14_101008 eel mori et al_malaysia_published paper

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The Empirical Economics Letters, 10(3): (March 2011) ISSN 1681 8997

Does Import Affect Economic Growth in Malaysia

Mori Kogid, Dullah Mulok, Kok Sook Ching, Jaratin Lily

School of Business and Economics, Universiti Malaysia Sabah88400 Kota Kinabalu, Sabah, Malaysia

Email: [email protected]

Mohd Fahmi Ghazali

Labuan International School of Business and Finance

Universiti Malaysia Sabah, Labuan International Campus

Nanthakumar Loganathan

Department of Economics, Faculty of Management and Economics

Universiti Malaysia Terengganu

Abstract: This paper uses the bivariate cointegration and causality analysis based onthe Engle-Granger two steps, Johansen, Toda-Yamamoto, and Hsiaos Granger

procedures to analyze the relationship between the economic growth and the import inMalaysia from 1970 to 2007. Results show that there is no cointegration exists between

economic growth and import, but there exists bilateral causality between economicgrowth and import. Results also show that import could indirectly contribute toeconomic growth, and economic growth could also directly contribute to import. Thesefindings maybe vital for future economic growth policy.

Keywords:Economic Growth, Import, Cointegration, Causality, Malaysia

JEL Classification Number: C32, F42, N15, O47

1. Introduction

Economic growth theory is the main focus of economic study by most researchers, and itis often linked to various factors in a sense that these factors are perceived to be crucial in

spurring the economic growth of a country. Amongst these factors are private

consumption expenditure, government expenditure, investment, import, export, and other

related factors. As cited in Piazolo (1996), the traditional growth theory based on Solow

(1956) and Denison (1962) shows that the setting of output depends on the level of capital

stock, the volume of labour employed, and the types of technology used. The introduction

of an exogenous rate of technological change allows for an exogenously determined rate

of economic growth. At the same time, other factors such as savings, investment, and

institutional framework (e.g. government consumption expenditure) are the minor


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The Empirical Economics Letters, 10(3): (March 2011) 298

influences for the long term economic development. The new growth theory on the other

hand, focuses mainly on (i) technological change, (ii) the role of government, (iii) trade

policy, and (iv) human capital development as the determinants of economic growth

(Piazolo 1996).

The main objective of this study is to investigate the relationship and causality patternbetween import (M) and economic growth (GDP) in Malaysia for both short run and long

run, in an attempt to capture the possible impact of import on economic growth. In

general, the direction of causality seems to run predominantly from national income to

import, but not the other way round. High income countries will tend to import more, and

vice versa. Nevertheless, the causal relationship underlying import spending and economic

growth is more complex than the statistical tests. Less certain, however, is the direction of

influence between import and economic growth (Humpage 2000). Does import cause

economic growth, or the other way round?

This paper is organized as follows. Section 2 discusses past studies in relation to the

import and economic growth. The data and methodology is discussed in Section 3, while

Section 4 explains the empirical results and findings. Section 5 of this study offers

discussion and conclusion.

2. Literature Review

Past studies heavily focused on economic growth in both theory and empirical. Various

empirical studies tried to determine the significant factors determining economic growth

and most of these studies were associated with the determinants or sources of economic

growth with different methodologies, data, and cases. Tong (1995) explored the

relationship between economic growth and import, and he recognized that import at

different times contributed to economy differently, but as a whole, there was a positive

correlation between import and economic growth. Frankel and Romer (1999) in their study

on cross-country data found that higher trade contributes to long-term economic growth,

after accounting for the effect of growth on trade. Although they considered total trade(export plus import), their research methodology attributed the same response to import

that it applies to export; that is, import causes economic growth. Humpage (2000) on the

other hand, stressed that import does not lower economic growth. He believed that import

and economic growth are positively correlated, with causality running in both directions.

Faster economic growth does indeed lead to higher import, but the countries that are

opened to trade tend to grow faster than those with a closed economy or less accessible.

Liu (2001) in his research revealed that import has a strong role in the promotion of

national economy by analyzing the data of China from 1980 to 1998. Howard (2002)

examined the relationship between export, import and income in the economy of Trinidad


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and Tobago, using the methodology of Granger causality and error correction modeling.

The results showed that there is unidirectional Granger causation from export to income

(GDP), and bidirectional causation between export and import, and causality running from

GDP to import. Chen (2009) in a different study stated that, import is often recognized as

a leakage of revenue of which will lead to unemployment rather than economic growth.

But he stressed that the impact of import on economic growth on the other hand, should

not be ignored. Import is an important mean to break the bottleneck of economic

development and promote economic growth. Therefore, the research on the relationship of

import and economic growth is necessary. Gao (2004) showed that the relationship

between foreign trade and economic growth is one of the main debating problems in the

economic field. Based on his study, he found that both export and import improve

economic growth, while the promoting effects on economic growth of export are much

weaker than those of import. Shirazi and Abdul Manap (2005) found the feedback effect

running from import to GDP growth in Bangladesh as the consequences of technology

transfer. Ghorbani and Motallebi (2009) studied and analyzed the import demand function

in Iran for the year 1960 to 2005, and found that import demand is elastic related to

increasing in gross domestic income.

Alam, Uddin and Taufique (2009) in their paper attempted to explore the import of

Bangladesh which is one of the most significant factors responsible for unfavourable trade

balance of the country. The paper examined the existence of the gravity theory for the

import of Bangladesh with its eight major trading partner countries such as India, China,

Singapore, Japan, Hong Kong, South Korea, USA and Malaysia by using yearly panel data

from 1985 to 2003. The paper found mixed results for the impact of Bangladesh GDP on

its import. If population is not considered, GDP shows positive relationship with import.

In addition, its major trading partner countries GDP has significant positive impacts on

the import of Bangladesh. Azgun and Sevinc (2010) in a different study explained that in

the smaller and open economies, import and foreign trade play major roles in economic

development and growth. Engle-Granger test was conducted, but the results showed no

causality relationship between import and export.

3. Data and Methodology

This study uses annual time series data from 1970 to 2007 which were obtained from

International Financial Statistics (IFS), and Department of Statistics Malaysia. Such data

include Gross Domestic Product (GDP) and Import (M). All data are transformed into

logarithmic form. For the analysis, this study applies the Engle-Granger two steps,

Johansen, Hsiaos Granger, and the Toda-Yamamoto (TY) procedures for bivariate

cointegration and causality.


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All annual time series data which are Gross Domestic Product (GDP) and Import (M)

from the periods of 1970 to 2007 in this study is obtained from International Financial

Statistics (IFS), and Department of Statistics Malaysia. All data are transformed into

logarithmic form. This research applies the Engle-Granger two steps, Johansen, Hsiaos

Granger, and the Toda-Yamamoto (TY) procedures for bivariate cointegration and

causality analysis.

Unit root tests in this study are conducted by using Dickey-Fuller, DF or Augmented

Dickey-Fuller, ADF (Dickey and Fuller 1979), Phillips-Perron, PP (Phillips 1987, Perron

1988, Phillips and Perron 1988), and Ng-Perron, NP (Perron and Ng 1996, Ng and Perron

2001) tests.

After determining the integration level for all the variables involved, a cointegration test

can be made to test the existence of cointegration between LGDPand LMby using the

Engle-Granger (Engle and Granger, 1987) and Johansen (Johansen 1988; Johansen and

Juselius 1990) methods. In order to support the hypothesis that LGDP and LM are

cointegrated, the cointegration vector must be at level 1.

The causal relationship issue in this research is tested by using Error Correction Model

(Engle and Granger, 1987), Toda-Yamamoto (Toda and Yamamoto, 1995) procedure, and

Hsiao version of Granger causality test (Hsiao, 1981). Generally, in the case where ty and

tx are stationary variablesI(0), equation (1) and (2) without the error correction term can

be estimated using the least squares method in level form. However, ifytandxtare non-

stationary variables,I(1) and do not cointegrated, the VAR model such as equation (1) and

(2) without the error correction term in the first difference form can be used. Whereas

equation (1) and (2) exactly can be used in the case where ty and tx are I(1) and

cointegrated.

0 1 2 3 1

1 1

n n

t i t i j t j t t

i j

LY LY LX u

= =

= + + + +

(1)

0 1 2 3 1

1 1

m m

t i t i j t j t t

i j

LX LY LX v

= =

= + + + + (2)

where 1t is error correction term or cointegration obtained from cointegration tests.

Granger causality test that has been modified or better known as augmented VAR is

considered to be more competent and has a greater ability for features of cointegration

process. This procedure was proposed and introduced by Toda and Yamamoto (1995) with

the main objective to overcome problems relating to invalid asymptotic critical value

when causality tests are conducted on non-stationary variable series. Zapata and Rambaldi


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Table 1: Unit Root Tests

Level First DifferenceTest

TypeVariable

ConstantConstant &

TrendConstant

Constant &

Trend

LGDP -1.57(1) -4.28***(5) -4.99***(0) -5.19***(0)ADFLM -1.46(1) -2.28(1) -4.91***(0) -5.06***(0)

LGDP -1.55[1] -2.22[1] -4.96***[2] -5.15***[2]PP

LM -1.24[3] -1.81[1] -4.91***[1] -5.03***[2]

MZ MZt MZ MZt MZ MZt MZ MZt

LGDP0.19

(3)

0.10

(3)

-3.96

(0)

-1.37

(0)

-18.07***

(0)

-2.98***

(0)

-18.01**

(0)

-2.97**

(0)NP

LM0.75

(1)

0.56

(1)

-5.56

(0)

-1.54

(0)

-16.83***

(0)

-2.90***

(0)

-17.17*

(0)

-2.93**

(0)

Note: Figures in ( ) and [ ] indicate number of lag and bandwidth structures respectively. *, ** and*** indicate significance at 10%, 5% and 1% levels respectively.

The results of the cointegration test based on the Engle-Granger approach are as follow:

1 1 0.3851 0.2331

t t te e e

= + (5)

(tau) (-2.6717) (1.3556)

The critical value for the cointegration test based on Engle and Granger at 5% is -3.17 is

shown in Table 2. Though the coefficient value for 1te that is 2 0.3851 0 < < , but not

significant where the absolute tauvalue for coefficient 1te is less than the critical value

that is 2.67 3.17< . This test concludes that both GDP and M variables are not

cointegrated in the long run. This means there is no long-run equilibrium relationship

between GDPandM.

Table 2: Engle-Granger Test Critical Value

0.01 @ 1% 0.05 @ 5% 0.10 @ 10%

Without Lag -4.07 -3.37 -3.03

With Lag -3.73 -3.17 -2.91

Source: Enders (1995)

Therefore, the analysis on the error correction model such as in equation (1) and equation

(2) is not suitable to be used because a cointegration vector does not exist between GDP

and M. On the other hand, equation (1) and equation (2) in first difference form are

applied without error correction term to analyze the dynamic short-run relationship

between GDPandM.


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The second bivariate cointegration test by using the Johansen approach is shown in Table

3 of which showing similar result with Engle-Granger cointegration test. The results show

that there is no long run cointegration relationship between the GDP and M. This

empirical decision proposes that GDPand Mcould not be cointegrated in the long run.

Both statistic tests which are Trace-eigen and Maximum-eigen statistic have producedsimilar results. This gives the conclusion that in the long run there is no tendency that

GDPmoves together withMtowards equilibrium.

Table 3: Johansen Bivariate Cointegration Test

H0 H1 Test Statistic:

Trace Statistic: trace r = 0 r > 0 11.0568

r 1 r > 1 1.9521

Max-Eigen Statistic: max r = 0 r = 1 9.104715r = 1 r = 2 1.952064

The absence of a long-run cointegration relationship needs eqs. (1) and (2) without error

correction term to be used to test the causality between GDPand M(see Table 4). The

VAR lag length order selections based on AIC suggest that the optimum lag length is 3.

Table 4: Standard VAR Granger Bivariate Causality Test

Variable VAR(k) Wald Statistic

LM LGDP 3 9.2570**

Diagnostic Tests: Residual

R2= 0.3319 AIC = -2.5885 JB = 1.9468

White Statistic = 12.1010 Q(3) = 0.5566 LM(3) = 1.1201

Sum of Squared Residual = 0.0991 Q2(3) = 0.9747 ARCH(3) = 0.8621

Variable VAR(k) Wald Statistic

LGDP LM 3 12.6986***


R2= 0.3489 AIC = -1.3340 JB = 0.9017

White Statistic = 15.4492 Q(3) = 0.7579 LM(3) = 2.0515

Sum of Squared Residual = 0.3474 Q2(3) = 2.4078 ARCH(3) = 2.6476

Note: ***, ** and * denote significance at the 1%, 5% and 10% levels respectively.


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The results of standard VAR Granger causality test such as in Table 4 show that there is

bidirectional causal relationship running from theMto the GDPas well as from the GDP

to theM. Bivariate test for causality using the Toda-Yamamoto approach also confirmed

that there is bidirectional causality between GDP and M (see Table 5).

Table 5: Toda-Yamamoto Bivariate Causality Test

Variable VAR(k) TY VAR(k+ dmax) MWald Statistic

LM LGDP 3 4 8.3810**


R2= 0.9969 AIC = -2.4982 JB = 3.1967

Sum of Squared Residual = 0.0964 Q(4) = 0.5226 LM(4) =1.2856

White Statistic = 22.1009 Q2(4) = 3.0403 ARCH(4) = 3.5157

Variable VAR(k) TY VAR(k+ dmax) MWald Statistic

LGDP LM 3 4 11.2612**


R2= 0.9941 AIC = -1.2961 JB = 0.6113

Sum of Squared Residual = 0.3208 Q(4) = 0.6644 LM(4) =2.8720

White Statistic = 22.1009 Q2(4) = 3.5921 ARCH(4) = 17.3574

Note: ***, ** and * denote significance at the 1%, 5% and 10% levels respectively.

Table 6: Hsiao Version of Granger Bivariate Causality Test

Dependent Variable F(m*) > or < F(m*, n*) Decision

LGDP 0.003643

(1)

> 0.0000227

(1)

Import does Granger

cause economic growth

LM 0.011613

(1)

> 0.0000230

(1)

Economic growth does

Granger cause import

Note: Figures in parentheses are the optimum lags based on the minimum (lowest) FPE value.

Based on the FPE statistics, Hsiao version of Granger causality test (see Table 6) also

support the results which have been produced by the standard VAR Granger causality test

and TY approach. As a conclusion, all the causality tests used suggest that there is bilateral

causal relationship between GDP and M. In other words, the import indicator does

Granger caused the economic growth indicator as well as the economic growth indicator

does Granger caused the import indicator. The diagnostic tests have also confirmed that

there is no problem with the residual series which is normal, no serial correlation, no

ARCH effects and homokedasticity at the optimal lags selected based on the AIC (see

Table 4 and Table 5).


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This leads to the conclusion that although there is no cointegration relationship between

import and economic growth in the long run, but there is bidirectional causal relationship

between import and the economic growth especially in the short run. In this case, import

does affect economic growth. The empirical results also propose that, perhaps it is not

only economic growth could directly contribute to import, but that import could also

indirectly contribute to economic growth.

5. Conclusion

We perceive that by improving the institutions or the way of how economy operates, we

might be able to change our economic outcomes for the better. When institutions are

weak, even places with abundant natural resources or other inputs will not promise a

sustainable economic growth. To achieve a sustainable economic growth, good

governance and well managed economic resources are crucial. The findings of this study

show that in the case of Malaysia, import has a paramount important role in spurring the

growth of the economy especially in the short run. More emphasis should be accorded on

this determining factor especially in the drafting of the long term economic growth

policies of the country.

To conclude, the major implication from the findings of this study is that, in Malaysia

during the observed period, economic growth is significantly influenced by import, as well

as import is significantly influenced by economic growth. These findings may be vital for

future economic growth policy. The policy adjustments to promote economic growth

should be based on the evidence of what has, and what has not, worked for other countries.

In this concern, we might also have to answer the questions that whether of how we can

replicate this in Malaysia. Can we uncover the best policies to promote economic growth?

Evidence presented in this study is clear that economic growth is significantly influenced

by import. Nevertheless, import does not reduce economic growth. Specialization and

technological transfer can directly promote economic growth, and thus improve the

standards of living in the country. However, the benefits of specialization andtechnological progress might not accrue equally to everyone, and perhaps might worsen

the economic situation of some people. Should we, then, ignore or disparage import?

These questions certainly need to be further investigated and this provides avenue for

future researches.

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