Capital Flows and their Macroeconomic Impact in India: An VAR Analysis

Abstract

The East Asian crisis of 1997-98 and the Mexican crisis of 1994 generated much concern among policy analysts regarding the role of macroeconomic policies in the management of capital inflows. The present study attempts to examine the effects of private foreign capital inflows (FINV) on macroeconomic variables in India. The study also examines the trends and composition of capital inflows into India. Using the Vector Autoregression (VAR) method, this paper specifically examines effects of private foreign capital inflows (FINV) on macroeconomic variables in India. This study is based on the monthly data from 1995:04 to 2008:07 and incorporating the macroeconomic variables such as exchange rate (EXR), inflation, money supply (M3), export (EXPO), import (IMP), foreign exchange reserve (FOREX) and economic growth (IIP as proxy of GDP). The important observations emerge from the VAR analysis which shows there is dynamic short and long equilibrium relationship between few macroeconomic variables like exchange rate (EXR), foreign exchange reserve (FOREX), index of industrial production (IIP) and money supply (M3) with private foreign capital inflows (FINV) during the study period from 1995:04 to 2008:07.