THE IMPACT OF FOREIGN CAPITAL ON MACROECONOMIC PERFORMANCE IN CENTRAL ASIA

This paper investigates the short‐run impact of shocks in international capital flows channeled through foreign direct investment (FDI) and foreign aid on national output and export performance in five Central Asian economies under a dynamic multivariate structural vector autoregressive (SVAR) framework. The identification of structural shocks is implemented by AB model based on IS‐LM‐BP postulates. The main message is that external capital shocks are persistent and small open economies are weak to absorb them. Overall, the aid shocks reduce national outputs, while FDI increase it, on average. The expansion of global demand (G20) leads to an increase in domestic GDPs, notably in Kazakhstan, Kyrgyzstan and Uzbekistan. The impact is augmented by a positive effect of FDI on export channel (and net exports) that shift the IS curve upwards. We cannot find any significant aid‐FDI nexus in the region, except in Kazakhstan. The structural variance decomposition (SFEVD) results suggest that external flows and foreign demand together explain the bigger part of variability in domestic GDP and exports. Finally, variations in foreign capital, aid and FDI, are mainly explained by series themselves. The role of domestic activities is found to be weaker for aid and greater for FDI. The results could be attributed to rigid exchange rates, high trade dependence, and necessity for foreign capital to explore natural resources in Central Asian region. Our results provide some valuable suggestions to improve an investment climate for boosting economic growth.     

Can Development Aid Help Promote Foreign Direct Investment? Evidence from Central Asia

There is a continuing debate on the effectiveness of development aid. One less obvious angle on this issue is the question of the likely impact of aid on foreign direct investment (FDI). This paper tests whether aid had any impact on incoming FDI in Central Asian economies during the period 1993–2008. A simple panel model suggests that (a) aid had a moderate complementary effect on inward FDI, (b) there was a crowding‐out effect such that domestic investment reduced FDI stocks, (c) natural resources were a key attraction for private capital, and (d) increases in development aid offset the crowding‐out effect of domestic capital on FDI. It is argued that donors should target aid to enhance the climate for inward investment.