Inter-Linkage between FDI, Imports and Exchange Rate: An Empirical Evidence from Pakistan

Abstract

Foreign Direct Investment (FDI) is a very important phenomenon of the millennium. It is considered a substitute and complementary for trade. Numerous researches regarding FDI and imports have been conducted, and contradictory results on complex relationship between FDI and Imports are found. The vector error correction model (VECM) and linear hypothesis testing have been applied by considering exchange rate as supplement for better and accurate modelling. The results of the study indicated short run as well as highly significant long run relationship among all variables under study. For imports causality runs from FDI to imports indicating FDI to be complementary variable for imports. Govt needs to implement policies which must boost up exports but curtail imports burden. In order to generate employment and reduce the balance of payments problems, it is therefore, suggested that government should opt and encourage FDI policies relevant to export oriented industries like manufacturing and production sectors along with the exploration of natural resources. Policies should aim to encourage FDI in industrial sector where the surge in import bill is compensated with export performance of the firms.

Keywords: Foreign Direct Investment, Imports, Exchange rate and VECM