Effects of exchange rate on foreign direct investment in Ghana

Abstract

Foreign direct investment (FDI) is considered as an engine for economic growth and development in every economy especially developing economies, but there are different forms of barriers that hinder the inflow of such capital investments into every economy. I therefore came to a single conclusion to investigate on the impact, relationships and causal links between foreign direct investment and factors like exchange rate, inflation, gross domestic product, public debt and population. Based on the annual data collected on FDI, GDP, exchange rate, public debt, population and inflation on Ghana from 1975 to 2015, I developed a statistical model in this study to test the effect of changes in exchange rate on foreign direct investment in Ghana. According to results from the empirical test, it showed that exchange rate growth has a negative effect on foreign direct investment (FDI) growth. This implies that a rise in exchange rate leads to a decrease in FDI. The VECM explained that exchange rate growth and FDI growth has a negative long run relationship. Also, from the regression analysis, results explained that growth in GDP, Inflation and public debt had a negative effect on FDI, whereas population growth had a positive effect. This purports that a rise in GDP growth, Inflation and public debt leads to a decrease in FDI and an increase in population leads to an increase in FDI. Granger causality was also applied to test whether FDI growth granger causes exchange rate growth or FDI growth does not granger cause exchange rate growth. The results indicated that there is a bi-causal link between exchange rate growth and FDI growth. This implies that exchange rate growth granger causes FDI growth and FDI growth in turn granger causes exchange rate growth. Hence, the central bank must implement proper and sustainable macroeconomic policies to help adjust exchange rate towards making the economy attractive and suitable for foreign direct investment.