Trade Openness and Economic Growth Nexus: A Case Study of BRICS
| Author | Rucha R. Ranadive,Neha N. Karnik,L. G. Burange |
| Published date | 01 February 2019 |
| Date | 01 February 2019 |
| DOI | 10.1177/0015732518810902 |
| Subject Matter | Articles |
Trade Openness and
Foreign Trade Review
54(1) 1–15, 2019
Economic Growth
©2018 Indian Institute of
Foreign Trade
Nexus: A Case
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Study of BRICS
DOI: 10.1177/0015732518810902
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L. G. Burange1
Rucha R. Ranadive1
Neha N. Karnik1
Abstract
The article analyses a causal relationship between trade openness and economic
growth for the member countries of BRICS by using an econometric technique
of time series analysis. Member countries of BRICS adopted a series of liberaliza-
tion reforms, almost simultaneously, from the late 1980s. The article attempts to
study the impact of trade openness on their growth in GDP per capita. It captures
structural composition of GDP and openness of trade in four aspects, that is,
merchandise exports, merchandise imports, services export and services import.
In India, the study found growth-led trade in services hypothesis. The article sup-
ports the growth-led export and growth-led import hypothesis for China and
export- and import-led growth for South Africa. However, no causal relationship
was evident for Brazil and Russia.
JEL Codes: F43, C22
Keywords
Trade openness, economic growth, cointegration, Granger causality
1 Department of Economics (Autonomous), University of Mumbai, Mumbai, Maharashtra, India.
Corresponding author:
Rucha R. Ranadive, A-7/25, Sundar Nagar, Kalina, Santacruz (East), Mumbai, Maharashtra 400098,
India.
E-mail: rucha.ranadive@gmail.com
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Foreign Trade Review 54(1)
Introduction
Trade is vital for any successful dynamic modern economy. Trade openness
assists production across boundaries, resulting in productive gains and accelerates
economic growth. Trade liberalization not only boosts economic aspects but also
social aspects such as living standards and life expectancy. The relationship
between international trade and economic growth is the most debated issue in the
literature of international economics.
Developing countries started reaping benefits of openness after the 1980s.
In this decade, export promotion strategies through trade liberalization brought
incentives for domestic resource allocation and production of efficient output.
Such strategies led to an increase in efficiency and improvement in productivity,
which led to an additional investment in industries with comparative advantage.
Similarly, improved resource allocation increases output and innovations in export-
oriented industries. Openness to trade has helped to promote structural change in
the economy. It has emerged as one of the important factors contributing to eco-
nomic growth. However, there exists causality between openness and growth that
needs to be analysed. The causality that goes from export to growth is asserted as
export-led growth (ELG) hypothesis when export expansion accelerates eco-
nomic growth by generating positive externalities through specialization, efficient
allocation of resources, improved production techniques, competition, economies
of scale, efficient management and also provides foreign exchange for the import
of capital and intermediate goods, which, in turn, increases capital formation and,
thereby, domestic production. However, there can be causality from economic
growth to openness, which refers to the growth-led export hypothesis. High pro-
ductivity reduces per unit cost of production that would increase international
export competitiveness. Nonetheless, if domestic production is greater than domestic
demand then, in an open economy, producers would try to sell it abroad and
growth would be realized internally.
Considering the benefits and increased opportunities accompanied with trade
openness, the study aims to assess the link between trade openness and economic
growth of the member countries of BRICS using an econometric technique of
time series analysis. In 2012, the share of BRICS in merchandise exports was
17.48 per cent, whereas it constitutes 16.13 per cent share in the total world
imports. Acceleration in the share of trade in services was experienced by BRICS
over the last decade. BRICS, in 2012, contributed 10.21 per cent in the world
exports of services while the share of imports of services is 14.79 per cent
(WTO, 2014). Thus, to measure the trade openness, this study segregates openness
into four measures such as merchandise exports, merchandise imports, services
export and services import as a ratio to GDP. Recent dynamics of the trade are
highly influenced by the trade in services. Therefore, through this segregation the
impact of each of the trade flow could be analysed for each country that would
finally suggest their trading pattern and trade-growth link.
The rest of the article is structured as follows. Section 2 overviews the literature
on trade openness and growth. Section 3 details data coverage, analysis and empiri-
cal results. The last section gives concluding remarks with policy implications.
Burange et al. 3
Literature Review
The nexus between trade openness and economic growth dates to the times of Adam
Smith and Karl Marx. However, in recent times, Grossman and Helpman (1991)
argued that openness enhances economic growth through following channels:
1. Enlarging available variety of intermediate goods and capital equipment,
which expands the productivity of country’s other resources.
2. Accessing improved technology of developed countries.
3. Intensification of capital utilization.
4. Openness offers large market for domestic producers and reaps benefits
from increasing returns to scale.
Levine and Renelt (1992) showed that trade openness affects growth through
investment. Trade liberalization allows an access to investment goods and pro-
vides incentives to FDI. Thus, it leads to a faster long-run economic growth.
Dollar (1992) used distortions in the real exchange rate as a means of measuring
trade. He found a negative correlation between the real exchange rate distortions
and growth that implied a positive trade-growth relation. However, he was criti-
cized by Rodriguez and Rodrik (2001) and Baldwin (2003).
Edwards (1993, 1997) studied the relationship between openness and eco-
nomic growth for specific countries and conducted cross-country analysis.
The study concluded that, on the one hand, import substitution strategy does
not generate long-term growth of output. However, outward-oriented strategy
was effective in achieving the same. On the other hand, the cross-country literature
suggested a positive relationship between openness and growth.
Sachs and Warner (1995) suggested a positive and significant relationship
between openness and growth from 1970 to 1989 with five different indicators of
openness. The study concluded that openness index and growth rate of per capita
GDP exhibited statistically significant positive relationship. Harrison (1996) stud-
ied the effect of trade openness on growth using panel data and inferred that open-
ness and growth indicated bi-directional causality.
Frankel and Romer (1999) modelled geographical factor as an instrumental
variable. They also found that Ordinary least squares underestimates the effect of
trade on growth, whereas trade exerted positive effect on growth considering
an instrumental variable. Dollar and Kraay (2001) applied a unique feature of
analysing within-country decadal changes in growth rates and volume of trade.
They argued that in the case of an instrumental variable, there could be a possibility
of reverse causation from growth to trade. The study found a strong and significant
relation between changes in trade and growth.
Rodriguez and Rodrik (2001) have criticized Dollar (1992), Edward (1993a,
1997), Sachs and Warner (1995), and Frankel and Romer (1999). Rodriguez and
Rodrik (2001) critically evaluated the new trade theories that attempted to
answer the question whether a country with less policy induced barriers
grow faster than other countries with controlled characteristics. The study
found an inverse relationship between the trade barriers and economic growth.
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Foreign Trade Review 54(1)
They studied world trade data from 1975 to 1994 of growth rate per capita GDP,
average tariff rate (ratio of total import duties to volume of imports) and cover-
age ratio for non-tariff barriers. Their analysis showed a negative relationship in
the long run. Neither average tariff rate, nor the coverage ratios were perfect
indicators of openness. They also found that free trade raises income but does
not lead to sustained growth in the long run.
Srinivasan and Bhagwati (2001) rejected a cross-country regression
methodology due to weak theoretical foundation, poor quality of database and
improper econometric techniques. They also argued that the conclusion of
Rodriguez and Rodrik (2001) was valid only for the standard Solow model and
not for the Harrod-Domar model. They favoured export promotion strategy
and argued on...
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