Introduction
For state and economies, the true concern is economic progress, as economic turmoil and upheavals can disturb political-economic stability and thus put enormous pressure on the political system. Therefore, governments are extremely sensitive regarding economic growth and their performance is measured by their economic achievements. When we systematically study human history and different periods of human civilization, we learn that economy has always had great importance. However, during different periods, understanding of the economy and means/instruments to achieve particular economic goals were different. For instance, during the colonial times, economic progress was tied to capturing of more land/resources. However, during the post-industrial period, the emphasis started to change as states and economies identified various resources within the country, which must be exploited to accelerate economic progress. As the time passed, economic structure changed because of technology and such other relevant factors, which gave birth to new notions and precepts, pertaining to political-economy. This aided governments and states to develop political-economic systems, strategies, and instruments and it also facilitated in identifying ultimate political-economic goals, which are Gross Domestic Product Growth and Employment (Irons and Shapiro, 2011).
The bulk of the economic studies suggest that GDP growth and employment are intertwined. This means that GDP growth and employment are correlated; when GDP grows, employment increases, which keeps the political-economic system stable. In the contrasting situation, when GDP declines, unemployment increases, which puts enormous pressure on the political system and it pushes it to take measures such as change of strategy and use of fiscal/monetary instruments, to increase GDP growth. However, there are other strategies too, which are recent or contemporary, that are used to only intensify the economic activity, but also to improve quality of economy (Sawtelle, 2007).
Foreign Direct Investment is considered one of the instruments, which are used by governments/economies to meet their various kinds of economic goals or objectives. Foreign Direct Investment, which is an investment of capital in a foreign economy or investment in the form of controlling ownership of a business to a certain extent in a particular country, is given great importance, because of the benefits, which are associated with Foreign Direct Investment. Studies suggest that foreign direct investment inflows have a direct and positive impact on growth and employment; whereas, its indirect impact (vertical and horizontal) on industries is of similar relevance (Agrawal and Khan, 2011).
From the systematic studies, of economies, we learn that in the late 80s, most of the economies around the world changed their economic system to attract Foreign Direct Investment. It must be recognized that changes, amendments, or reforms were introduced to these systems to attract FDI inflows because of the alleged benefits of foreign direct investment. However, during that period, all these benefits were presumed benefits, which were not backed by strong evidence or study. Therefore, Foreign Direct Investment inflows remain one of the contentious subjects, as the bulk of the studies suggests that its role in the economy is ambiguous (Choe, 2003).
However, our study emphasizes on the United Kingdom, which is one the major economies of the world and which happens to be one of the major countries in the European Union. England, Scotland, Wales, and Northern Island constitute the United Kingdom. It is a developed economy, which primarily depends upon its service-sector to lead the growth. As per statistics, it is the fifth largest economy, in terms of Gross Domestic Product, of the world, which suggests that it an economic condition not only impacts the region, but also the global economy. However, regarding Purchasing Power Parity, commonly known as PPP, it is the ninth largest economy of the world and by the point of view of GDP per capita, it is the nineteenth (19th) largest economy of the world. From these economic statistics, it is quite apparent that the United Kingdom is a large economy, which has its relevance, in the global economy, because of its size (Financial Times, 2017).
When we study the United Kingdom, from the perspective of trade, and when we measure its size in terms of its exports and imports, we learn that it is 10th largest good exporter in the world and the 5th largest best imported in the world. These numbers are self-explanatory, which aids us in understanding the relevance of the United Kingdom’s economy. However, in this study, we intend to learn the influence of Foreign Direct Investment in United Kingdom’s economy. From the preliminary study, we learn that GDP, of United Kingdom, has fluctuated a lot, which suggests that it is highly impacted by regional and global economic factors, which include Global FDI inflows. The GDP of the United Kingdom has fluctuated over since 1961 (World Bank, 2017).
Our period of interest starts from 1985 and stretches to 2015. We will study and discuss how Foreign Direct Investment has impacted growth from 1985 onwards, for which we intend to use statistical test regression. To apply this test, we will use STATA, which is an econometric instrument, used by economists, around the world, to test secondary data.
It is imperative to understand the association between GDP and FDI at the macroeconomic level. This is because it aids the governments or policymakers in devising better strategies, which aim to produce desired results. If there exists a positive correlation between FDI and GDP, the government of the UK will devise strategies and policies to ensure that large size FDI lands in particular sectors of the economy. This will help in expanding GDP and ensuring that GDP growth will constant for a longer period of time. The possible measures, of government, could be increased in access to finance, simplifying the process of investing in the UK’s economy and directly impacting exports through these measures. In case the causality runs from FDI to growth, the United Kingdom must take various kinds of measure, which increases the FDI inflows. However, if the causality runs from GDP to FDI, United Kingdom should invest in financial and physical infrastructure to invest to attract FDI and benefit from the spillover effect.
Literature Review
The gross Domestic product can be defined as the measure of goods and services, in dollars, which are produced by an economy in a year. Gross Domestic Product or GDP has great economic relevance not only as a simple economic notion that aids in the understanding economics, but also as an instrument to measure economic growth. There are various instruments and tools, which are used to understand the health of the economy and its performance; however, the most commonly used economic notion and instrument is Gross Domestic Product (Barro, 1997).
It is also imperative to understand that there are two kinds or types of GDP, Nominal, and Real, which differ slightly from one another. When studying and measuring the economy, in terms of GDP, it is imperative to keep in account difference between Nominal and Real GDP, as the ignorance of the difference between nominal and real GDP could affect studies that aim to understand the increase in the size of the economy or its health (Santander, 2017).
Nominal GDP, which is also a measure of goods and services produced in year-in monetary terms, is also used in economic studies to understand the progress and health of the economy. The real difference between nominal and real GDPs is that nominal GDP does not consider inflation. Despite this fact, in many contemporary studies, GDP nominal is used to determine economic performance of a country or region; however, economists usually, abstain from Nominal GDP per capita in studies, as it can be very misguiding (wage/income = goods and services they can buy) in measuring cost or standard of living.
Gross Domestic Product is measured in three ways, which are
1) Production Approach,
2) Income Approach and
3) Expenditure Approach.
Economists prefer simple methods; therefore, usually, the production approach is used, which is less complex and cumbersome. However, the results, produced by different approaches are similar, if not identical. Therefore, any of the approaches used to measure economic growth (GDP) is relevant and can be sued. As Gross Domestic Product is a measurement of economic growth and health, it is also used a variable (dependent) to understand what factors or variables are directly or indirectly impacting economic growth. For instance, it is believed/presumed that economic stability facilitates economic growth; therefore, in studies, economists have tested presumed a relationship of political stability with economic growth. The majority of such studies endorse this presumption that political stability, adds to the economic growth and therefore; most of the countries ensure that they are politically stable so that investment, by local and international private-sector, may increase (Barro, 1997).
Another presumption is that sustainable GDP growth increases employment, which is one of the major concerns of an economy. Numerous studies have inferred that when an economy grows, constantly, it increases the employment level in an economy. This increase in employment increases consumption, which is considered essential for sustainable economic growth. Employment has a direct and positive correlation with the economy, as with the increase in production, manufacturing, or expansion of the service sector, employment also generates, which is considered one of the true achievements of an economy. Any state or economy is understood through the growth of GDP and increase in employment. Other factors, which are also relevant and important, come later. For instance, Purchasing Power Parity is essential; however, it is studied or focused on studying GDP and the rate of employment in an economy (Barro, 1997).
Therefore, it becomes important to identify those factors, which directly or indirectly impact GDP and its growth. There are numerous factors, which impact GDP growth; however, one of the most crucial and discussed factors is Foreign Direct Investment. This is because a lot of benefits are generally associated Foreign Direct Invest, for which reason economies altered their economic models and systems so that FDI can be facilitated. There are numerous examples; however, India and China are two prime examples (Encinas-Ferrer and Villegas-Zermeño, 2015).
Developed countries also amend their systems to attract and alter exploit FDI to meets its political-economic objectives; however, developed economies are already based on liberal economic models; therefore, they do not require massive changes in their economic system. In addition, the size and type of investment, foreign, for the developed countries, differ evidenced by the size and type of investment those lands in developing countries. In most of the developed countries, such as the United Kingdom or the United States, FDI lands, mostly in service sector economy or in Research and Development sector. Therefore, from this, we can deduce that impact of FDI, in terms of GDP and employment may differ from those developing economies, which are labor intensive.
Foreign Direct Investment can simply be defined as an investment of capital in a foreign economy. However, IMF defines Foreign Direct Investment as, “direct investment equity flows in the reporting economy. It is the sum of equity capital, reinvestment of earnings, and other capital.” From the study of statistics and graphs, pertaining to Foreign Direct Investment inflows (global), we learn that it was during the 1990s when FDI inflows started to increase, as well as world trade (Hofmann, 2013). After 1992, Foreign Direct Investment has increased gradually and in the year 2000, its size increased to 1.46 trillion. This swelling, of FDI inflows, was dramatic and it impacted the structure of economies. However, after that period, there has been a decline in Foreign Direct Investment, which is because of the recession in the global economy. The recession, in the world economy, kept the FDI inflows low for three years; however, after that, the size of FDI increased dramatically and in the year 2007, it reached the mark of 3 trillion. This increase in world FDI suggests that more companies started to invest in foreign economies for greater returns. The study of FDI also reveals that the nature of FDI and its destination also varied (World Bank, 2017).
The methodical study of literature also reveals that countries deliberately changed their economic systems or altered them with the objective to attract foreign direct investment. One major example is China, which reformed its economic system, under the leadership of Deng Xiaoping, so that it could attract foreign investment. However, it took enormous time for the Chinese economy to attract foreign investment and various factors contributed to the increase in foreign direct investment. Foreign direct investment relies on various factors, which include political-economic stability and projections regarding the economy. Some studies suggest that foreign direct investment prefers such economies, which are healthy and performing well (Iamsiraroj and Doucouliagos, 2015). In addition, the structure of the economy also attracts particular type Foreign Direct Investment. For instance, the labor-intensive economies, such as India and China, attract manufacturing investment; whereas, the developed economies, such as the United Kingdom, attract Research and Development investments.
Before we study the impact of Foreign Direct Investment inflows on the United Kingdom, it is imperative to study the size of foreign direct investment inflows, which landed in the United Kingdom. From the statistics, we learn that the United Kingdom was the 2nd largest recipient of Foreign Direct Investment in the world. However, the previous year, it was the 12th largest recipient of Foreign Direct Investment. This dramatic increase in the size of the investment, which has landed in different sectors of the United Kingdom’s economy, is because of various factors? Investors, around the world, are reluctant to invest in developing economies, after the 2009 economic recession, and they prefer developed economies, because of their political-economic stability. Another factor could be Britain’s delay of Brexit. It seems that Britain is taking time to take a decision regarding the exit from the European Union, which has created some uncertainty in Britain that is why; investors are investing now in other member states of the United Kingdom, such Ireland, and Wales. There are various reasons and factors, which are contributing towards the increased size of FDI in the United Kingdom. However, economists believe that major contribution is of $101 billion acquisition of British SABMiller PLC of Anheuser-Busch InBev (Belgium). Another factor is the sheer size of the economy, which is stabilizing, despite the Brexit; London continues to be the financial capital of Europe. Other factors, such as Ease of Doing Business are another factor. According to World Bank, United Kingdom ranks seventh in the list of 190 countries; this again contributes to growing foreign investment in the country (Simionescu, 2016).
The numbers tell that the majority of the FDI inflows landed in the financial services industry and the majority of the investors are from the European Union, which intend to benefit from the prevailing political-economic conditions yielded by Brexit. The statistical tests, which we are going to use will also aid us in understanding that how Foreign Direct Investment in financial service sector impacts the overall economy, which will be an interesting finding.
Methodology
Generally, statistical tools are used for the type of data, which we intend to retrieve from World Bank website. This type of data is identified as secondary data and it is longitudinal or time-series in nature. The statistical tests, which is intended to apply to this set of data is simple regression, which will aid us in understanding the nature and strength of the relationship. The dataset, which we are using, starts from the year 1985, which is its reference point. The tests are applied to endorse the prevailing presumption regarding the positive impact of FDI on the economy and its spill-over effect. We believe that the data is sufficient to run appropriate tests, as it has 31 observations. In addition, the results to be produced will be authentic.
Before running appropriate tests, we will generate scatter, the plot of two variables. After that, we will run a statistical test on both variables, for which parameters will be defined; such as setting of the critical value of 5%. We will also generate least-square regression line, which will estimate GDP before and after foreign investments. This will aid in understanding the correlation between the two selected variables. In addition, these box plots will also aid in understanding the distribution of the two variables; FDI and GDP.
Data
Data is essential for statistical analysis; however, it is also important that only relevant data must be retrieved. It has already been established, in this study, that size of global Foreign Direct Investment increased gradually after 2003. However, investors had started to invest more frequently in foreign economies long before that. To retrieve authentic and relevant data, we will visit the World Bank website, which will facilitate us in retrieving the data of our choice, which is pertinent to our study.
Types of Data
There are various types of data; 1) Longitudinal, 2) Cross-Sectional and 3) Panel Data. The type of data, which we are using for this study, is longitudinal data. This data is related only to one country and its starting point is the year 1985 and it stretches to the year 2015. This data is sizable, as it expands 20 years. The larger the size of data, more accurate the results are. Therefore, it has been decided to retrieve data for 20 years.
Results and Analysis
To run statistical tests, we have used STATA/Excel, which has allowed us to produce results so that we can understand the relationship, between the variables, in great detail. As we have notified earlier that we will retrieve data from the World Bank, in the form of an excel file. This excel file is then imported to STATA, where we tell the system or the software the nature of our data is Time-Series. Once it is acknowledged, we run the simple regression test. However, before running these tests, a scatter plot is generated (Figure 1). This scatters plot box has a GDP at Y-axis (dependent) and at X-axis; it has FDI (independent).
Figure 1
After that, we have used simple regression for the statistical analysis. The command, which we have used, in STATA, is regressing GDP FDI. Whenever we use the command for regression estimation, we first write GDP and then the independent variable. The results, generated by the systems are presented in form of Figure 2.
Figure-2
1st Results
The table is a result, which is produced by STATA when applied linear regression our time-series data. The number of observations is 31, from the year 1985 to 2015. From ANOVA table (Model-Residual) we learn that the Sum of Squares is 5.4, whereas the degree of freedom is 1and mean squares if 5.43 for the model. For the residual, Sum of Squares is 4.48, the degree of freedom is 29 and Mean Square is 1.54. Unfortunately, our model is not the best model, as the F-Probability is greater than 0.709, which is greater than the significant value of 0.005. We also learn that P-value is greater than 5% benchmark (0.07), which is why we discard the results. However, if we ignore the p-value, we learn that FDI inflows (% of GDP) have a positive relationship with FDI. The value of the coefficient is 5.05.
To appropriate the model we take the log of both variables, which will decrease any heteroscedasticity.
2nd Results
Figure-3
Even with the logged values, our model is appropriate and its results are ambiguous or apocryphal. Not only F-probability has increased to 0.83, but also the P-value has also increased to 0.83.
Statistical Tests-2
To develop a better model, we now slightly changed the nature of one of our variables. Our dependent variable is still GDP constant, which is inflation adjusted. However, our independent variable is FDI inflows (current BoP US$). Figure-4 is the scatter plot, which we have generated.
Figure-4
Results of Statistical Tests-2
Figure-5
This model also has 31 observations, which is mentioned at the top of the table. The F-probability is 0.0018, which is very smaller than the critical value of 0.05. The value of the R-square is 0.228, which is on the low side. This suggests that the model explains the relationship between the variables only 28%. The t-statistics, for this model, is 3.43 and the p-value is 0.002, which is very low for the selected value of 5%. The 95% confidence level interval is around 1.233; whereas the interval us 4.88. The interceptor the value of the coefficient is 3.060, which is high.
Figure-6
Analysis
The model, which we have devised later that has two variables (GDP constant US$ and FDI inflows BoP US$), is a good model; because of the value of F-probability is less than 0.5. In addition, the relationship between the two variables is significant, as p-value is 0.002. From the study of the results, we infer that there is a positive correlation between GDP (constant US$) and FDI inflows (BoP US$). With every one unit increase in FDI, GDP increases around 3 units, which is a huge increase, when considering the size of the United Kingdom’s economy. This positive and massive correlation between FDI and GDP support the assertions that Foreign Direct Investment inflows directly and positively impact an economy. However, different economies have a different structure and we have used a simple linear regression model to produce results to understand the nature of the relationship. A more comprehensive and large data may provide contrary results. Panel Data could produce results, which are apparently different, from these results.
Conclusion
In the case of Great Britain, we can conclude that relationship, between FDI and GDP, is significant and FDI positively impacts GDP. These findings are in accordance with the popular theory regarding FDI, according to which, GDP is positively impacted by Foreign Direct Investment. However, there are many studies, which have inferred that FDI has an ambiguous relation to GDP. These studies are more comprehensive and the data used in these studies are both cross-sectional and time-series. Therefore, these results should not be considered the final results or definitive results, but rather more studies are required to ascertain that the relationship between FDI and GDP is positive. However, this study has inferred that FDI positively impacts the United Kingdom’s economy or GDP. We have also learned that investment in the Financial Service sector also has a positive impact on the overall economy, which is an interesting finding.
Projection
Such results will encourage the United Kingdom and other such developed countries to devise such policies that attract Foreign Direct Investment. There is a possibility that the United Kingdom and other countries will devise strategies to land investment in particular sectors. In developing countries too, the focus or emphasize, on Foreign Direct Investment will increase; however, in these developing countries, such as China and India, the investment will be of particular size and type. Therefore, the impact, of FDI can also be slightly different from that of developing countries.
References
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