A Cointegration and VECM Approach in Explaining Relationship of FDI with Current and Capital Account of India

The Subprime crisis of 2007-08 led many countries of the world to fall into a recessionary period. This resulted in many countries facing different macroeconomic problems. In present scenario the Indian economy is also facing many macroeconomic problems one to the likes of current account deficit. The govt. in recent times is trying hard to boost FDI to finance the deficit. In this paper, we have tried to investigate the relationship between foreign direct investments (FDI) & the current account (CU) and foreign direct investments (FDI) and capital account (CA) in context of Indian economy. Using the Augmented Dickey Fuller Test, it was found that all the series is non stationary at level. The Johanson Cointegration test was used for finding relationships between variables for the period of 1991 Q1-2012 Q4. Our result indicates that FDI-CU and FDI-CA are cointegrated in the long run. Results suggested that the current account balance has a negative relationship to FDI but capital account made a positive impact on FDI after the liberalization of the economy