This study examines the causal relationships between Economic Growth (GDPGR), Foreign Direct Investment (FDI), Trade Balance (TB), Trade Volume (TV) and the Real Exchange Rate (RXR) using annual time series panel data for six Central American countries plus Dominican Republic. Granger Causality Testing was applied within the EU-CAAA (European Union – Central America Association Agreement) economic relationship over the period 1996-2015. In addition to FDI and Economic Growth, which enter the model directly, the study takes account of exports and imports, as the basis for TV and TB, and CPI and the Nominal Exchange Rate, which provide the basis for the Real Exchange Rate.
Can GDP Growth be caused by TV, TB, RXR and FDI? After applying the Granger Causality methodology, it was found that TV at lag 1 and FDI also at lag 1, have long run causality. This means that Trade Volume and FDI can cause Economic Growth (GDPGR), positively and significant with p<5%. The other independent variables like TB and RXR do not cause the dependent variable GDPGR in the long run. However, the result of the Wald Test implies that FDI, RXR and TV cause Economic Growth (GDPGR) in the short term. The TB again does not cause the dependent variable GDPGR in the short run and as a consequence, we rejected the Null Hypothesis for FDI, RXR and TV.
