Determinants of Capital Inflows: Evidence from Sri Lanka

Erandi Liyanage
2016 Staff Studies  
This paper investigates the causes of capital flows into Sri Lanka in the form of push and pull factors, using the Fully Modified Ordinary Least Square (FMOLS) approach and the Vector Error Correction Model (VECM) for the period from 2001Q1 to 2015Q2. The study consists of four specifications that employ total capital inflows as a dependent variable and disaggregate the total capital inflows to main three categories. Based on empirical estimates, this study observes that capital flows get
more » ... ted largely due to pull factors such as real GDP, interest rate and political stability. The study also establishes that the fundamental causes of capital flows in disaggregate levels differ. These results suggest that Sri Lanka needs to pay close attention to keep domestic macroeconomic variables in the right order in order to attract foreign capitals. Accordingly, the t-statistics confirm that LNRGDP, BB, CAB, IR and PSC are significant at a 5% level. As per the results, the expected signs of all variables hold true. The coefficient of Error Correction Term of D(LNCF) is -0.328. This indicates that 32.8 per cent of the deviation from the equilibrium is corrected within a quarter, taking around 3 quarters to reach long run equilibrium. Accordingly, the determinants of capital flows into Sri Lanka can be specified as follows: LNCF = -13.05 + 1.31 LNRGDP -0.005 BB + 0.004 CAB + 1.46 IR + 0.18 PSC + 0.004 INIPI -2.36 D1
doi:10.4038/ss.v44i1-2.4692 fatcat:6ca25kbl5fc7lew7bxayvtauoq