Causal relationship among savings, investment and economic growth in Ethiopia

Abstract

The causal relationship among savings, investment and growth is mixed and controversial both theoretically and empirically. There is large empirical literature which examines the savings-growth nexus within a bivariate framework. There is also a considerable literature which looks at the relationship between economic growth and investment. However, little attention has been given to examining the causal relationship between economic growth, savings and investment within a multivariate framework. This paper examines the causal relationship among savings, investment and economic growth in Ethiopia using annual time series data from 1969/70-2010/11 in a multivariate framework. Results for ADF and PP unit root tests show that all variables under consideration are I(1). Result from the ARDL Bounds Testing indicates that there exists cointegration among gross domestic savings, gross domestic investment, gross domestic product, labor force and human capital when GDP is taken as dependent variable. Labor and investment have significant positive effect on economic growth of Ethiopia both in the short-run and in the long-run while GDS and human capital are statistically insignificant. Moreover, Toda-Yamamoto and DoladoLutkepohl as well as Innovative Accounting Techniques (i.e., IRFs and FEVD) approach to Granger causality analysis shows that there exists bidirectional causality between gross domestic investment and economic growth as well as between gross domestic savings and gross domestic investment. Granger causality running from investment to savings and from investment to growth is stronger as witnessed from impulse responses and variance decompositions. However, there is unidirectional Granger causality running from economic growth to gross domestic savings though it is weak. Therefore, the country is required to increase savings and investment, with due emphasis given to investment due to its dual effect, to attain high and sustained economic growth.