A Causality Analysis on the Empirical Nexus between Capital Formation and Economic Growth: Evidence from India

Abstract

The study investigates the causal relationship between grosscapital formation (GCF) and gross domestic product (GDP) overthe period 1970-2013 using annual data. The study has employedeconometric tools to analyse the behaviour of both the series.Johansen’s co-integration test has been applied to explore the
long-run equilibrium relationship between GCF and GDP. Theanalysis reveals that GCF and GDP are cointegrated and, hence,a long-run equilibrium relationship exists between them. Thevector error correction model (VECM) has shown that the laggedterms of gross capital formation influence the gross domestic
product of India. The Granger causality test exhibits the presenceof short-run relationship between GCF and GDP and therelationship appears to be bidirectional. It is therefore concludedthat high capital formation drives economic growth and, in turn,high economic growth contributes to the accumulation of more
capital assets in India.