Foreign Direct Investment, Trade Openness and Economic Growth: The Case of Bangladesh

Samiyah Haque and Sakib B. Amin

In a developing country like Bangladesh, FDI is considered to hold a significant value in the overall development process and industrial growth. Most firms which are financed through FDI export a significant proportion of their output, which leads to increase in net exports. Inflation affects the yield or return on capital on investment which, in turn, effects foreign investment. Hence macroeconomic stability in the form of inflation levels has direct effects on FDI and growth. However, the influence of trade and FDI on economic growth varies according to the state of development of countries. The question arises here is whether FDI and trade causes the changes in economic growth or vice-versa. This paper, therefore, analyzes the interrelationship and direction of causality between FDI, trade and growth of Bangladesh, taking macroeconomic stability into account. The study is conducted based on time series data from 1980 to 2015 for trade openness, FDI, inflation and GDP of Bangladesh, to carry out Augmented Dickey Fuller (ADF), Phillips-Perron (PP) and Granger Causality tests. Findings reveal that there is a unidirectional causality running from trade openness to GDP, trade openness to inflation and a bidirectional causal relationship between FDI and GDP in Bangladesh. However, no causal relationships between trade openness and FDI or inflation have been found. Since FDI and trade are two crucial factors that promote economic growth in Bangladesh based on the results of this study, policies that are favorable towards investment and trade sector are recommended.