumulation was the key component of economic growth, but in this respect he recent economic history had highlighted additional factors such as total factor productivity, international trade and foreign direct investment. As a whole, the economic integration of developing countries has increased dramatically in 1990s, consequently most of the developing countries concern about the foreign direct investment (FDI) as a tool of economic growth, since it provides more job opportunities, technological transfers and foreign reserves in order to achieve a higher level of economic growth. In the context of Sri Lanka, especially prior to 1970?s FDI was not seen as an instrument of economic growth. The period of 1970-1977 was characterized by a highly regulated economy although FDI was encouraged by the White paper in 1972, the climate for such foreign investment or any private investments were not congenial. Since 1977, the country has practiced the open economy policy, therefore has vigorously promoted foreign capital inflows where FDI particulars are viewed as a necessary condition to accelerate the growth. In this setting therefore, it has a timely importance to examine the effects of FDI on economic growth. In this study, I attempt to identify the relationship between FDI and Sri Lankan economic growth. The current study is basically based on time series data during the period of 1990 ? 2009 which have been collected from the various issues of Central Bank annual reports. In accordance with the theory macroeconomics time series data follow the unit root process, Augmented Dicky Fuler test was employed to check the stationary of the variables. After checking the stationary of the variables by employing ADF test, the Vector Autoregressive (VAR) model has been employed to identify the short run dynamics, followed by the Granger Causality Test. According to the results, though FDI positively related to economic growth of Sri Lanka, the magnitude of contribution is quite low compared to the other determinants of economic growth. Hence, it is very crucial to provide and maintain the encouraging vicinity for FDI, in order to enhance the contribution of FDI by getting the optimum benefit of the FDI inflows.