Nexus between Economic Volatility, Trade Openness and FDI: An Application of ARDL, NARDL and Asymmetric Causality

Abstract

The motivation behind this study is to examine whether regional economic volatility and trade openness has influenced the pattern of foreign direct investment (FDI) inflows in select South Asian countries during the period 1975–2019. In order to do so, we applied several nonlinear tests, including the unit root test, ordinary least squares (OLS) test, autoregressive distributed lag (NARDL) test, and causality test. The findings of the nonlinear unit root test suggested that the variables are stationary at the first deviation, following nonlinear systems. Furthermore, the presence of nonlinearity in empirical estimations has been proven through nonlinear OLS and Brock Dechert Scheinkman (BDS) tests. Referring to the results of the Wald test with NARDL, a long-term asymmetrical relationship between the research variables has been confirmed, and long-term and short-term asymmetry was also observed in all tested empirical models. Furthermore, the results of the study on directional causality and asymmetric assumption support the feedback hypothesis in explaining the directional causality between regional economic volatility, trade openness, and inflows of FDI.