The Effect of Foreign Direct Investment on Economic Growth in South Asian Countries

TL;DR

This paper examines the influence of Foreign Direct Investment on economic growth in South Asian countries, finding FDI's impact is positive but statistically insignificant, while domestic investment and human capital are more influential.

Contribution

It provides an empirical analysis of FDI's role in South Asian economic growth, highlighting the limited immediate effect of FDI compared to domestic investment and human capital development.

Findings

FDI has a positive but statistically insignificant correlation with growth.

Domestic investment and human capital are significant growth drivers.

Control variables like government consumption and inflation are mostly insignificant.

Abstract

This study investigates the impact of Foreign Direct Investment (FDI) on economic growth in South Asian countries, utilizing annual panel data from five SAARC member states (Bangladesh, India, Nepal, Pakistan, and Sri Lanka) over the period 1980-2017. Data sourced from the World Development Indicators and Penn World Table were analyzed using static panel models, including Ordinary Least Squares, Fixed Effects, Random Effects, and Generalized Least Squares regressions. The empirical findings reveal that FDI exhibits a consistently positive but statistically insignificant correlation with economic growth across all model specifications. In contrast, domestic investment and human capital development emerge as significant and robust positive determinants of growth. Control variables such as government consumption and inflation show expected negative, though generally insignificant, associations with growth. The results imply that for the sampled South Asian economies, enhancing domestic investment and fostering human capital are more critical for driving economic expansion than relying on FDI inflows. Consequently, policymakers should prioritize strategies that strengthen local investment climates and improve educational and skill-building institutions to boost productivity. While FDI's role remains complementary, its insignificant immediate impact suggests the need for further research into the conditional factors such as institutional quality, financial market development, and trade policies that might mediate its effectiveness in fostering long-term growth within the region.