External Sector and Its Impact on Economic Growth in Pakistan

Transcription

1 J. Appl. Environ. Biol. Sci., 6(5S)10-17, , TexRoad Publicaion ISSN: Journal of Applied Environmenal and Biological Sciences Exernal Secor and Is Impac on Economic Growh in Pakisan Mukamil Shah 1, Rizwan Fazal 2 1 Insiie of Managemen Sciences, Peshawar (Pakisan) 2 Insiie of Managemen Sciences, Peshawar (Pakisan) ABSTRACT Received: February 3, 2016 Acceped: April 12, 2016 This sudy invesigaes he behavior of exernal secor and is impac on economic growh of Pakisan. Quarerly daa has been used for empirical analysis covering he period from 1990:Q1 o 2010:Q4. Exernal secor indices have been developed conaining financial inegraion, ne foreign asses and rade inegraion for heoreical relaionships. The analysis is based on Vecor Auo Regression followed by Vecor Error Correcion Model. Augmened Ducky fuller es confirms ha all variables in he sudy are non-saionary a level, bu saionary a firs difference. The co-inegraion es suggess one co-inegraing vecor among he variables. The empirical findings of coinegraion analysis show ha financial inegraion has posiive while rade inegraion has negaive effec on economic growh of Pakisan in he long run. However, he shor run dynamics shows ha oupu lag accouns for error correcion confirming Granger represenaion heorem. The esimaed CUSUM and CUSUM-Square sabiliy es show ha he coefficiens of he model remains sable in he given sample period. KEYWORDS: Exernal Sceor; Coinegraion; Economic Growh 1. INTRODUCTION Exernal secor of he economy refers o inernaional ransacions. The inernaional ransacion may be in he form of expors, impors, capial accouns inflows, capial accouns ouflow ec. wih he res of he world and are recorded in he form of accouns which shows he conribuion of exernal secor. In open economy, macro-economic variables like financial inegraion, rade inegraion and ne foreign asses are relaed o exernal secor. Exernal secor of a counry depend on he policies behavior of he global economy. Macro-economic policies of one counry canno funcion independenly of he policies adoped by oher counries. Economic heories sugges ha a change in he policies adoped by he economy bring change in he inernaional ransacion which no only affec he oupu, bu also may affec he growh rae and economic sabiliy of a counry. The exernal secor affecs he economic growh of a counry because of changing policies from ime o ime. Afer independence Pakisan s economy was in iniial sage and could no perform beer. During 1970s, due o bad poliical siuaion (isolaion of Eas Pakisan) and uncerainy in he counry, Pakisan faced differen crises, domesic saving remained low due o fiscal defici, and was oally financed by borrowing from differen financial insiuions. Curren accoun was also in defici and was abou 5.3% of GDP. In 1990s increase in exchange rae occurred and curren accoun appreciaed by 5.9% of GDP as compared o 2.7% in 1980s. The policy of 1990s was coninued in he period 2000s wih he objecive o increase expor and o recover he economy. Liberalizaion of foreign exchange and privaizaion of differen insiuions ook place during 2000s. 2. LITERATURE REVIEW There is conroversy on he lieraure relaing o exernal secor such as financial liberalizaion and rade liberalizaion among he researchers. Quinn (1997) and Edward (1990) presened ha financial liberalizaion simulae economic growh while many oher economis like Donell (2001) and Chanda (2000) found ha financial liberalizaion does no enhance economic growh. Ghosal (2012) invesigaed he exernal secor of India s economy and economic growh wih he objecive o find he long run relaionship beween economic growh(gdp) and exernal secor of India s economy as well as inflaion by aking ime series daa and applied he co-inegraion i.e. Engle and Granger es. ECM was also applied o find he shor run dynamics. The major * Corresponding Auhor: Mukamil Shah, Insiie of Managemen Sciences, Peshawar (Pakisan) mukamil.shah@imsciences.edu.pk 10

2 Shah and Fazal, 2016 finding of he paper is ha exernal secor liberalizaion is negaively relaed o economic growh in he long run bu posiive relaed in he shor run. Muhammad e al. (2007) presened rade liberalizaion, financial liberalizaion and is effec on economic growh (GDP). Objecive of he sudy is o invesigae he effec of rade inegraion, financial inegraion on economic growh by applying bound esing approach for co-inegraion. The findings of he sudy confirm ha rade inegraion and financial inegraion are posiively relaed o economic growh(gdp) in he long run while rade inegraion respondes negaively in he shor run. Bushra e al (2006) presened rade inegraion and economic developmen wih he objecive o show he effec of rade liberalizaion on economic developmen. The mehodology used in he sudy was 2SLS echnique and i was found from he esimaed resuls ha rade inegraion does no have posiive effec on all variables bu also has negaive effec on some variables and ha is; rade inegraion affeced employmen posiively and GDP, income disribuion negaively. Faima (2010) presened he erms of rade and is effec on economic growh. The sudy confirms ha erms of rade is negaively relaed o economic growh (GDP). Musleh e al (2003) sudied openness in economic growh wih he objecive o invesigae he effec of openness on economic growh by using VAR mehodology. Major findings of he sudy confirm ha openness is posiively relaed o economic growh in long run. I is found from he resuls ha economic growh is only a long run process, no a shor run process. Felicias e al (2005) sudied policies for rade openness and growh. Objecive of he sudy was o invesigae rade liberalizaion effec on growh rae. Co-inegraion es was applied. Major finding was ha oupu increased wih increase in rade openness. Hali e al (2002) sudied he effec of financial inegraion on growh rae. The aims of he sudy show he effec of variables of inernaional financial inegraion and growh. The Mehodology used in his research were simple OLS, 2SLS and GMM. Major findings were ha IFI simulaes wih economic success while he daa suppor ha IFI associaed wih economic growh. Kim e al (2011) sudied FDI and economic growh for Kenya. The muliple regression model and secondary daa has been used in he sudy. The major findings of he sudy shows ha FDI enhances economic growh. The resul shows ha Kenya promoes is economic growh hrough invesmen plane. Herah (2010) presened he rade liberalizaion and is effec on economic growh for Srilanka. The objecive of he research was o find he causal relaionship beween rade openness and economic growh of Srilanka. Secondary daa has been used as well as descripive, simple and muliple regressions are applied o examine he relaionship beween variables. Major finding of he sudy is ha here are posiive relaionship among he rade liberalizaion and economic growh. Ray (2012) sudied he effec of FDI on economic growh in india. Objecive of he sudy was o invesigae he causal relaionship beween FDI and economic growh by appling OLS mehod. Major findings of he sudy sugges by OLS ha is posiive relaionship beween FDI and economic growh. Coinegraion es also showed ha FDI and economic growh here exis long run relaionship. Umme e al (2012) sudied rade openness and growh of Bangladesh. Objecive of he sudy is o invesigae he impac of rade inegraion on growh rae of Bangladesh economy. In he sudy simple Ordinary Leas Square mehod is applied for empirical resuls. The major findings of he sudy is ha economic growh enhances due o rade liberalizaion. Khan e al (2007) presened FDI and is effec on growh rae. The aim of research is o invesigae he impac of FDI on growh rae. For Empirical resuls he es used in he sudy is bound es approach. The major finding of he sudy shows ha FDI enhance growh boh in long and shor run. In much of lieraure, exernal secor are seen as causing growh. This implies ha exernal secor liberalizaion play a vial role in economic growh. The heoreicalargumens are ha exernal secor increases economic growh. McKinnon (1973) suggess ha financial inegraion in real cash balances enhanced economic growh and also plays an imporan role in capial formaion. Furher financial inegraion appreciaes saving and invesmen and posiively affec he oupu of a counry. Low ineres raes compress he essenial saving which decreases invesmen and he resul is negaive effec on growh rae of a counry. New growh heory argues ha rade inegraion expands he marke, increases research and developmen, reallocaes employmen o more innovaive aciviies ha require more human capial and enhances knowledge flows among economies. Trade inegraion brings benefis as well as coss. The problem relaed o rade inegraion is decrease in ariff revenue, so developing counries impose high ax on public o finance heir budge. This may also lead o an uneven disribuion of gains and pains, where he gains are disribued across he counry while he burdens of adjusmens are borne mainly by a paricular group as shown by HDR (2003). 3. Hypohesis The following hypohesis have been developed for his sudy 1. Financial inegraion has posiive impac on economic growh 11

3 J. Appl. Environ. Biol. Sci., 6(5S)10-17, Trade inegraion has posiive impac on economic growh 3. Ne foreign asses has posiive impac on economic growh 4. MATERIALS AND METHODS The empirical analysis is carried ou hrough Vecor Auoregressive model. VAR model is one of he bes models for he analysis of mulivariae ime series daa for more han wo variables. VAR model is used o sudy he dynamic behavior of economic heory. This model is also considered one of he bes models for policy analysis as well. Ghosal (2012) presened he exernal secor and economic growh in India by using VAR mehodology. Aslam e al (2007) sudied rade policy and economic growh in Bangladesh by applying VAR mehodology. VAR model developed in his sudy is presened below Le x be he vecor of variables FI (Financial inegraion), TI (Trade inegraion), NFA (Ne foreign asses) and GDP (Gross domesic produc) [ x = FI, TI, NFA, GDP And le x i be he vecor of lag variables in he sudy x = i ]... [ FI TI NFA GDP ]... (2) i i i i (1) i i i i = β1 β11ti β12nfa β13gdp + γ 11GDP i + γ 12TI i + γ 13FI i + γ 14NFA 0 i FI + u i i i i TI TI = β20 β21nfa β22gdp β23fi + γ 21GDP i + γ 22TI i + γ23 FI i + γ 24NFA i + u i i i i NFA NFA = β30 β31ti β32gdp β33fi + γ 31GDP i + γ 32TI i+ γ 33FI i + γ 34NFA i + u i i i i = β40 β41nfa β42ti β43fi + γ 41GDP i + γ 42TI i + γ 43FI i + γ 44NFA i GDP + u FI GDP (3) Where B = vecor of coefficien of variables, B 0 = vecor of inercep, γ = vecor of coefficien of lag dependen and independen variables, U i = vecor of error erm. 4.Uni Roo Tes The analysis sars from uni roo es. This es is carried ou o deermine he order of inegraion of he variables. The order of inegraion is imporan o selec he appropriae echnique for empirical resuls. Augmened Ducky Fuller es (ADF) is applied o check wheher he daa is saionary or non-saionary. By saionariy mean he series wih consan mean and consan variance. In his sudy we are using Augmened Ducky Fuller Tes (ADF) for checking uni roo problem. 5.Opimal Lag lengh Afer uni roo es, i is also imporan o selec an appropriae lag lengh. The sudy used he Akaike informaion crierion (AIC), Schwarz Bayesian Informaion Crierion (SBIC) o choose he appropriae lag lengh. The saisics used for hese wo crieria are given below: AIC = 2l/ + 2n/ T...(4) BIC = 2l/ T + nlogt/ T...(5) 6.Coninegraion Tes Co-inegraion shows he long run relaionship beween economic variables; if he wo variables are co-inegraed, i means here is long run relaionship beween hem: when he residual is non-saionary and variable is saionary, hey are co-inegraed and long run relaionship is here. If all variables are inegraed of I(0), hey will be saionariy a level and VAR model followed by impulse response funcion and variance decomposiion will be used for he analysis. If all he variables are inegraed of I(1) hen Johansen co inegraion analysis will be used for long run relaionships. However, if some variables are I(1) and same as I(0), hen ARDL will be used. The final sep of he analysis involved he esimaion of shor run relaionship among variables. Error Correcion Mechanism (ECM) inegraes he shor run dynamics wih long run equilibrium wihou losing long 12

4 Shah and Fazal, 2016 run informaion.ecm shows shor run dynamic relaionship beween variables, and help in correcing pas dis equilibrium. The srucural sabiliy es is conduced by employing he CUSUMand CUSUMSQ. Examining he predicion error of he model. The coinegraion and error correcion model is given in he following equaion. x =ΦD + ^` + αβ mlex 1 +Γ 1 x Γp 1 x p 1+ ε...(6) Where α reperesns he long run coefficiens while Γ represens he error correcion coefficiens The variables involved in his sudy are financial inegraion, rade inegraion, ne foreign asses and gross domesic produc. Financial inegraion, rade inegraion and ne foreign asses play a major par in he growh process as i relieves an economy from he balance of paymen, encourage saving, capial accumulaion and invesmen. The daa for variables such as financial inegraion, rade inegraion, ne foreign asses and GDP were obained from Inernaional Financial Saisics,Sae Bank of Pakisan. We use ime series quarerly daa from Emperical Resuls and Discussion. ADF es is applied for each variable like GDP, FI, TI, and NFA o es for he presence of uni roo. The esimaed resuls are shown in he following able 1 Table 1 Uni Too Tes Variables Probabiliy Trend Diagnosic ADF Values LogGDP YES I(1) (loggdp) *** NO I(0) LogFI YES I(1) (logfi) *** NO I(0) LogTDI YES I(1) (logtdi) *** NO I(0) LogNFA YES I(1) (lognfa) *** NO I(0) ***Implies ha he series is saionary a 1%. denoes firs difference. GDP, FI, TDI, and NFA denoe he logarihmic Economic growh, financial inegraion, Trade inegraion, and Ne foreign asses respecively. Table 1 shows he esimaed resuls of uni roo. The null hypohesis H for all variables like GDP, FI, TDI, and NFA is no rejeced in heir original series, so he series are non-saionary. However, by aking he firs difference of all variables, i is found ha H is rejeced indicaing ha all variables are inegraed of order one, I(1) i.e. X = ( FI, TDI, NFA, GDP ) I(1). Afer analyzing he resuls of uni roo es, he nex sep is o choose opimal lag lengh. We deermine he opimal lag lengh, because Johansen es of co-inegraion requires lag lengh. As we are using quarerly daa in our analysis, which resuls ino small sample size, hus preference will be given o Schwarz informaion crierion (SIC).The following able shows he seleced lag lengh of SIC. Table 2 Esimaed Saisics of Lag Order Selecion Crieria Lag LogL LR AIC SIC HQ NA * * * * *indicae lag lengh chosen by differen crierion 13

5 J. Appl. Environ. Biol. Sci., 6(5S)10-17, 2016 The aboveable 2 provides resuls of differen crierionfor lag order selecion. However, only SBC are chosen and opimal lag lengh is one, lag (1). Lower he SIC value beer will be he model. The lower value of SIC is * wih he opimal lag lengh suggesed is one as an opimal lag. Afer applying ADFsuggess ha all variables like GDP, FI, TDI and NFA are saionary a firs difference and deermining he lag lengh, he coming sep is o deermine he number of co-inegraing equaions in our VAR model. To invesigae he co-inegraion relaionship beween variables, we apply race es value and maximum Eigen values. The esimaed resuls of co-inegraion es are given in he following able 3 Table 3 Summary of Johansen Co-inegraion es Daa Trend None None Linear Linear Quadraic Tes Type No Inercep Inercep Inercep Inercep Inercep No Trend No Trend No Trend Trend Trend Trace Tes Max.Eigen The above able 3 provides esimaed resuls of co-inegraion es. Boh he race es saisics and maximum Eigen value are used o check co-inegraion relaionship beween GDP, FI, TDI and NFA. The upper panel of he able provides he race es saisics and max.eigen value are given in he lower panel of he able. Boh ess clearly indicae ha here is one co-inegraing vecor or co-inegraing equaion in model. Normalized Co-inegraion equaions The es of co-inegraion indicaes only one co-inegraing equaion in he analysis. To analyze he long run relaionship among GDP and exernal secor variables like financial inegraion, rade inegraion and ne foreign asses, we normalize he co-inegraing equaion on GDP. The normalized co-inegraing relaionship beween economic growh, financial inegraion, rade inegraion and ne foreign asses are given as under in Table 4 Table 4 Esimaed saisics of long run equaion Dependen variable (LGDP) Indp. Variable Coin-Eq Sandard Error -saisics Consan ** LGDP(-1) LFI(-1) * LTDI(-1) * LNFA(-1) The above long run relaionship can be shown by reduced form equaion. The reduce form equaion are given as below: Normalized co-inegraing equaion LGDP = LFI LTDI LNFA...(6) The co-inegraion es indicaes he long run relaionship beween economic growh, financial inegraion, rade inegraion and ne foreign asses. The esimaed resuls provides informaion which shows ha financial inegraion has posiive effec on economic growh in he long run in Pakisan, and have he firs mos subsanial effec on economic growh i.e This means ha 1 percen increase in financial inegraion may lead o increase economic growh by percen. The resuls also show ha here is a significan relaionship beween boh economic growh and financial inegraion. This resul is in line wih he Muhammad (2007) and Umme (2012) resul ha financial liberalizaion has posiive effec on economic growh. All he parameers esimae elasiciy s due o logarihmic ransformaion. Resuls repored in Table 4.4 indicae ha he rade inegraion has no posiive effec on economic growh which means ha rade inegraion has negaive long run relaionship wih economic growh. Tha is 1 percen increase in rade inegraion leads o reduce economic growh by 103 percen and here is significan relaionship beween hem. 8.Vecor Error Correcion Model (VECM): The resuls of exernal secor and economic growh can be improved by inroducing VECM in he long run relaionship. The long run relaionship among variables can be disurbed by exernal shocks. According o Granger represenaion heorem, he presence of co-inegraion here mus be error correcion. Error correcion mechanism gives informaion abou he speed of adjusmen ha is deviaed from he long run equilibrium. To find he shor run dynamics in he frame of vecor auoregressive wih error correcion mechanism equaion we 14

6 Shah and Fazal, 2016 have esimaed he Vecor Error Correcion Model (VECM). The esimaed saisics from VECM are given in able 4.5 as follow. Table 5 Esimaed saisics of shor run Error correcion LGDP T-saisics ECT(-1) * ** LGDP LFI LTDI LNFA The above able 5 indicaes he shor erm elasiciy s of lag values in he error correcion model. The sign of error correcion co-efficien should be negaive having saisically significan -value. Engle and Granger (1987) cerain percenage of dis-equilibrium by exernal shock can be correced in he coming period. The values of co-efficien in he error correcion model indicae he degree of elasiciies, represening he percenage change in economic growh due o percenage change in he lag value he of dependen variable GDP. The error correcion erm (ECT) shows 6.1 percen error correcion ake place in he GDP co-inegraing equaion. Overall 6.1 percen error correcion is aking place reflecing he Granger represenaion heorem. The co-efficien of he lag value of GDP shows he shor run elasiciy due o logarihmic ransformaion of daa. Moreover, he co-efficien of he lag value of GDP is less han one hence inelasic. Furher he co-efficien of error correcion erm (ECT) indicae he speed of adjusmen oward long run afer shor run exernal shock. The error correcion erm is found negaive and saisically high significan. To check he sabiliy of esimaed parameers in co-inegraion we have consruced he CUSUM square es of sabiliy. Figures 1 and 2 shows he CUSUM and CUSUM square respecively. Figure 1 Figure 2 15

7 J. Appl. Environ. Biol. Sci., 6(5S)10-17, 2016 The above figures 1 CUSUM and figure 2 CUSUM square provide informaion ha he co-efficien of he model are sable because boh CUSUM and CUSUM square value is good ha is inside he criical region. The resuls indicae ha here is posiive relaionship beween FI, NFA and GDP in he long run and are saisically significan which suppor he hypohesis given in lieraure while TDI has negaive effec on GDP in he long run which suppor he resul of Bushra (2006) found ha rade inegraion and PGDP have negaive relaionship. This is conroversy wih lieraure and economic heory. The negaive relaionship beween rade inegraion and GDP can be jusified on he ground ha he absence of appropriae rade policies have negaive impac on GDP. Pakisan adoped differen policies a differen imes o enhance expors; o achieve he objecives he counry had adoped differen exchange rae policies. In 1998, SBP adoped new exchange rae mechanism (NERM) wih he objecive o discourage non-essenial impors and enhance heir expor, bu NERM adversely affeced he economic growh of Pakisan (Janjua 2007). Secondly Pakisan faced naural disasers like flood which had negaive effec on economic growh of Pakisan because major expors like coon, rice, livesock ec were desroyed and he resul was increase in impors and decrease in expor, which affec he BOP. K Rober e al 2006 found ha naural disasers have always negaive effec on rade. Third reason is ha major expors of Pakisan is raw maerials hey are no furnished goods while impor high capial he resul is decrease in capial inflow and increase in capial ouflow. Behavior of boh expors and impors show negaive effec of TDI and GDP of Pakisan. 9.Conclusion and Recommendaion The resuls from he analysis sugges ha he governmen should move owards financial liberalizaion as i has posiive long run relaionship wih economic growh of Pakisan. I would also resul ino increase in capial inflow and decrease in capial ouflow in Pakisan s economy. The negaive relaionship beween rade liberalizaion and economic growh is because of difference beween expors and impors of Pakisan. Evidence shows ha he impors of Pakisan are higher han expors, so rade policy should be formulaed such ha expors of economy boos up and impors should be resriced opimally. Moreover, expors of Pakisan should conain manufacure goods raher han primary goods. For his purpose indusrializaion should be encouraged. Governmen should adop such a muli-dimensional policy ha comes over all such problems. REFERENCES Aslam M. A. (2007). Trade policy and economic growh in Bangladesh.Pakisan Economic and Social Review Vol.45, No.1. pp Africa, E. c. (2008).Assessing Regional Inegraion in Africa.Toward Moneary and Financial Inegraion in Africa, UN, ECA, Addis Ababa. Ahme U. (2008). Impor and Economic Growh in Turkey: Evidence From Mulivariae VAR Analysis. E-W Journal of Economic and Business, Vol. XI No.1 and 2. Ajayi, L. B. (2012). Effec of exernal deb on economic Growh and Developmen of Nigeria.Inernaional Journal of Business and Social Sciences, Vol.3 No.12. B.Donnell. (2001). Financial openness and economic performance (Dublin Triniy College) BushraYasmin, Z. J. (2006). Trade liberalizaion and economic developmen, Evidence from Pakisan.Lahor Journal of Economics, Chanda. (2000). The Influence of Capial Conrol on Long Run Growh: Where and How much? Norh Carolina Sae Universiy. D" Rodrik (1998). Who Need Capial Accoun Converibiliy?Journal of Harvard Universiy Denial M Amanja, O. M. (2005). Foreign Aid, Invesmen and Economic Growh in Keyn: A ime Series Approach. Cenre of Research in Economic Developmen and Inernaional Trade,pp 1-32 Edison H.J, L. R. (2002).Inernaional Financial Inegraion and Economic Growh.Naional Burau of Economic Research, Edward. (1990). Capial Mobiliy and Economic Performance: Are Emerging Economic Differen? Naional Bureau of Economic Research, Faima, N. (2010). Analyzing he Terms of Trade.Effec for Pakisan.Pakisan Economic and Social Review, pp 59 Felicias Nowak, L. (2005). Trade Policy and Is Impac on Economic Growh: Can Openness Speed up Oupu Growh?I-A Insiue for Economic Research, pp-1-34 Folorunso S. ayadi, F. O. (2008). The Impac of Exernal Deb on Economic Growh: A Compariaive Sudy of 16

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