The Impact of the Growth of FDIs on the Indian Economy - Research Proposal Example

The Impact of growth of FDI on the Indian Economy Table Of Contents Table Of Contents 2 Introduction 2 Relation to previous Research 3 Early Research 3 Positive Impacts of FDI on the Economy 4 Negative Impacts of the FDI on Economy 4 Research in context of India 4 Proposed Methodology 5 Literature Review 5 Quantitative Analysis 5 Qualitative Analysis 6 Reflections 6 Empirical Data Collection And Analysis 7 Issues in Qualitative Analysis 8 Scope of the Study 8 Conclusion 8 Timeline of Progression of the Dissertation 9 References 11 Abstract As a result of serious attempts by the Indian Government in the past15 years, the country has witnessed a steady rise in the inflow of foreign capital. According to reports by Ministry of Commerce and Industry, GoI, India has received a total Foreign Direct Investment to the tune of Rs. 3, 54,738 Crores from Mar 91 to July 2008. The objective of this dissertation is to analyze the impact of increased FDI on the Indian economy. The study will make use of Johansen co-integration test on the secondary data. The possible reasons for the results will then be explained by the qualitative inputs received from interviews, newspaper articles, Government Report, and previous research in the same area. The dissertation will start with a brief description of the underlying concepts of FDI, and theories used to analyze these instruments. This will be followed by a literature review that will delve into previous research in the same field. The next section, research methodology will cover the interviewing techniques, secondary data collection methods, and the mathematical models used to analyse the data. Lastly, the proposal will analyse and interpret the results obtained, followed by a possible explanation of the same. This will be followed by recommendations for the Government. Keywords: GDP growth, Foreign Direct Investment, Johansen co-integration Introduction FDI in simplest of terms can be defined as an investment by a foreign corporation to obtain means of production or alternatively, long term interests, in another organization outside its own economy. FDI apart from being a source of capital, also brings with it vital technology, and new management practices. It is argued that these factors can help India increase its growth rate. FDI also helps the country by increasing employment, improving infrastructure, and fastening the growth rate. However, increased FDI results in an increased portion of a country’s resources coming under foreign control. Also, at times of financial crisis such as the current one, companies can rapidly withdraw money from the country leading to a deep impact on the economy. Increased FDI may also result in the closure of local firms because of lack of technology, and economies of scale of a large MNC. Starting since early 1990s the liberalization reforms by Dr. Manmohan Singh played a huge role in attracting FDI in the country. Since then the country has experienced an increasing trend of FDI inflows in the country. At the same time, the country has also witnessed significant growth in the GDP, its sensex, and export. The current financial crisis amidst globalization makes it more important to understand the linkages between the FDI, and the economic growth. This would be done by applying Johansen co-integration test between FDI and growth rate in the past 15 years in India, and drawing out possible recommendations from the findings. Relation to previous Research Early Research There has been a wide range of research emphasizing role off foreign capital in the economic development of a country. The first amongst such researches was Abba Lerner’s attempt to understand the nuances of inflow of foreign capital (1944). Early researchers such as Mac Dougall (MacDougall, 1966), and Kemp Murray (Murray, 1960) proposed the theory of positive relation between FDI and growth rate. The first apprehensions regarding the positive relation between the two variables were raised by Trygve Haavelmo (Haavelmo, 1963). Since then, there has been a lot of research interest in the field of relation between FDI and economic growth. Positive Impacts of FDI on the Economy Early researchers (Rodan, 1961; Chenery & Strout, 1966) proposed a positive impact of FDI on the economic efficiency and growth of developing countries. The endogenous growth theory used variables like technology infusion, and human resource accumulation, and proposed a long term positive impact on the growth of the economy (Barro and Sala-i-Martin 1999; Helpman and Grossman 1991). FDI also initiate technology and productive spillovers to the smaller firms in the country, thereby leading to higher growth (Feenstra & Markusen, 1992). Blomstrom et al. (1994) in their study proposed the importance of FDI as a driver for technological changes, and growth of human capital. FDI in a country has a positive effect on the technological levels of a country, thereby impacting the long-term growth (Borensztein & Lee, 1995). Negative Impacts of the FDI on Economy At the same time, there have been many research papers emphasising on the negative affects of FDI on the economy of a country. McCombie & Thirlwall (1994) suggested that FDI may crowd out domestic savings, and give rise to enclave economies. Besides, studies also failed to establish positive technology spillovers from FDI (Aitken et. al. 1999; Konings, 2001). Moreover, ‘decapitalization’ effects of FDI leads to a reduction in growth rate over a long period of time (Bornschier, 1980). Research in context of India Research on impact of FDI on economic growth in the context of India has been very limited. Dua and Rashid (1998) used IIP as a proxy for GDP and rejected the unidirectional positive effect of FDI on the growth. In a comparative study of effect of FDI on growth in India and Bangladesh, Alam (2000) concluded that the impact is more in the case of India, but it is not adequate. Pailwar (2000) in his research proposed that foreign MNCs are more interested in large Indian market rather than the Global Market. All these studies raise an important issue for the India economy that needs to be addressed as early as possible. India has been intending to make its economy more open than ever. In this situation, it is necessary to understand and analyse the impact of FDI on the economy. Proposed Methodology The proposed study will be a combination of qualitative as well as quantitative analysis. Literature Review The first step in the research will be conducting a literature review of the studies in the same area. This will enable me to understand the probable reasons for the positive or negative impact of FDI on the economy. This review will also be helpful in terms of establishing appropriate variables, data collection methods, and analysis methods. This will be done by reading studies from online databases such as Emerald, or EBSCO. Quantitative Analysis The quantitative analysis will be based on the secondary data from various sources such as Ministry of Commerce, GoI, and internet databases such as Indiastat. These sources will be used to collect the figures for GDP growth rate, FDI, employment, and other aspects of FDI data. Stata 10.0 will be used to conduct the quantitative analysis. Regression analysis will be performed to determine the direction and extent of relation between FDI and GDP. This regression analysis will enable me to understand the coefficients and constants of the following equation: The next step will be testing the stationarity of the data by the Augmented Dickey-Fuller unit root test and the PP unit root test. This will be followed by performing the Johansen co-integration test with appropriate lag structure for each variable. Qualitative Analysis The qualitative aspect of the research shall focus more on discovering the underlying causes or reasons for the current outflow of funds invested by foreign nationals or corporations in the face of the current financial crisis on the global level. This objective will be achieved by conducting semi-structured interviews with managers in important positions in financial organizations. This will enable us to get a perspective of those people who handle these inflows. However, even within this niche group, an attempt shall be made to choose a sample which is as heterogeneous as possible, so as to obtain different points of view. Finally, the data analysis shall itself yield a basis for a qualitative hypothesis that shall explain the causes and inter-relations of national and international financial situations and the inflows and outflows of foreign investments that are available to a particular economy. The main reason for choosing a combination of qualitative and quantitative methods, rather than just choosing one method, is so that the subject can be best explained by facts and figures interpreted numerically, but the explanation would remain incomplete without an analysis of the causal factors. Such an analysis can best be provided by using qualitative methods. The analysis will be supported by graphical interpretations and interpretations of the findings. Reflections After opening up its market for foreign participation in 1991, India has gradually increased the level of liberalisation in its economy. With the world facing a financial crisis almost comparable to the Great Depression, India is tinkering with the idea of allowing more FDIs in certain sectors of its economy. This raises the all important question of the impact of FDI on GDP. This research attempts to answer the question. The research area has been deeply studied in the past, and the literature available forms the basis of further explanation and the analysis of the findings. Similar studies conducted in other countries will be studied to understand the nuances of the research at hand. Empirical Data Collection And Analysis FII and FDI related figures and data are easily and readily available for India from Government sources such as the Ministry of Commerce, SEBI, apart from other internet databases such as Indiastat. The collection of the data shall not be an issue that requires too much time or effort. However, the analysis of the same shall take up considerable time and effort. One important issue that arises with the research is the acquisition and proper understanding of the usage and functionalities of the statistical package Stata 10.0. Proper understanding of the working of the software will be necessary in order to perform the stationarity and JJ co-integration tests. One of the major issues that could arise would be the time line of the data gathered, from various economic institutions, may vary significantly and may be in different formats. This can be rectified by manually converting the data into a common format, which is a time consuming task and shall require a significant amount of effort. In order to minimize the time required for the research, a conscious effort shall be made to obtain data that is preformatted to suit the requirements of the research. This will most probably be the data after 1991 when India truly underwent liberalisation. Although effort shall be made to obtain recent figures for data analysis, if such an effort can not be completed due to any circumstances, then the timeline shall be shifted backwards appropriately and data available for previous years will be utilized instead. The quantitative analysis of the data will be done by performing the Johansen co-integration test. This test is used as it allows integration of long run and short run relationships between variables. Issues in Qualitative Analysis The qualitative analysis portion shall include semi-structured interviews that shall be held as convenient for the interviewee. This can be a cause of concern, as individuals to be interviewed may not be able to find time for such an activity due to their schedules changing. Scope of the Study The study proposed does not take into account the impact of GDP on FDI. The study also does not attempt to asses the impact of GDP on specific sectors such as services, manufacturing, infrastructure, telecommunications etc. Conclusion This proposal provided an overview of the dissertation that shall be commenced. As the aim of the dissertation is to understand the impact of foreign direct investments on India, it shall be necessary to understand the points of view of both the participants in FDI: the host country as well as the investor country. Thorough and in-depth literature will need to be carried out to understand the intricacies of the international financial markets and the role played therein by foreign investments. For this purpose, a variety of sources shall be referred to from time to time, including news, media and academic texts. In addition to various sources, a variety of research papers published on similar issues will also be considered, such as papers referenced from various online databases such as EBSCO. After commencing the literature review for the purpose of this dissertation, the first step shall be the collection of data from online data sources and also the identification of personnel dealing directly with foreign investments for the purpose of the interviews to be conducted during the research process. Although the interviews shall be kept as open ended as possible, a rough questionnaire shall have to be prepared in the early stages of the dissertation to give some structure to the interview and dialogue process. The findings of the dissertation will enable us to understand the clear picture of impact of FDI on the GDP. These findings can be used to determine if increasing the FDI limits will be beneficial or harmful for the Indian economy. With the progress of the study, and more analysis of past studies, I might make few necessary changes in the variable structure of the study. Changes in the model may also be made keeping in mind the findings of initial analysis. The research area is of great interest to me, and I hope to find some definitive evidence supporting or rejecting positive or negative impact of FDI on the growth. Timeline of Progression of the Dissertation The timeline for the complete process of preparing this dissertation has been shown below using a Gantt chart. Buffer Period of 14 days is kept to cover any kind of unforeseen circumstances.MS project will be used to keep track of the activities, their start time, and delay if any in the activities. References Alam M. S. (2000). ”FDI and Economic Growth of India and Bangladesh: A comparative study”. Indian Journal of Economics, vol. lxxx, part 1, no. 316, pp. 1–15. Aitken, Brian J., Harrison, Ann E.. 1999. Do Domestic Firms Benefit from Direct Foreign Investment? Evidence from Venezuela. American Economic Review, 89(3): 605-618. Barro, R. and Sala-i-Martin (1999). Economic Growth, MIT Press, Cambridge. Blomstrom, M., Lipsey, R. E. and Zejan, M. (1994). What explains growth in developing countries? NBER Discussion Paper,1924. Borensztein, E. J. Gregorio, D. and Lee, J. W. (1995). How does foreign direct investment affect economic growth? NBER Working Paper #3 5057 Bornschier, V. (1980).Multinational Corporations and Economic Growth: A Cross National test of the Decapitalisation Thesis. Journal of Development Economics, 7, pp. 115–135 Chenery, H. B. and A. M. Strout (1966). Foreign Assistance and Economic Development. American Economic Review, 56, pp. 679–733 Dua, P. and A. I. Rasid (1998). FDI and Economic activity in India. Indian Economic Review, 33, No. 2, pp. 153–168. Feenstra, R. C. and J. R. Markusen (1992). Accounting for Growth with New Inputs. NBER Working Paper, No. 4114. Haavelmo T (1963 ), “Comment on Wassily Leontiff: The Rate of Long Run Growth and Capital Transfers from Developed to Underdeveloped Areas”, The Econometric Approach to Development Planning, North Holland, Amsterdam. Helpman, E. and G. M. Grossman (1991). Innovation and Growth in the Global Economy, Cambridge: MA, MIT Press. Konings, Josef. 2001. The Effects of Foreign Direct Investment on Domestic Firms. Economics of Transition. 9(3): 619-633. Lerner Abba P (1944). The Economics of Control. New York: The Macmillan Company. MacDougall G D A (1966), “The Benefits and Costs of Private Investment from Abroad: A Theoretical Approach”, Economic Record, Vol. 36, No. 73. McCombie, J. and Thirwall, A. P. (1994) Economic Growth and the Balance of Payments Constraint. London: Macmillan. Ministry of Commerce, Government of India, 2008, [Online] Available at: < http://commerce.nic.in/index.asp> Last Accessed: 20th July, 2009 Murray Kemp (1960), “Foreign Investment and the National Advantage”, Economic Record, Vol. 38, No. 81, pp. 56-62. Pailwar, V. (2001). Foreign Direct Investment Flows to India & Export Competitiveness. Productivity, 42, No. 1, pp. 115–122. Rodan, R. P. N. (1961). International Aid for Underdeveloped Countries. 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