Foreign Direct Investment, External Debt, and Exchange Rate Volatility in Ghana

Abstract

Using annual time series data from the years 1987 to 2021, the study examined the symmetric and asymmetric effects of foreign direct investment and External debt on exchange rate volatility in Ghana. The effect of foreign direct investment (FDI) and External debt on exchange rate volatility in Ghana was investigated using the Linear Autoregressive Distributed Lag (LARDL) model. The study went ahead to examine a possible asymmetric effect of FDI and external debt on exchange rate volatility in Ghana using the Nonlinear Autoregressive Distributed Lag (NARDL) model. The results obtained from the LARDL model concluded that there is a negative effect of FDI and External debt on exchange rate volatility in the long run. The estimate of the NARDL model revealed that there is an asymmetric effect of FDI on the exchange rate volatility in the long run. However, there was an asymmetric effect of both FDI and External debt on exchange rate volatility in the short run. The study recommended that the government strengthens its regulatory frameworks to effectively manage the level of outflows, given that the decline in foreign direct investments (FDIs) is observed to have increasingly negative consequences. Also, it is crucial for Ghana to carefully manage its external debt levels. Strive for a sustainable debt profile by diversifying funding sources, monitoring debt-servicing obligations, and ensuring that borrowed funds are utilized efficiently in productive sectors that generate long-term economic benefits.