The Saving-investment Relationship Revisited: New Evidence from Regime-switching Cointegration Approach

Abstract

This paper exploits the regime-switching threshold cointegration approach to elicit the dynamics in the saving-investment relationship and capital mobility in India. Empirical results offer key insights into the threshold cointegration between the saving and investment rates. We find that the adjustment in investment rate in the upper regime is faster than in the lower regime, indicating the higher mobility of capital in the upper regime. Further, results reveal the absence of firm evidence of long-run vs. short-run asymmetries between saving and investment rates. However, results suggest that cumulative positive and negative sums of saving rates affect investment rates. We have made adjustments to cyclical and trend patterns in our data using Hamilton's (2018) filter and have produced robust results with regard to asymmetric cointegration. The posterior estimation results suggest that a downward trend in the saving rates substantially impacts the investment rates, and widening the gap between saving and investment rates facilitates huge mobility of international capital in the long run.

KEYWORDS:

• Capital mobility
• threshold cointegration
• asymmetric adjustment
• savings
• investments

Acknowledgement

We sincerely thank the journal's anonymous reviewers for their insightful comments and suggestions. After incorporating the reviewers ‘ comments and suggestions, the paper has gone to a different level. We also thank Sunghyun Henry Kim, Editor of the journal, for giving us a chance to revise this paper.

Disclosure statement

No potential conflict of interest was reported by the author(s).

Notes

1 See, Obstfeld (1995) for more detailed discussion of different approach of international mobility of capital.

2 Note that the saving and investment rates in this study are defined as saving and investment as percentages of GDP. For detailed discussion, see Behera (2015, 2016, 2017).

3 See Coakley et al. (1998) for a review of empirical studies. Bai and Zhang (2010) find that the FH saving-investment correlation is higher in advanced countries. 

4 The strong saving-investment relationship has been explained differently by different researchers by taking other macroeconomic factors. For instance, Ho (2002) has attributed the saving-investment relationship to the country size. Similarly, other researchers attributed information constraints, government policies of solvency constraint to the domestic saving-investment relationship (Obstfeld, 1986; Coakley et al., 1996; Rocha, 2009).

5 For detailed discussion, see Perron (1990) and Perron and Vogelsang (1992). Perron (1990) and Perron and Vogelsang (1992) suggest that the additive outlier (AO) model is more applicable in practice than the innovational outlier model.

6 For detailed discussion, see Perron (1990) and Perron and Vogelsang (1992).

7 To conserve space, we have not discussed the detailed of Clemente et al. (1998) unit root test. For detailed discussion, see Clemente et al. (1998), and recent papers, Mallick et al. (2021) and Mallick and Behera (2020).

8 The critical values of t-test (while, ${\omega }_1=0$) is reported in Pesaran et al. (2001).

9 See Appendix for detailed discussion. Figs. A1 and A2 and Tables A1 and A2 portray structural breaks in savings and investment rates from 1960 to 2018.

10 Note that we have computed the p-value by running 5000 bootstraps.

11 Note that Fig. 13 also indicates that the cumulative impact of saving on investment rates was disruptive from 1960 to 1980 because of current account unsustainability at the onset of trade and capital account liberalization in 1990. It seems that at the beginning of India's financial sector reforms, empirical evidence depicted in figures from 11 to 13 indicates the huge cross-border outward mobility of international capital, suggesting the divergence in the saving-investment series. This further shows that the dynamic asymmetrical relationship between saving and investment rates before financial sector reforms was quite divergent and not within specific systematic bandwidth of positive and negative asymmetry changes.

Additional information

Notes on contributors

Smruti Ranjan Behera

Smruti Ranjan Behera has a Ph.D. from the Delhi School of Economics, University of Delhi, India. After his PhD, he joined the Department of Humanities and Social Sciences, Indian Institute of Technology Ropar, India, in March 2013. Since December 2019, he has worked as an Associate Professor (Economics) at the Indian Institute of Technology Ropar, India. His research interests include agglomeration and urban economics, FDI and technology spillover, regional spillover, economics of innovation, open economy macroeconomics, time series and micro-econometrics, spatial econometrics, and panel data econometrics. He has published scholarly articles in many peer-reviewed journals like Environment and Planning B: Urban Analytics and City Science, Economics of Innovation and New Technology, International Review of Applied Economics, Singapore Economic Review, Applied Economics Letters, Theoretical Economics Letters, Journal of Developing Areas, Journal of Economic Asymmetries, Indian Growth, and Development Review, Cogent Economics and Finance, etc. Smruti Ranjan Behera can be contacted at [email protected]; [email protected].

Lingaraj Mallick

Lingaraj Mallick is working as an Assistant Professor of Economics at the School of Social Sciences, Maulana Azad National Urdu University, Hyderabad, India. He is doing research in the domain of exchange rate and trade balance in emerging countries, open economy and macroeconomics, and time series econometrics. He teaches macroeconomics, mathematical economics, and econometrics. He has published scholarly articles in many peer-reviewed journals like Applied Economics Letters, Singapore Economic Review, Foreign Trade Review, Journal of Developing Areas, Journal of Economic Asymmetries, Cogent Economics and Finance, etc. Lingaraj Mallick can be contacted at [email protected]

Tapas Mishra

Tapas Mishra is a Professor of Financial Economics and Head of Banking and Finance at the Southampton Business School. He is also the founding director of the Centre for Empirical Research in Finance and Banking, which has a wide network of leading practitioners and financial sector experts from the IMF, the World Bank, the HSBC Bank, and the Nationwide Bank, among others. He is a leading expert in financial economics and advanced econometric modelling, focusing in particular on big data and high-dimensional econometrics, macroprudential policy and stress testing of banks, sustainable finance, corporate finance, and real estate economics. He develops theoretical architecture around these and peripheral themes, enabling large-scale empirical testing. He has published scholarly articles in many peer-reviewed journals like the Journal of Corporate Finance, Social Science & Medicine, Journal of Financial Stability, Small Business Economics, International Journal of Finance & Economics; Energy Economics, Economics Letters, Journal of International Financial Markets, Institutions and Money, Journal of Economic Behavior & Organization, European Journal of Finance, Journal of Real Estate Finance and Economics, World Development, Journal of Forecasting, etc. Tapas Mishra can be contacted at [email protected].