Testing Causality and Cointegration Between Saving and Investment in Bangladesh

Transcription

1 Economics 205; 4(6): 25-3 Published online December 8, 205 (hp:// doi: 0.648/j.eco ISSN: X (Prin); ISSN: (Online) Tesing Causaliy and Coinegraion Beween Saving and Invesmen in Bangladesh Zubaidur Rahman, Md. Elias Hossain 2 Deparmen of Economics, Bangabandhu Sheikh Mujibur Rahman Science and Technology Universiy, Gopalganj, Bangladesh 2 Deparmen of Economics, Universiy of Rajshahi, Rajshahi, Bangladesh address: zubaidur.eco@bsmrsu.edu.bd (Z. Rahman), eliaseco@ru.ac.bd (Md. E. Hossain) To cie his aricle: Zubaidur Rahman, Md. Elias Hossain. Tesing Causaliy and Coinegraion Beween Saving and Invesmen in Economics. Vol. 4, No. 6, 205, pp doi: 0.648/j.eco Absrac: Ineracion beween saving and invesmen has been a major concern o he economiss and here exiss subsanial debae over he naure of long run relaionship beween hem. Thus, he main objecive of his paper is o examine he dynamic linkages beween saving and invesmen in Bangladesh using annual ime series daa covering he period from 980 o 204. The saionariy of he daa is examined by using he Augmened Dickey-Fuller (ADF) and Phillips-Perron (PP) uni roo ess. This paper applied he Johansen-Juselius coinegraion es o examine he long run relaionship beween saving and invesmen. In order o show he direcion of causal relaionship beween saving and invesmen, he widely used Granger causaliy es has been used. The uni roo ess revealed ha boh saving and invesmen are non-saionary a level forms and hey become saionary afer aking heir firs difference. The Johansen-Juselius coinegraion analysis suggess ha, here exiss a long run relaionship beween saving and invesmen as i is confirmed by boh he Trace and Maximum Eigen-value es saisics. Resuls found from he Granger causaliy es suggess ha unidirecional causaliy running from saving o invesmen exised in Bangladesh over he sample period for a lag lengh of wo periods. Based on he resuls, pursuance of policy measures owards mobilizing domesic saving is recommended. Keywords: Saving, Invesmen, Coinegraion, Causaliy, Bangladesh. Inroducion Saving and invesmen are considered as imporan facors in achieving macroeconomic goals of an economy such as mainaining price sabiliy, promoing employmen opporuniies and hereby conribuing o economic growh. The relaionship beween saving and invesmen provides imporan insighs ino he process of economic developmen. The basic argumen behind his view is ha, economic growh criically depends on capial accumulaion and capial accumulaion sems from invesmen which depends on saving from domesic and foreign sources. Hence, an increase in saving leads o higher economic growh hrough capial formaion. According o he Solow model, if a naion devoes a large fracion of is income o saving and invesmen, i will have a high seady-sae capial sock and high level of income. The ineracion beween saving and invesmen has been a subjec of ineres among he economiss, and has been an issue of debae as o wheher saving causes invesmen or ges caused by invesmen. A sudy carried ou by Feldsein and Horioka (980) in he conex of he OECD counries for he period of 960 o 974 found high correlaion beween domesic saving and domesic invesmen. They concluded ha he degree of inernaional capial mobiliy among he OECD counries is low. Besides, in case of perfec inernaional capial mobiliy, hey found no relaionship beween saving and invesmen. In addiion, several empirical sudies have been conduced over he pas few decades ha can be divided ino wo caegories. The firs group of lieraure focused in favour of Feldsein and Horioka framework and explained inernaional capial mobiliy across differen exchange rae and capial conrol regimes. Feldsein (983) and Vos (988) found a close relaionship beween saving and invesmen which implies ha inernaional capial mobiliy is imperfec. Miller (988) conduced his sudy on he relaionship beween saving and invesmen in he Unied Saes applying he coinegraion echnique and found ha saving and invesmen are coinegraed under he fixed exchange rae

2 Economics 205; 4(6): regime while he same are no coinegraed under he flexible exchange rae regime. A sudy conduced by De Via and Abbo (2002) found ha saving and invesmen are coinegraed and hey indicaed ha capial mobiliy is lower during he fixed exchange rae regime bu i is higher during he floaing exchange rae regime. Second group of lieraure has challenged he Feldsein and Horioka framework by arguing ha he srong co-movemen beween saving and invesmen is explained by oher macroeconomic facors such as populaion growh, produciviy shocks, counry size and level of income (Tang and Lean, 2008). Apar from his view, here is anoher debae among he economiss on he direcion of influence on each oher and i revolves around wo issues. The firs group of sudies relaes o wheher domesic invesmen resuls in domesic saving, and he second relaes o how domesic invesmen affecs saving. To answer hese issues, a growing body of lieraure has emerged boh a he heoreical and empirical levels and mixed resuls are found by he researchers. Some researchers found invesmen o be caused by saving while ohers found opposie feedbacks (Esso and Keho, 200; Cooray and Sinha, 2005; Afzal, 2007). Moreover, some sudies also found ineracive relaionship beween saving and invesmen (Chakrabary, 2006). The vicious circle of povery given by Ragner Nurkse (960) posulaes ha, low invesmen is caused by low saving. The classical heory also argued ha, an increase in saving leads o a reducion in he ineres rae, which in urn leads o an increase in invesmen. Conrarily, Keynes argued ha an increase in invesmen leads o an increase in oupu and income which, in urn, increases saving (Ramakrishna and Rao, 202). Long run relaionship beween saving and invesmen has imporan policy implicaion for Research sudies examining such relaionship in case of Bangladesh using longer daa series are very few. This paper ries o fill his gap in he lieraure and aims o sudy he long run causal links beween saving and invesmen in Bangladesh using longer period daa series. The res of he paper is srucured as follows: afer inroducing he issues in he firs secion, heoreical analysis is presened in Secion 2. A brief review of lieraure is addressed in Secion 3. In Secion 4, he mehodology is presened. Relevan daa are presened in Secion 5. In Secion 6, evaluaion of he resuls is provided. Finally, Secion 7 noed some concluding remarks. 2. Theoreical Underpinning of Saving - Invesmen Relaionship Classical economiss were of he view ha saving and invesmen are always equal in a fully employed economy, and whenever inequaliy is arisen beween saving and invesmen, i is brough o equaliy hrough a flexible rae of ineres. However, according o Keynesian view, he equaliy beween saving and invesmen is brough abou no hrough he mechanism of rae of ineres bu hrough he changes in income. Conrary o he classical view ha saving and invesmen are equal under condiion of full employmen equilibrium, he Keynesians are of he view ha equaliy beween saving and invesmen can ake place below or above he level of full employmen. Keynes has pu forward wo views on saving-invesmen equaliy viz., accouning or definiional equaliy and funcional equaliy. Acual saving and acual invesmen are always and necessarily equal a any level of income for he communiy as a whole and in order o prove i, he defined saving in he curren period as he excess of income over expendiure. As regards invesmen, i is he value of curren oupu of capial goods ogeher wih he value of any addiion o work in progress or he sock of finished goods. Invesmen is equal o he oupu of he communiy minus consumpion. According o he second version of Keynes, saving is equal o invesmen a he equilibrium level of income. I is brough abou by he adjusing mechanism of income compared o he classical view of variaions in he rae of ineres. Keynes esablished equaliy beween saving and invesmen by defining income as equal o curren consumpion plus curren invesmen. The basic idea of explaining equaliy beween saving and invesmen is ha i is brough abou by changes in income and no hrough he mechanism of ineres rae. According o he funcional equaliy version, when people save more han wha he invesors hink i worhwhile o inves, he demand for consumer and producer goods falls down. When he goods produced are no profiably sold, he enrepreneurs curail producion of goods and naional income falls. If invesmen is more han saving, hen naional income rises. The process of changes in income, saving and invesmen coninues ill saving and invesmen are in equilibrium. 3. Lieraure Review Following he pioneering work of Feldsein and Horioka (980), he causal relaionship beween saving and invesmen has been widely researched which resuled in subsanial empirical debae. The empirical sudies have focused on invesigaing he exisence of saving-invesmen relaionship, used differen approaches of ime series economerics, and have come up wih differing resuls regarding he long run relaionship beween saving and invesmen. Moreover, he sudies were conduced boh in single counry conexs as well as in he conex of group of counries. There are several sudies which found posiive long run relaionship beween saving and invesmen in he conex of differen counries. Chakrabary (2006) sudied he long run relaionship beween saving and invesmen in he conex of boh he OECD and non-oecd counries. Using he mulivariae heerogeneous panel coinegraion analysis, he sudy found significan robus posiive relaionship beween raio of gross domesic invesmen o GDP and he raio of gross domesic saving o GDP in boh ype of counries.

3 27 Zubaidur Rahman and Md. Elias Hossain: Tesing Causaliy and Coinegraion Beween Saving and Invesmen in Bangladesh Nasiru and Usman (203) explored he relaionship beween saving and invesmen in Nigeria for he period using auoregressive disribued lag (ARDL) bounds esing approach wih error correcion model (ECM) and found long run relaionship beween saving and invesmen. Ang (200) examined he coinegraing relaionship beween domesic saving and invesmen in an ARDL framework using he Malaysian daa for he period 965 o 2003 and found a fairly robus long-run relaionship beween domesic saving and invesmen, afer conrolling he effecs of he Asian financial crisis on domesic invesmen rae. The research sudy conduced by Sanjib and Joice (202) invesigaed he relaionship beween saving and invesmen in hree diverse economies, namely, US, UK and China. They found a coinegraed relaionship beween saving and invesmen in hese counries. The findings of a robus long-run coinegraed relaionship beween domesic saving and invesmen in hese sudies sugges ha change in domesic saving is closely associaed wih change in invesmen in he long run. Some sudies sugges ha here is no such long run relaionship beween saving and invesmen. We and Eyden (2005) concluded ha rae of invesmen in he Sub-Saharan African counries is no deermined by domesic saving, raher i is deermined by foreign aid and FDI flows ino hese counries. Ramakrishna and Rao (202) conduced a research on he relaionship beween saving and invesmen in Ehiopia. They found ha here is no long-run relaion beween saving and invesmen in Ehiopia. Cooray and Sinha (2005) conduced a research on saving and invesmen in weny African counries and found ha long run relaionship does no exis in eigheen ou of hose weny counries. Sudies by Cyrille (200) on fifeen Sub Saharan African counries and Wahid e al., (2004) on he five Souh Asian counries observed ha here is low correlaion beween saving and invesmen in he sample counries. There are some sudies which observed mixed findings regarding he long run relaionship beween saving and invesmen. The sudy by Esso and Keho (200) conduced on he UEMOA member counries showed ha domesic saving plays an acive role in financing invesmen in only hree counries. For he oher four counries, he wo variables are no relaed. Onafowara e al. (20) sudied he relaionship beween saving and invesmen in eigh advanced economies of he European Union and found saisically significan evidence of coinegraion for six counries. Afzal (2007) sudied causaliy beween saving and invesmen in he case of developing counries using convenional and ime series economeric echniques. The sudy found no long-run relaionship beween saving and invesmen in seven counries of he sample while found bidirecional causaliy beween saving and invesmen in Souh Africa and unidirecional causaliy from saving o invesmen in Pakisan and Sri Lanka. There are subsanial differences among he previous lieraure in erms of using economeric ools. Some lieraure used coinegraion echnique and Granger causaliy es o jusify he relaionship beween saving and invesmen (Ramakrishna and Rao, 202; Narayan, 2006; Chakrabary, 2006; Afzal, 2007) while ohers (Esso e al., 200; Onafowara, 20; Ang, 200; Nasiru and Usman, 203) applied auoregressive disribued lag (ARDL) bounds esing approach and error correcion model (ECM) mehods o clarify he relaionship beween saving and invesmen. In erms of using daa, he previous lieraures are also differed from each oher. As for example, Wahid e al. (2004), Esso e al. (200), Onafowara (20), Cooray and Sinha (2005) used panel daa or cross counry daa o es he relaionship beween saving and invesmen, while Ramakrishna and Rao (202), Narayan (2006), Nasiru and Usman (203) used single counry ime series daa o concepualize he relaionship beween saving and invesmen. Sudies also differed in erms of he resuls obained. Some sudies found uni-direcional relaionship beween saving and invesmen (Narayan, 2006) while ohers found bi-direcional relaionship beween saving and invesmen (Afzal, 2007). Alernaively, some sudies found no causal relaionship beween saving and invesmen (Ramakrishna and Rao, 202) and ohers showed mixed resuls (Afzal, 2007). Majoriy of he previous sudies observed he relaionship beween saving and invesmen mosly in he conex of panel daa or cross counry daa. In hese sudies, long lengh of ime period was ignored which carry significan implicaion for policy purposes han simply using of cross counry or panel daa of shor lengh. In his conex, he presen sudy is an improvemen over he pas sudies. Moreover, his sudy has aken he case of Bangladesh in invesigaing he long run relaionship beween saving and invesmen, a developing economy which received less aenion by he researchers. 4. Empirical Mehodology The empirical mehodology of his paper is based on ime series economerics and is comprised of hree seps. In he firs sep, ime series properies of he daa series are invesigaed by employing he uni roo es. In he second sep, a es for coinegraion is performed o invesigae he long run relaionship beween saving and invesmen. A las, causaliy check is carried ou using he Granger causaliy es o observe he direcion of causaliy beween he variables (Granger, 988). 4.. Uni Roo Tes Empirical esimaion based on ime series daa assumes ha he underlying ime series are saionary. If he daa series are non-saionary, hen hey can porray spurious or nonsensical relaionship beween he variables (Gujarii, 2004). Therefore, ensuring ha he daa series are saionary is necessary before going for any economeric exercise wih he daa. In his paper, he saionariy of he daa series is invesigaed using he Augmened Dickey-Fuller (ADF) and Phillips-Perron (PP) uni roo ess for boh he saving and invesmen daa series. The Augmened Dickey-Fuller es can be done wih he help of following equaion wih a

4 Economics 205; 4(6): consan erm: (lny) = β + δ(lny m ) + αi lny i + Where, (lny) = lny lny and Y is he variable under consideraion, m is he number lags in he dependen variable chosen by he AI crierion, and u is he sochasic error erm. Under he ADF es, he null hypohesis of a uni roo indicaes ha he coefficien of he variable, lny, in he above equaion is zero. The general rule is ha, if he null hypohesis is rejeced, hen he series is saionary and no differencing is needed o bring on saionary in he series. The resuls of he ADF es has furher been verified by he use of he Phillips-Perron es, suggesed by Phillips (987) and exended by Perron (988), and Phillips and Perron (988). The Augmened Dicky-Fuller uni roo es akes care of possible serial correlaion in he error erms by adding he lagged difference erms of he regressand. Phillips-Perron uni roo es use nonparameric saisical mehods o ake care of he serial correlaion in he error erms wihou adding lagged difference erms. The es regression for he PP es is he AR() process, as follows: lny = α + βln + ε Y In he PP es, based on he esimaed β coefficien, he es saisic, τβis calculaed and he null hypohesis of conaining uni roo is rejeced if τ β is less han he asymoic criical value Coinegraion Coinegraion means ha despie being individually nonsaionary, a linear combinaion beween wo or more ime series can be saionary. Coinegraion echniques are used o find he long-run relaionship beween variables if hey are inegraed of same order. Coinegraion of wo (or more) ime series suggess ha here is a long run or equilibrium relaionship beween hem. There are several economeric echniques o invesigae he long run relaionship among he ime series macroeconomic variables. The coinegraion echnique comprises of univariae coinegraion (Engle- Granger, 987) and Fully Modified Ordinary Leas Squares (Philips and Hansen, 990) and mulivariae coinegraion echniques (Johansen, 988; Johansen and Juselius, 990, and Johansen, 995). The esing hypoheses are he null of non-coinegraion agains he alernaive ha is he exisence of coinegraion by using he maximum likelihood procedure (Johansen and Juselius, 990). The Johansen approach o coinegraion es is based on wo es saisics, viz., he Trace es saisic, and he Maximum Eigen value es saisic. The Trace es saisic can be specified as: u τ race = T k r+ log( λ ) where, λi is he i h larges eigen value of marix τ and T is he number of observaions. In he Trace es, he null hypohesis assumes ha he number of disinc coinegraing vecors is less han or equal o he number of coinegraing relaions (r). The Maximum Eigen value es examines he null hypohesis of exacly r coinegraing relaions agains he alernaive of r +coinegraing relaions wih he es saisic: τ T log( λ ) max = r+ h where, λ r+ is he ( r + ) larges squared eigen value. I is well known ha Johansen s coinegraion es is very sensiive o he choice of lag lengh. Akaike Informaion crierion (AIC) and he Likelihood Raio (LR) es are used o selec he number of lags required in he coinegraion es Granger Causaliy Tes If he wo variables are coinegraed hen i indicaes ha here exiss a long-run relaionship beween hese variables. This long run relaionship is furher examined by Granger causaliy es wihin he bivariae vecor auoregressive framework (Granger, 986). Granger causaliy es faciliaes o idenify he direcion of causaliy beween he variables if long run relaionship exiss. The Granger causaliy es involves he following equaions for lns and lni wih he righ hand side always consising of lagged values of he dependen variables: m m S = γ i lni i + ψ j lns j u j= ln + m m I = λi lni i + δ j lns j u2 j= ln + Here focus is given on he erms wih γ and δ in he above equaions. If he γ i coefficiens as a se are saisically differen from zero, ha is, γ i 0, hen i may be concluded ha saving depends on pas values of invesmen, and hence changes in saving are caused by changes in invesmen. The same is applicable o invesmen causing saving when δ 0. j 5. Source of Daa This sudy is based on secondary daa on saving and invesmen of Bangladesh for he ime period The annual ime series daa are colleced from he World developmen indicaors, 204 published by he World Bank, Inernaional Moneary Fund (IMF) CD-Rom, and from i

5 29 Zubaidur Rahman and Md. Elias Hossain: Tesing Causaliy and Coinegraion Beween Saving and Invesmen in Bangladesh various issues published by Bangladesh Bureau of Saisics (BBS). For empirical esing he daa were convered ino heir naural logarihms. Table shows he descripive saisics of he daa. Table. Descripive Saisics of he Daa (% of GDP). Sandard Variables Mean Maximum Minimum Variance Deviaion Saving Invesmen Source: Auhor s own calculaion. I is found from Table ha mean value of saving as a percenage of GDP is 9.06 wih maximum value of and minimum The sandard deviaion and variance of saving are 8.72 and 76.03, respecively. On he oher hand, he mean value of invesmen expressed as a percenage of GDP is 2.5 wih a sandard deviaion of 4.30 and variance of I indicaes ha variaion in he disribuion of saving is more han ha of invesmen. Figure presens he ime series plos of saving and invesmen as a percenage of GDP in Bangladesh from 980 o 204. As shown in Figure, i is eviden ha, he share of saving as a percenage of GDP rose from a low of 5.56% in 980 o a high of 29.0% in 204. Gross domesic invesmen is primarily funded by domesic saving which includes household saving, corporae saving and governmen saving. I increased from 4.69% of GDP o 28.97% of GDP during he same period. Figure also shows ha saving and invesmen exhibi an upward rend and having a endency o walk ogeher, implying ha hey are likely o be causally linked o each oher. 6. Empirical Resuls 6.. Augmened Dickey-Fuller Tes Resuls of he Agmened Dickey Fuller es are presened in Table 2. I is seen from he able ha boh lni and lns series are nonsaionary a heir level form as confirmed by he absolue calculaed values of ADF es which are smaller han he MacKinnon asympoic criical values. However, boh lni and lns become saionary afer aking heir firs Figure. Saving and Invesmen in Bangladesh ( ). difference Phillips-Perron Tes Table 2. Resuls of ADF Uni roo Tes. Similarly, resuls of he Pillips-Perron (PP) uni roo es are shown in Table 3. I indicaes ha boh he daa series- lni and lns are non-saionary a heir level forms. However, boh series become saionary a % level of significance. afer aking heir firs difference. ADF (wihou inercep) ADF (wih inercep) Variable Level Firs Difference Criical Values Level Firs Difference Criical Values lni *** -3.64(%) *** (%) lns *** (5%) (5%) *** -2.6 (0%) -3.2 (0%) Noe: ***, ** and *denoe he rejecion of null hypohesis of uni roo a %, 5% and 0% level of significance. Table 3. Resuls of Pillips-Perron Tes. PP(wihou inercep) PP (wih inercep) Variable Level Firs Difference Criical Values Level Firs Difference Criical Values lns *** (%) *** (%) lni *** (5%) (5%) ** -2.6 (0%) -3.2 (0%) Noe: ***, ** and *denoe he rejecion of null hypohesis of uni roo a %, 5% and 0% level of significance.

6 Economics 205; 4(6): Table 4. Resuls of Johnsonsen Coinegraing Tes. No. of coninegraing Trace Tes Maximum Eigen value es equaions (r) Tes saisic % criical value 5% criical value Tes saisic % criical value 5% criical value None* A mos one *(**) denoes rejecion of he hypohesis a he 5% (%) level Trace es and Maximum Eigen value es indicaes coinegraing equaion(s) a he 5% level. Table 5. Resuls of Granger Causaliy Tes. Null hypohesis Lags Observaion F-saisics Probabiliy Resul lns does no Granger cause lni lni does no Granger cause lns S I 6.3. Resuls of Coinegraion Tes Resuls of Johnsen s Trace es and Maximum Eigen value es assuming quadraic deerminisic rends in daa wih inercep are provided in he Table 4. The opimum lag lengh is deermined by using he Akaike informaion crierion. I is found from Table 4 ha boh he maximum eigen value and race saisics rejec he null hypoheses, r = 0 a 5% significance level as he es saisics exceeded criical values in boh cases. Therefore, i can be concluded ha, here is a long run relaionship beween saving and invesmen in Bangladesh as i is confirmed by boh he Trace and Maximum Eigen value es saisics Granger Causaliy Tes Granger proposed ha wo variables can be used o predic each oher if hey have causal link. Since he order of inegraion of saving and invesmen is one, Granger Causaliy es is conduced on he firs differenced values of saving and invesmen. Resul of he Granger causaliy es is shown in Table 5 and i is shown ha he hypohesis lns does no Granger cause lni is rejeced as he esimaed F-value is saisically significan. On he oher hand, he hypohesis lni does no Granger cause lns is no rejeced because he esimaed F-value is saisically insignifican. The implicaion of Granger causaliy es infers ha unidirecional causaliy running from saving o invesmen exised in Bangladesh during he sample period. 7. Conclusion and Policy Suggesions This sudy applies annual ime series daa o idenify he causal relaionship beween saving and invesmen in Bangladesh covering he period from 980 o 204. The Augmened Dickey-Fuller and Phillips-Perron ess were used o check he saionariy of saving and invesmen daa series. Resuls obained from boh he ess indicae ha saving and invesmen are nonsaionary bu boh become saionary afer aking heir firs difference. Coinegraion analysis performed by Trace es and Maximum Eigen value es suggess ha here is a long run relaionship beween saving and invesmen in Again, he Granger causaliy es indicaes a unidirecional relaionship beween saving and invesmen running from saving o invesmen in Based on he findings, he following policy recommendaions can be suggesed: i). Governmen should given prioriy o increase saving from boh domesic and exernal sources. ii). Governmen should increase invesmen in producive secors hrough capial accumulaion and reduce is unnecessary expendiures so ha saving can be furher increased. iii). A significan proporion of domesic saving in Bangladesh is made by households. Bu he proporion as a percenage of domesic savings is very low. Having relied on foreign saving i is no possible o ensure susainable economic growh for a counry like In he long-run, Bangladesh has o depend on domesic saving. Therefore, governmen should ake appropriae policies o increase household savings hrough various incenives. References [] Afzal, M., (2007). Savings and Invesmen in Developing Counries: Granger Causaliy es. Philippine Review of Economics, 44, No.2. [2] Ang, J. B., (2007). Are saving and invesmen coinegraed? The Case of Malaysia ( ). Applied Economics, 39, [3] Bangladesh Bureau of Saisics (BBS), 998. Saisical Yearbook of Bangladesh Dhaka: Saisics Division, Minisry of Planning. Governmen of he Peoples Republic of [4] Bangladesh Bureau of Saisics (BBS), 200. Saisical Yearbook of Bangladesh 200. Dhaka: Saisics Division, [5] Bangladesh Bureau of Saisics (BBS), Saisical Yearbook of Bangladesh Dhaka: Saisics Division, [6] Bangladesh Bureau of Saisics (BBS), Saisical Yearbook of Bangladesh Dhaka: Saisics Division,

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