Investigating the Determinants of Foreign Institutional Investment in India

Abstract

The Indian financial market has been an attractive investment destination for the investors across the globe for a quite long period of time. The strong fundamentals of the Indian stock market has made it a most preferred investment hub for both domestic and foreign investors. The unparalleled and buoyant growth of Foreign Institutional Investments (FII) has enabled them to occupy a key position and become a major determining factor in the Indian stock market. The increasing participation of Foreign Institutional Investors (FIIs) certainly adds impetus to the domestic investment, helps in securing greater degree of liquidity, efficient price discovery mechanism, market transparency and performance. But on the other side, FII investments are highly volatile compared to other forms of investment flows. Any unfavourable movement in FII investments will definitely have a huge setback on Indian stock market.

Given the huge volume of these inflows and their potential impact on the share market in particular and the economy in general, it is very essential to understand the determinants of FII flows to India. FII inflows is dependent on a number of macroeconomic variables such as the GDP of the country, the Index of Industrial Production, rate of inflation, interest rates, exchange rates, the stock market returns, etc. This paper is an attempt to study the impact of the major macroeconomic variables such as the Index of Industrial Production, rate of inflation (as represented by the Wholesale Price Index), interest rates, and exchange rates. The study proposes to apply different statistical tools such as Compounded Annual Growth Rate (CAGR), Correlation Analysis, Regression Analysis, Granger Causality Test, Durbin Watson Test, etc. to validate the findings.