Savings-Investment Nexus: Experience of Major SAARC Economies based on the basic version of the Feldstein-Horioka Specification

Abstract

This research has been designed to figure out the significance of the long run relation between domestic savings and gross capital formation along with approximating the extent of impact of savings on investment for the five chief SAARC economies with a view to comment on the status of the savings-investment nexus, utilizing the basic version of F-H specification. It has covered thirty-eight annual observations (1976-2013) and deployed the sophisticated panel cointegration approach as well as several alternative panel long-run association estimation techniques.  It is believed that this study is the first one on that specific issue for these South Asian economies deploying such a protracted data set and incorporating alternative panel estimation methods. The results derived from the battery of sophisticated panel unit root tests have portrayed that for the pool of these developing economies, both the macro variables, savings and investment rates are non-stationary series. The residual-based panel cointegration tests have provided significant evidence suggesting that there is one cointegrating relationship between savings and investment rates. Finally, all the estimates of the savings-retention coefficient to quantify the contribution of domestic savings to gross capital accumulation deploying several alternatives of panel estimation techniques have detected moderate contributions ranging between 0.50-0.60. The magnitude of the estimated coefficients is less than those reported by numerous research works on the developed economies but completely synchronizes with those, represented by the plethora of studies on many developing economies. Cross-sectional dependence among these SAARC economies is also duly considered for the analyses. The derived moderate savings-retention ratio also signifies a reasonable extent of capital mobility within the region as well.

Keywords: Feldstein-Horioka Paradox, Panel Data, South Asia