Trilateral Relationship between FDI, Stock Market Development and Economic Growth: Empirical Evidence from Pakistan

Abstract

The purpose of this research is to establish a trilateral relationship between foreign direct investment (FDI), stock market development and economic growth in Pakistan. The goal was realised by examining the possibility of a mediation effect of stock market capitalisation (MC) from FDI to economic growth (EG) following the Baron and Kenny’s model as well as the Preacher and Hayes’ bootstrapping method of mediation. The per capita gross domestic product (PCGDP) growth rate and consumer price index (CPI) were employed as proxies for economic growth (EG) and inflation (INF) respectively. Other explanatory variables included in the study were gross domestic savings (GDS) and PKR-USD exchange rate (ER). The results of the OLS estimation following Baron and Kenny’s model indicated that the independent role of FDI in economic growth of Pakistan was vague. However, FDI exhibited a significant and positive impact on MC, and MC showed a significant and positive impact on EG at 5% level of significance. FDI exhibited a significant but negative impact on EG with the mediation effect of MC, thus it was determined that a trilateral relationship between FDI, MC and EG is prevalent in the economy of Pakistan. This analysis was affirmed by utilizing the Preacher and Hayes module of bootstrapping in STATA.