Abstract:
Abstract
Background: Saving and investment has been regarded as the two prominent variables in
achieving sustainable economic growth. In one country’s economic progress saving and
investment play a crucial role. Thereby, this study aimed to examine the saving, investment and
economic growth nexus in Ethiopia using the annual time series data observed from 1974 to
2017. Principally, the study planned to investigate the causal linkage and the impact of the
saving-investment relationship on economic growth rate in Ethiopia.
Method: To achieve the underlying objectives, the study employed vector autoregressive and
error correction models as well as cointegration analysis using the Johansen multivariate
procedure. Pairwise Granger causality, impulse response functions and forecast error variance
decompositions were also used.
Results: The Augmented Dickey Fuller and Phillips Perrron unit root test indicated that all series
are integrated of order one, i(1). That is, all series are stationary after first difference. The
Johansen cointegration test revealed the existence of a long-run relationship among saving,
investment and economic growth with one cointegrating equation. The causality result showed
economic growth granger causes saving. It was also found bidirectional causality between saving
and investment as well as investment (GCF) and economic growth rate. VAR (1) model result
showed economic growth rate is significantly explained by one period lagged values of itself,
saving and investment. Furthermore, the result indicated investment (GCF) is affected by
economic growth rate and amount of saving in Ethiopia. For a 1% increase in gross domestic
saving and gross capital formation leads to the economic growth rate increased by 2.845% and
4.768% in natural logarithm respectively in the long run on average, ceteris paribus. In addition,
52.6% of long run economic growth departure is adjusted (back to) equilibrium within each year.
Conclusion: From the long run model saving and investment have a positive significant effect on
the economic growth rate of Ethiopia both in the short run and long run. Based on the results
obtained it is recommended that the government and stakeholder work together to create
investment opportunity and initiate investors to raise saving and economic growth.
Key Words: Cointegration, Economic growth, Granger Causality, Vector Autoregression
(VAR), Vector Error Correction Model (VECM), and Forecasting.