Exports and Econo Grwoth Hossain Karunaratne

ITJ 18(4) #35811
EXPORTS AND ECONOMIC

GROWTH IN BANGLADESH:
Has Manufacturing Exports
Become a New Engine of
Export-Led Growth?
Mohammad A. Hossain
Neil Dias Karunaratne
This article empirically verifies the export-led growth hypoth-

esis for Bangladesh and examines whether manufacturing exports
have become a new engine of the export-led growth in Bangladesh,
replacing the total exports-engine, as claimed by the so called de
novo hypothesis. The empirical assessment based on the vector
error correction modeling (VECM) that uses quarterly data over
the period 1974–1999 suggests that both total exports and man-
ufacturing exports have had positive and statistically significant
impacts both in the long run and the short run. But an encom-
passing test in conjunction with the various non-nested tests sug-
gests that total exports, as opposed to manufacturing exports in
isolation, is the dominant engine of the export-led growth. This
refutes the claim that manufacturing exports has become the sole
determinant of the export-led growth in Bangladesh.
* * * * *
Mohammad A. Hossain is a Postdoctoral Fellow in the School

of Economics at the University of Queensland, Australia, and an
Associate Professor at the University of Chittagong, Bangladesh.
Neil Dias Karunaratne is an Associate Professor in the School of
Economics at the University of Queensland, Australia.
THE INTERNATIONAL TRADE JOURNAL, Volume XVIII, No. 4, Winter 2004 303
ISSN: 0885-3908 print/1521-0545 online. DOI: 10.1080/08853900490518190
304 THE INTERNATIONAL TRADE JOURNAL
I. INTRODUCTION
The export-led growth hypothesis is a highly debated issue in
the literature on trade and development. Some view exports as
an engine of growth, some see it as only a handmaiden of growth
and yet others suggest that there is only a contemporaneous
relationship between the two. At a broader level, “the focus of the
debate is on whether or not a country is better served by orienting
trade policies to export promotion or import substitution” (Giles
and Williams, 2000, p. 262).
The neoclassical trade theory suggests that exports can lead
to economic growth. Although some argue that the neoclassi-
cal arguments are highly intuitive and have no firm support
from economic theory (Rodrik, 1994), empirical evidence from
countries such as South Korea, Hong Kong, Singapore, Taiwan,
Malaysia, Thailand and China, by and large, supports the neo-
classical contention. The stunning growth performances of these
countries have prompted many to describe trade policy as a car-
dinal element of economic development (Krueger, 1998; Sachs
and Warner, 1995). Thanks to the shifts in their trade policy,
these countries have enjoyed dramatic increases in exports, es-
pecially labor-intensive manufacturing exports. This has encour-
aged many to view manufacturing exports as a new engine of
the export-led growth replacing the total-export engine which,
in the literature, has come to be known as the de novo hypothe-
sis (Helleiner, 1995; Krueger, 1997).
Since its independence in 1971, Bangladesh pursued an import-
substituting industrialization strategy until the early 1980s that
apparently failed to achieve the desired macroeconomic goals.
Low economic growth, low saving and investment, mounting
foreign debts and fiscal and current account deficits, and, above
all, the escalating rate of inflation gripped the economy, thereby
creating an economic structural impasse.
Hossain & Karunaratne: Exports . . . 305
It is against this backdrop that Bangladesh embarked on an

export promoting strategy in 1982 by initiating various policy
reforms, known as the structural adjustment programs, at the
behest of the International Monetary Fund and the World Bank.
Further comprehensive reforms were undertaken in 1985–1986
and 1991–1992. Although the policy reforms were undertaken
in all key areas of the economy including the fiscal, financial,
and industrial sectors, it is the trade policy reforms that are
most noticeable. Key reforms in trade policy include exchange
rate depreciations, reductions in quantitative restrictions and
tariffs, and a variety of direct incentives to exports such as the
export performance benefits, credit facilities, and income tax
rebates. All this helped reduce the bias against exports (Rahman,
1995; Hossain and Karunaratne, 2002). It is generally held that
Bangladesh’s exports, particularly manufacturing exports, grew
de novo in response to the new incentives created by the anti-
export bias reduction or the trade policy reforms (Helleiner, 1995;
Athukorala, 1998; Williamson, 1999). Some empirical studies
support this claim (Rahman, 1995; Ahmed, 2000; Hossain and
Karunaratne, 2002).
In view of the above, the present paper empirically addresses
the following:
a) if the export-led growth hypothesis holds for Bangladesh,

and
b) if manufacturing exports has become a new engine of the
export-led growth replacing the total-export engine.
The export-led growth hypothesis has been examined by apply-

ing the Johansen-Juselius (1990) MLECM (maximum likelihood
in an error correction modeling). Separate models have been con-
structed for examining the contribution of total exports and man-
ufacturing exports to the growth of GDP. To see if manufacturing
exports has emerged as a new engine of growth, the encompass-

ing principle in conjunction with various non-nested tests has
been applied to the estimated growth equations.
The rest of the article is organized as follows. Section 2
briefly reviews the theory and empirical evidence on the export-
growth nexus. Section 3 explains the suggested models. Section 4
checks the time series properties of the variables. The empirical
results are presented in Sections 5 and 6. Section 7 presents the
concluding remarks.
II. A BRIEF REVIEW OF LITERATURE ON

EXPORT-LED GROWTH THEORY
Theoretical Premises for an Export-Led
Growth Strategy
The conventional trade theory seeks to explain the benefits
from trade by contrasting the likely outcomes of free trade with
those of autarky. Central to the neoclassical theory is the notion
of the comparative advantage that, if exists, will lead to an
efficient reallocation of international resources, largely due to
specialization and the division of labor. Specialization in line
with comparative advantage helps optimize the production of
a trading country. In the conventional theory, the gains from
trade come from the import side. However, exports have an
indirect but pivotal role as “exports allow the country to ‘buy’
imports (of intermediate goods) on more favorable terms than if
produced at home” (Meier, 1995, p. 459). The neoclassical theory
is essentially supply-oriented (Federici and Marconi, 2002).
However, some earlier studies shed light on the exports-
growth link. In his demand-oriented theory of growth, Kaldor
(1970) identified foreign demand as the ultimate constraint of
growth in an open economy. In the staple theory, extensive growth
of export of the staple or primary product having compara-
tive advantage is regarded as an important source of growth.
The latest boost to the export-led growth hypothesis comes

from the precepts of the new or endogenous growth theory. The
new growth theory identifies four major sources of growth, namely,
a) increases in accumulation of capital goods;

b) improvements in the quality of the labor force;
c) reallocation of resources from low- to high-productivity
sectors; and
d) technical change (Durlauf et al., 1996).
Two basic differences between the new growth theory and the
neoclassical theory are:
a) in the new growth theory, various social and economic

policies are tipped to affect the growth rate, while in the
neoclassical theory, these policies affect only the level of
real income not the growth rate; and
b) in the neoclassical theory, physical capital is deemed
as a transitory source of growth as it is subject to
diminishing returns to scale while in the new growth
theory, both physical and human capital are assumed to
exhibit increasing returns to scale.
The source of increasing returns is knowledge, which is created

by the acquisition of skills through education and training,
learning by doing and innovation or research and development
(Grossman and Helpman, 1991). Aghion and Howitt (1992)
held that industrial innovations resulting in new and improved
intermediate products have positive implications for changes in
technology that in turn stimulate growth. Further, the secondary
effects of learning by doing or investment in education may even
exceed the direct effects of trade on growth (Coe and Helpman,
1995).
Grossman and Helpman (1991) described interactions with

the outside world as crucial to promoting innovation and growth
in a small economy. The exchange of ideas can occur through per-
sonal contacts and use of imported intermediate products. Romer
(1993) also held a similar view, and explains the poorness of a
developing country in terms of its lack of physical objects such as
factories and roads (“object gaps”) and lack of ideas or knowledge
(“idea gaps”) to create values compared to a developed country.
An object gap is manifested in savings and accumulation while
an idea gap “directs to the patterns of interaction and communi-
cation between a developing country and the rest of the world”
(Romer, 1993, p. 544). Idea gaps include insights about packag-
ing, marketing, distribution, payment systems, quality control,
and the technology gap, among other things. A liberal trade pol-
icy inevitably involves interactions with foreign firms and agents
and, hence, can help reduce the idea gaps.
The support for the export-led growth theory is not, however,
universal. Young (1991) argued that the learning by doing effects
may slow down at later stages and can even stop ultimately
if not reinforced by new technical progress. Some argue that,
in an uncertain world market, reliance on exports may not
lead to a sustained long-term growth in a developing country
and that the markets in the developed world may not be large
enough to house additional exports from the developing countries
(Adelman, 1984; Cline, 1984). Export promotion and import
substitution policies may as well be complementary, with the
latter being a steppingstone for export-based growth (Grabowski,
1994; Hamilton and Thomson, 1994).
Theory also suggests the prospect of growth-led exports.
This is a case when the growth-induced supply and demand
does not give rise to anti-trade bias (Bhagwati, 1988). Similarly,
Krugman (1984) held that economic growth facilitates exports
by enhancing skills and technology. There is also the possibility
of a bi-directional causality (Grossman and Helpman, 1991;

Bhagwati, 1988) as well as the possibility of no causal link
between the two (Pack, 1992).
Past Empirics on the Export-Led Growth

Phenomenon
There have been a plethora of studies on the export-led
growth hypothesis since the first of its kind by Maizels (1963).
Since elaborate surveys of these studies are available in the
existing literature, the present study limits itself to highlighting
the summary findings only. Jung and Marshall (1985) examined
a total of 11 empirical studies published between 1967 and
1982. All these studies support the export-led growth hypothesis.
Greenaway and Sapsford (1994) reviewed 14 empirical studies
published between 1977 and 1993. In 12 of them, the findings
supported the export-led growth hypothesis. Giles and Williams
(2000) compiled the findings of more than 150 cross-country and
time series studies published between 1963 and 1999. In only 4
out of the 57 cross-country studies and 10 out of the 102 time-
series studies, the findings indicate no clear causal relationship
between exports and growth. In about as many cases, the
evidence supports only the growth-led export hypothesis. All
other studies support the export-led growth hypothesis, of which
a total of 12 suggest bi-directional causality.
Some recent studies also bring out similar findings. Chang
et al. (2000) found no support for the export-led growth theory
for Taiwan. Hatemi-J and Irandoust (2000) found a positive
relationship between exports and growth for Ireland, Mexico,
and Portugal, and no causal relationship for Greece and Turkey.
Jin (2000) found that openness has not affected the long-run
growth of the East Asian countries. Ghirmay et al. (2001) found
a strong positive link between exports and growth for a number
of developing countries. Greenaway et al. (2002) found that
the growth rate in selected developing countries dropped in the

periods immediately after trade reforms but gained momentum
thereafter conforming to a J-curve type response.
Thus, empirical evidence in general supports the export-
led growth hypothesis. But the validity of the cross-country
studies is arguable since they implicitly assume similar economic
structures across countries. Early studies on the issue, such
as Maizels (1963) and Michaely (1977), interpreted the rank
correlation coefficients as evidence of a positive impact of exports
on growth. These studies thus did not distinguish between
statistical association and statistical causation. Some studies
interpreted the linear regression coefficients as measures of
causal relationships (Balassa, 1985; Kohli and Singh, 1989, for
examples). The reliability of these findings is subject to the
fulfillment of the condition that the time series used were indeed
stationary. Nonetheless, recent empirical studies based on the
dynamic time series modeling such as the Granger causality
test, cointegration, and vector error correction also support the
export-led growth hypothesis more often than not.
The Bangladesh Context

Islam and Ifthekharuzzaman (1996) and Islam (1998) are the
two most notable studies to date on Bangladesh. In an ordinary
least squares framework based on annual data (1971–1990), the
former found no significant impact of exports on growth. But
the strength of these results may be undermined by the fact
that the time series used were non-stationary. Islam (1998) con-
ducted cointegration and Granger causality tests using annual
data over 1967–1991. The study finds exports and growth to be
cointegrated and that exports Granger-cause growth in bivariate
and error correction specifications. In contrast, the multivariate
Granger test fails to suggest any significant causality between ex-
ports and growth. The causality results and the error correction
equation in Islam (1998) were based, respectively, on the conven-

tional Granger causality test and Engle-Granger error correction
methodology (Engle and Granger, 1987). Empirical results based
on the conventional Granger test should be interpreted with cau-
tion as the methodology ignores the simultaneity between the
variables included in the model(s).
Similarly, the Engle-Granger error correction modeling suf-
fers from several shortcomings. Two common criticisms of the
methodology are:
a) it is based on the large sample properties that may not

hold for small samples (Banerjee et al., 1993); and
b) as a two-step procedure, the Engle-Granger method carries
forward any errors committed in the first step to the next.
The present study contributes to the empirical literature in

the Bangladesh context as follows: First, the study examines
the exports-growth relationship by using higher frequency (quar-
terly) data and larger sample (1974:1–1999:4). The use of quar-
terly data should capture the short-run dynamics better than the
annual data. As mentioned before, the last of the three compre-
hensive reforms in Bangladesh took place in 1991–1992, while Is-
lam’s study covers the period until 1991. Thus, an extended sam-
ple should provide better insights on the exports-growth nexus.
Second, the study applies the MLECM both for purposes of test-
ing cointegration and the error correction equations as well as
for testing the Granger causality. This methodology overcomes
the shortcomings of the Engle-Granger procedures. Besides, un-
like the latter, the Johansen-Juselius MLECM produces identi-
cal error correction term irrespective of the variable chosen for
normalization and that it can identify more than one potential
cointegrating vector in a multivariate setting. Due to better sta-
tistical properties, the Johansen-Juselius MLECM has got wider
acceptance in recent empirical applications.1 Third, to provide an

alternative assessment of the export-led growth phenomenon the
analysis is extended to explore the relationships between man-
ufacturing exports and GDP growth. In each case, the method-
ology of the “general-to-specific modeling” has been applied in
order to estimate the “parsimonious” models. Finally, the article
examines if manufacturing exports has replaced total exports as
the engine of the export-led growth for Bangladesh.
III. SUGGESTED MODELS AND EXPLANATIONS

OF THE VARIABLES
The empirical approaches to the export-led growth hypoth-
esis have used a wide variety of definitions of the “export” and
the “economic growth” variables, the most common being the
real (total) exports or real manufacturing exports and real GDP
or the growth rates of these variables. An obvious problem with
these studies is that the findings may be “spurious” as exports
are a component of GDP. Some researchers have circumvented
this “accounting identity” effect by considering GDP net of ex-
ports (Heller and Porter, 1978; Islam, 1998) and exports-GDP ra-
tio (Michaely, 1977; Islam, 1998). This study follows Heller and
Porter (1978) and Islam (1998) to define the growth variable
while using the traditional definitions for the export variables.
Thus, the growth variable considered here is: real non-export
GDP (Y ) and the export variables are: real total exports (T X)
and real manufacturing exports (M X).
1 For a comparative analysis of the alternative techniques dealing with “non-
stationary” data see, for examples, Enders (1995) and Maddala and Kim (1998).
Gonzalo (1994) provided a detailed discussion on the relative merits of the alterna-
tive methods suggested for cointegrated systems. Of Ordinary Least Squares (Engle
and Granger, 1987), Non-Linear Least Squares (Stock, 1987), Principal Components
(Stock and Watson, 1988) and MLECM (Johansen and Juselius, 1992), Gonzalo
found MLECM to capture most of the desirable elements in a cointegrated system.
Empirical studies often carry out Granger causality test and

cointegration in a two-variable framework. However, to avoid
possible misspecification bias, it is important not to exclude other
variables that may influence GDP. Investment, imported capi-
tal, and government spending are some of the factors that can
be considered individually or collectively for the purpose (Islam,
1998). This study uses investment as proxied by the fixed cap-
ital formation as a third factor. The rationale for the inclusion
of the investment variable is that it can shed light on the link
between exports and efficiency. A statistically significant coeffi-
cient of the exports variable in the presence of the investment
variable in the estimated equation can be interpreted as indica-
tive of an improvement in efficiency. Similarly, if exports work
through an increase in capital formation, then it should affect
the movements of investment (Ghirmay et al., 2001). Further,
capital formation captures the process of expansion of domes-
tic output as well as the capacity of the economy to generate
employment. Government spending and imported capital even-
tually contribute to capital formation or production capacity of
the economy. Combining the growth and the trade variables with
real investment and letting the lower-case letters denote natural
logarithms, we construct the following multivariate models:
Model 1: U1 (yt , txt , inv t )

Model 2: U2 (yt , mxt , inv t )
where
yt = natural logarithm of real GDP net of exports;

txt = natural logarithm of real exports;
mxt = natural logarithm of real manufacturing exports; and
invt = natural logarithm of real capital formation or investment.
Normalizing on yt , the long run equilibrium relationship in

Model 1, following Engle and Granger, can be written as
(1) yt = α0 + α1 txt + α2 inv t + εt
Assuming that the variables are I(1) or integrated in the first

differences and that there exists only one cointegrating vector,
the Vector Error Correction representation is given by:
n
n

(2) ∆yt = δ0 + δ1i ∆yt−i + δ2i ∆txt−i
i=1 i=1
n

+ δ3i ∆inv t−1 + δ4 ECt−1 + εt
i=1
where ECt is the residuals from Eq. (1). Similar specification

holds for Model 2.
IV. THE DATA AND THEIR TIME SERIES

PROPERTIES
The study covers the sample period 1974:1–1999:4. Exports
data are obtained from various monthly issues of the Interna-
tional Financial Statistics and the Monthly Bulletin of Statistics.
The GDP data are taken from various issues of the Interna-
tional Financial Statistics Yearbook. Data on capital formation
are taken from the various issues of the Bangladesh Statistical
Yearbook. The quarterly GDP and capital formation series have
been constructed by applying the Lisman-Sandee (1965) method
to annual data. Real GDP, real exports, and real capital for-
mation series were constructed by deflating the corresponding
nominal series respectively by the GDP deflators, the unit prices
of exports and the domestic wholesale prices. All variables are
expressed in domestic currency and in constant prices of 1995.
The Augmented Dickey-Fuller (ADF) and the Phillips-Perron

(PP) tests for unit roots suggest that the variables considered in
this study are all non-stationary in their levels but stationary
in first differences.2 The test results are reported in Appendix
Tables A.I and A.II. Further, each time series has a difference
stationary process as opposed to a time stationary process.3
The order of the VAR for each model has been selected on
the basis of the AIC and SBC criteria. Lag-orders of 3 and 2,
respectively, for vectors (yt , txt , inv t ) and (yt , mxt , inv t ) have
2 Before conducting the ADF and the Phillips-Perron tests for the presence of
unit roots, the time series are tested for the possible structural break(s) or jump(s)
in the time series since the conventional unit root and cointegration tests break
down in the presence of such breaks in the data (Zivot and Andrews, 1992; Ben-
David et al., 1997). The existence of a sudden jump or break is checked estimating
the following equation for each of the variables:
yt = yt−1 = εt + DP1 + DP2 + DP3
where DP1 , DP2 , and DP3 are pulse dummies for the years 1982, 1986, and 1992,
respectively, which represent the three most distinct and comprehensive phases of
economic reforms in Bangladesh. The “t” values corresponding to the coefficients
of the pulse dummy variables suggest that there is no “break” or “jump” in any of
the sequences since none of the DP coefficients were statistically significant even at
10% level of significance, which confirms that the conventional unit root tests can
be applied straightaway to the variables considered here.
3 A non-stationary series can be made stationary by detrending or differencing
the level data depending on whether the series is a TSP or a DSP. To see if the
variables are TSP or DSP, a Nelson-Plosser-Bhargava (Nelson and Plosser, 1982;
Bhargava, 1986) type hypothesis that nests a TSP with a DSP has been tested for
each of the data series. A TSP can be distinguished from a DSP as follows:
TSP: yt = α + δt + ut
DSP: yt = α + ρyt−1 + ut
where ut is stationary.
The nested model can be written as:
yt = α + δt + ρyt−1 + et
where et is assumed to be white-noise. The null hypothesis H0 : ρ = 1 and δ = 0 is

then tested on the basis of the sample regression.
been found to satisfy the diagnostic checks for the residual serial
correlation, functional form, normality and heteroscedasticity of
the individual equations in the unrestricted VAR. The Johansen-
Juselius cointegration tests, that is, the maximum eigen value
(λmax ) and the trace statistics (λtrace ) both suggest the existence
of just one cointegrating relationship among the variables in each
model. The results are shown in Tables A.III and A.IV in the
Appendix.
V. ESTIMATED ERROR CORRECTION MODELS

FOR THE EXPORTS-GROWTH
RELATIONSHIP
The existence of cointegration allows the simultaneous esti-
mation of the short-run dynamics and the long-run relationship
or the VECM for each model in a framework similar to Eq. (2),
which follows from the Granger Representation theorem (Engle
and Granger, 1987). Normalizing on the growth variable, yt , the
long-run relationships underlying Model 1 and Model 2 are esti-
mated as follows:
GDP-Total Export Model: yt = 0.22txt + 0.12inv t

(0.12) (0.05)
GDP-Manufacturing yt = 0.16mxt + 0.75inv t

Export Model: (0.09) (0.21)
The standard errors (in brackets) indicate that the long-run

coefficients are all statistically significant. The error correction
terms corresponding to the long-run equations are:
EC1t = yt − 0.22txt − 0.12inv t

EC2t = yt − 0.16mxt − 0.75inv t
The principle of the general-to-specific modeling was then ap-

plied to estimate the parsimonious error correction models. A
parsimonious error correction model is a testing down proce-
dure whereby the statistically insignificant lag terms are grad-
ually dropped to arrive at an economically interpretable model
(in terms of the number of lagged explanatory variables), which
should, however, be consistent with a battery of diagnostic tests
concerning the serial correlation, functional form, normality, and
heteroscedasticity. The procedure is usually implemented by choos-
ing a generous lag length for each variable in the VAR. In the
present case, we choose an arbitrary lag length of 4 across the
board which is customary for quarterly time series.4 In each
model, also included are the three regime shift dummies, namely,
D1982 , D1986 , and D1992 , to represent the three phases of pol-
icy reforms in Bangladesh besides the respective error correction
term. The results are set out in Table I.
The estimated equations show that both total exports and
manufacturing exports have had statistically significant impact
on GDP growth although investment and lagged GDP appear
as more important sources of growth. The negative and statis-
tically significant coefficient of the error correction term in each
4 The choice of the lag length is important from the distributional aspects
of a test statistic. If the chosen lag order falls short of the true lag length, the
parameters estimates will be biased, while the use of a more-than-true-lag order
reduces the power of the test (Islam, 1998). But the choice of the lag length is
still a subject to debate. There is no prima facie case as to why a criterion-based
lag order should perform better than an arbitrary order. Indeed, Jones (1989)
found the arbitrary lags to have performed better than some criterion-based lag
structure. In the present case, AIC and SBC suggest a lag structure of 2 and 1 for
Models 1 and 2 respectively. Such a low lag structure is not consistent with the
general to specific modeling. Conversely, the Akaike’s final prediction error (FPE)
suggests a very high order of lag for each variable, ranging from 10 to 12. Given
that the sample size is rather small for the kind of methodology being pursued
here, the use of very high lag lengths would substantially reduce the degrees of
freedom.
Table I
Regression Results Based on Johansen-Juselius
Error Correction Procedure
(1) GDP and Total Exports
∆yt = 0.36 + 0.21∆yt−1 + 0.05∆txt−1 + 0.07∆txt−2 + 0.24∆inv t
(2.44)∗∗ (2.49)∗∗ (2.12)∗∗ (3.04)∗ (3.09)∗
+ 0.15∆inv t−4 − 0.11ECt−1

(2.52)∗∗ (2.47)
R2 = 0.39 LMS = 4.98 [.290]

Adjusted R2 = 0.35 RESET = 0.39 [.535]
F (7, 93) = 8.46∗ NORM = 1.42 [.491]
DW = 2.10 HET = 0.01 [.934]
(2) GDP and Manufacturing Exports

∆yt = 0.36 + 0.23∆yt−1 + 0.14∆mxt−4 + 0.27∆inv t − 0.13ECt−1
(2.64)∗ (2.61)∗ (1.80)∗∗∗ (3.26)∗ (2.70)∗
R2 = 0.31 LMS = 5.86 [.214]

Adjusted R2 = 0.28 RESET = 1.19 [.276]
F (5, 95) = 8.56∗ NORM = 2.65 [.352]
DW = 2.09 HET = 1.54 [.214]
Legend: ∗ significant at 1% level; ∗∗ significant at 5% level; ∗∗∗ significant at 10% level.
Note: Figures in parentheses denote the rejection level of significance.
Diagnostic Tests:
LMS: Lagrange multiplier test for residual serial correlation.
RESET: Ramsey RESET tests for functional form misspecification.
NORM: Jarques-Bera test for normality of residuals.
HET: Test for heteroscedasticity based on squared residuals.
equation suggests the existence of a short-run adjustment mech-

anism that leads to the long-run equilibrium between total ex-
ports and growth as well as between manufacturing exports and
growth. The error correction term coefficients of (−)0.11 and
(−)0.13 imply a period of adjustment of about 9 and 8 quarters,
respectively.
In a cointegrated system, xt is said to Granger-cause yt if

at least one lagged xt has a statistically significant non-zero
coefficient provided the error correction term is also statistically
significant. The estimated equations in Table I suggest that
both total exports and manufacturing exports Granger-cause
GDP which, in the presence of the investment variable, is
also indicative of an improvement in productive efficiency.5
None of the regime shift dummies has emerged statistically
significant, meaning that no structural change has occurred in
the long-run equilibrium relationship between exports and GDP
in Bangladesh.
VI. TESTING RIVAL MODELS ON TOTAL

EXPORTS AND MANUFACTURING
EXPORTS AS ENGINES OF GROWTH
This section examines the de novo claim that manufacturing
exports has emerged as a new engine of the export-led growth for
Bangladesh replacing the total export-engine. The existence of
causality from both manufacturing and total exports to GDP
in a way renounces the de novo claim. Since manufacturing
exports are a component of total exports, it is not however
obvious that the contribution of total exports to GDP growth
is separate from that of manufacturing exports. Conversely, the
manufacturing exports explanation of growth may not convey
additional information than what is already contained in the
total exports explanation. To get an answer to this, we apply
the encompassing principle to the following rival models:
5 An application of the original Granger test also indicates similar implications
for the causality between the exports variables and GDP, with or without the inclu-
sion of the investment variable in the models. The estimated results are presented
in Table A.V in the Appendix.
M1 : Total exports has instrumented the GDP growth;

M2 : Manufacturing exports has instrumented the
GDP growth.
The encompassing principle along with the non-nested tests

provides a basis for evaluating rival economic models.6 Techni-
cally, M1 is a cogent explanation of the true data generating
process if it can encompass the information contained in M2 but
not vice versa. Non-nested tests are a means for testing the speci-
fication of the model under the null hypothesis by working on the
rival model (hypothesized as “false”) and vice versa. Early non-
nested tests aimed at discriminating between models whereby
one of the models would be chosen. Recent models emphasize
‘testing’ rather than discrimination. Thus, all of the models can
be rejected if they prove inadequate in terms of some standard
criteria such as the R2 and the adjusted R2 .
One approach to testing non-nested models is to add a vari-
able and examine the associated t-statistic. The maintained model,
say, yt = β0 + β1 xt + et is first estimated to generate the predic-
tion values, ŷt . The model is then augmented by ŷt2 , ŷt3 , . . . , ŷtr .
The joint significance of the coefficients is tested using an F -test.
Recently, the artificial nesting approach has emerged as a supe-
rior method for testing non-nested models. Non-nested F , J, and
JA tests fall into this category. To elaborate, let H0 and H1 be
the two competing models described as:
(3) H0 : yt = f (xt , zt )
(4) H1 : yt = f (xt , wt )
6 Mizon
and Richard (1986) and Doran (1993) contain detailed reviews of the
encompassing principle and the non-nested testing.
The artificial nested model is then given by
(5) Ha : yt = f (xt , zt , wt )
To test H0 , the coefficient of wt is tested against zero, and

to test H1 , the coefficient of zt is tested against zero using an
F -test. The J-test is regarded as the most convenient method
to implement and that its Monte Carlo performance compares
well with other tests (Davidson and MacKinnon, 1981; 1982). To
explain the J-test, let us again denote H0 as the null hypothesis
and H1 , the alternative. First, ŷ0 is estimated by regressing yt
on xt and wt . In the second step, yt is regressed on xt , zt , and
ŷ0 . The J-statistic is the t-value of the coefficient of ŷ0 . Thus the
J-test does not refer to the artificial model directly.
The same also holds for the JA-test (Fisher and McAleer,
1981). The two tests differ with respect to the augmenting
variable. The JA-test is a three-step procedure. First, yt is
regressed on xt and zt to get the prediction values, ŷ1 . Next, ŷ1
is regressed on the explanatory variables of the rival model H1 to
get predictions ŷ2 . Finally, yt is regressed on xt , zt , and ŷ2 . The
t-value of the coefficient of ŷ2 is the JA-statistic. The JA-test is
considered as an exact robust test when the two sets of regressors
are near orthogonal or when the hypotheses are linear (Michelis
1993) and it produces tests of correct size even in small samples
(Doran 1993). In contrast, the J-test is not exact and tends to
over-reject a true hypothesis in small samples. But the J-test is
more powerful than the JA-test. It is, therefore, suggested that
both tests be applied simultaneously.
This study applies the J, JA and F tests along with other
conventional tests to see if the total exports-GDP relationship
(M1 ) can encompass the information in the manufacturing
exports-GDP relationship (M2 ) or vice versa. The estimated
Table II
Non-Nested Tests of Total Exports and Manufacturing
Exports Models of GDP Growth
Test Category t-Value: M1 vs. M2 t-Value: M2 vs. M1
N -Test −1.47 −7.41∗

N T -Test −0.94 −3.88∗
W -Test −0.93 −3.63∗
J-Test 1.12 3.68∗
JA-Test 1.05 1.67∗∗
Encompassing F (4, 92) = 0.62 F (2, 92) = 3.34∗
Model M1 : DW = 2.10 Adjusted R2 = 0.35 LL = 194.55

Model M2 : DW = 2.09 Adjusted R2 = 0.28 LL = 188.38
Model M1 + M2 : DW = 2.11 Adjusted R2 = 0.34 LL = 188.38
Aikaike’s Information Criterion: M1 vs. M2 = 4.17 Favors M1

Schwarz’s Bayesian Criterion: M1 vs. M2 = 1.55 Favors M1
Legend: ∗ significant at 5% level; ∗∗ significant at 10% level.
error correction equations in Table I constitute the specific

models of interest, which are reproduced as follows:
M1 : ∆yt = β10 + β11 ∆yt−1 + β12 ∆txt−1 + β13 ∆txt−2

+ β14 ∆inv t + β15 ∆inv t−1 + η10 EC1t−1
M2 : ∆yt = β20 + β21 ∆yt−1 + β22 ∆mxt−4 + β23 ∆inv t
+ η20 EC2t−1
For the rival models to qualify as non-nested, each model

must contain at least one explanatory variable that is omitting
from the other model (Davidson and MacKinnon, 1993). An
inspection of the variables in M1 and M2 suggests that the
models qualify as non-nested. The estimated test statistics for
the various non-nested models are presented in Table II. The
small sample N -test cannot reject the null of total export-led
growth (M1 ) against the alternative of manufacturing export-

led growth (M2 ). It however rejects M2 against M1 at even the
1% level of significance. Thus, the N -test favors the total-export
explanation of growth, which is also supported by the N T -, W -,
and J-test.
The JA-test favors M1 against M2 at the 5% significance
level. But at the 10% level, the JA-test approves both models as
providing satisfactory explanations of the growth of GDP. The
encompassing F -test suggests that the explanation provided by
M1 cannot be improved by incorporating information from M2 .
In other words, the total-exports model of GDP can encompass
the explanation of the growth of GDP contained in the manu-
facturing-exports model and thus provides a better explanation
of the growth of GDP than the latter.
The encompassing F -test in the comparison of M2 vs. M1
indicates that M2 can be improved by adding information from
M1 . It thus rejects M2 as a plausible explanation of GDP growth.
Finally, both AIC and SBC favor M1 . But these criteria are
mainly concerned with judging the performance of a model on
the basis of estimated residuals of an equation and, hence, may
not be justifiably applicable to non-nested tests (McAleer, 1987).
VII. CONCLUDING REMARKS

This article has provided empirical evidence on the relation-
ship between expansion of exports and economic growth in Bang-
ladesh during the period 1974–1999. By using high frequency
data and applying dynamic time series econometric techniques,
the paper has reviewed the nature and direction of the causal
relationships between total exports and GDP and between man-
ufacturing exports and GDP. The study has also examined the
de novo hypothesis that manufacturing exports has become a
new engine of the export-led growth for Bangladesh.
The empirical results based on the cointegration and error

correction modeling suggest that the export-led growth hypoth-
esis holds for Bangladesh. Both total and manufacturing exports
appear as long-run determinants of GDP growth. The results
also confirm Granger causality from the exports variables to
GDP. However, the encompassing and the related non-nested
test statistics fails to lend unambiguous support for the de novo
hypothesis. On the contrary, the results appear to suggest that
total exports as opposed to manufacturing exports remains the
dominant engine of growth. The de novo claim is further weak-
ened by the empirical findings that the policy reforms in Bang-
ladesh have not caused any significant structural change in the
underlying long-run equilibrium or the cointegrating relationship
between exports and GDP growth (Hossain, 2003). Manufactur-
ing exports can at best be described to have speeded up the
export-engine of growth in Bangladesh.
The empirical results thus highlight the importance of the
non-manufacturing or agricultural exports for galvanizing the
growth potential of the Bangladesh economy. Although the share
of agriculture in total exports has been on the wane (it has
declined from about 35% in 1974 to 21% in 1999), in absolute
terms agricultural exports has continued to rise, at a decreasing
rate of course, during the sample period of 1974–1999.7 Overall,
agricultural exports rose at an annual compound rate of just
under 10% while manufacturing exports rose by about 12%.
Therefore, the growth rate empirics support the discrediting of
the de novo hypothesis. As mentioned before, other empirical
studies indicate that the expansion of manufacturing exports
7 These statistics and others that follow in the rest of this section are based on
the United Nations and IMF data published, respectively, in the Monthly Bulletin of
Statistics (various issues) and International Financial Statistics Yearbook (various
issues).
in Bangladesh was promoted by creating a massive package of

policy incentives geared to the fiscal, financial, industrial and
trade sectors. The policy incentives aimed at moderating the
impediments to the growth of the industrial sector and the
manufacturing or non-traditional exports generated by it. The
traditional agricultural exports sector, however, did not receive
a push from a parallel incentives package and regardless it
continued to forge ahead.
In hindsight, led by the ready-made garments the low-
skilled manufacturing sector in which Bangladesh exhibited a
comparative advantage surfaced as the main motor of the engine
of growth of manufacturing exports. The structural reforms
have sharpened the competitive edge in manufacturing exports
and fostered an environment that is conducive to enhanced
productive efficiency (Hossain and Karunaratne, 2004).
It can also be argued that the agricultural sector in Bangla-
desh has a latent comparative advantage and policy has so far
failed to harness its maximum potential to fuel the export-engine
of growth. These perceptions clearly indicate that policy mea-
sures should be undertaken to overcome the problems and chal-
lenges facing the agricultural sector which, many view, has been
at the crossroads for quite a long period now (Hossain, 2001).
The massive untapped potential in the traditional agricultural
sector offers policymakers an alternative avenue for expediting
growth without relying exclusively on manufacturing exports as
has been the case hitherto.
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VIII. APPENDIX
Table A.I
The ADF and PP Tests for Unit Roots in the
Levels of the Variables
Test t-Values t-Values
Series Category (with Constant) (with Constant & Trend) Comment
yt ADF −1.40 (4)sbc −2.41 (4)sbc Not I(0)

−1.30 (6)aic −2.80 (5)aic Not I(0)
PP −1.11 −1.36 Not I(0)
txt ADF −0.47 (4)aic,sbc −1.20 (4)sbc Not I(0)
−0.83 (5)aic Not I(0)
PP −1.20 −2.69 Not I(0)
mxt ADF −0.17 (5)aic,sbc −2.61 (4)aic,sbc Not I(0)
PP −1.21 −2.00 Not I(0)
inv t ADF −1.42 (3)sbc −2.43 (3)sbc Not I(0)
−1.30 (4)aic −2.78 (4)aic Not I(0)
PP −0.27 −1.62 Not I(0)
Legend:
aic = Akaike’s Information Criterion
sbc = Schwartz Bayesian Criterion
Notes:
(a) Numbers within the brackets corresponding to ADF t-statistics are the
optimal lags as specified by Akaike’s Information Criterion or/and Schwartz
Bayesian Criterion;
(b) t-values corresponding to Phillips-Perron (PP) tests are based on 4 truncation
lags. similar results are obtained for different lags up to 12, the maximum examined;
and
(c) Critical values for t-statistics with constant and with constant and trend at
5% significance level are −2.89 and −3.45, respectively.
Table A.II
ADF and PP Unit Root Tests in the First-Differences
of the Variables
Test t-Values t-Values
Series Category (with Constant) (with Constant & Trend) Comment
∆yt ADF −8.11 (4)sbc −7.93 (4)sbc I(1)

−5.32 (5)aic −6.42 (5)aic I(1)
PP −6.92 −7.36 I(1)
∆txt ADF −13.47 (3)sbc −13.47 (3)sbc
−9.54 (4)aic −9.59 (4)aic I(1)
PP −16.36 −17.21 I(1)
∆mxt ADF −4.09 (3)sbc −4.10 (3)sbc I(1)
−4.42 (4)aic −4.48 (4)aic I(1)
PP −3.66 −3.72 I(1)
∆inv t ADF −4.86 (2)sbc −4.82 (3)sbc I(1)
−4.32 (3)aic −4.29 (4)aic I(1)
PP −3.35 −3.79 I(1)
Legend and Notes: As in Table A.I.
Table A.III
Johansen-Juselius Tests for Cointegration:
(zt : yt , txt , inv t )
λmax Statistic
Null Alternative Statistic 95% Critical t
r=0 r=1 26.54 21.12

r≤1 r=2 8.50 14.88
r≤2 r=3 0.05 8.07
λtrace Statistic
r=0 r≥1 35.10 31.54

r≤1 r≥2 8.55 17.86
r≤2 r≥3 0.05 8.07
Note: r is the number of cointegrating vectors.

Table A.IV
Johansen-Juselius Tests for Cointegration:
(zt : yt , mxt , inv t )
λmax Statistic
r=0 r=1 28.96 21.12

r≤1 r=2 6.66 14.88
r≤2 r=3 0.36 8.07
λtrace Statistic
r=0 r≥1 35.98 31.54

r≤1 r≥2 7.02 17.86
r≤2 r≥3 0.36 8.07
Note: r is the number of cointegrating vectors.
Table A.V
Granger Causality between Expansion of
Exports and Growth
Existence of Causality
Model from Exports to GDP F -Statistic
1. (yt , txt ) YES (+0.02) 79.50∗

2. (yt , mxt ) YES (+0.02) 81.37∗
3. (yt , txt , inv t ) YES (+0.03) 73.02∗
4. (yt , mxt , inv t ) YES (+0.02) 75.66∗
Legend: ∗ the F -statistic is significant at 5% level of significance.
Note: The optimal lag lengths for the independent variables are
based on Akaike’s final prediction errors, which are respectively
10, 11 and 12 for txt , mxt , and inv t . Figures in brackets are the
aggregated values of coefficients of the lags of txt or mxt , whichever
is relevant. Similar results have been obtained from the use of an
arbitrary lag order of 4.

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ITJ 18(4) #35811

EXPORTS AND ECONOMIC

This article empirically veriﬁes the export-led growth hypoth-

Mohammad A. Hossain is a Postdoctoral Fellow in the School

It is against this backdrop that Bangladesh embarked on an

a) if the export-led growth hypothesis holds for Bangladesh,

The export-led growth hypothesis has been examined by apply-

exports has emerged as a new engine of growth, the encompass-

II. A BRIEF REVIEW OF LITERATURE ON

The latest boost to the export-led growth hypothesis comes

a) increases in accumulation of capital goods;

a) in the new growth theory, various social and economic

The source of increasing returns is knowledge, which is created

Grossman and Helpman (1991) described interactions with

of a bi-directional causality (Grossman and Helpman, 1991;

Past Empirics on the Export-Led Growth

the growth rate in selected developing countries dropped in the

The Bangladesh Context

equation in Islam (1998) were based, respectively, on the conven-

a) it is based on the large sample properties that may not

The present study contributes to the empirical literature in

acceptance in recent empirical applications.1 Third, to provide an

III. SUGGESTED MODELS AND EXPLANATIONS

1 For a comparative analysis of the alternative techniques dealing with “non-

Empirical studies often carry out Granger causality test and

Model 1: U1 (yt , txt , inv t )

yt = natural logarithm of real GDP net of exports;

Normalizing on yt , the long run equilibrium relationship in

(1) yt = α0 + α1 txt + α2 inv t + εt

Assuming that the variables are I(1) or integrated in the ﬁrst

where ECt is the residuals from Eq. (1). Similar speciﬁcation

IV. THE DATA AND THEIR TIME SERIES

The Augmented Dickey-Fuller (ADF) and the Phillips-Perron

yt = yt−1 = εt + DP1 + DP2 + DP3

where et is assumed to be white-noise. The null hypothesis H0 : ρ = 1 and δ = 0 is

V. ESTIMATED ERROR CORRECTION MODELS

GDP-Total Export Model: yt = 0.22txt + 0.12inv t

GDP-Manufacturing yt = 0.16mxt + 0.75inv t

The standard errors (in brackets) indicate that the long-run

EC1t = yt − 0.22txt − 0.12inv t

The principle of the general-to-speciﬁc modeling was then ap-

+ 0.15∆inv t−4 − 0.11ECt−1

R2 = 0.39 LMS = 4.98 [.290]

(2) GDP and Manufacturing Exports

R2 = 0.31 LMS = 5.86 [.214]

Legend: ∗ significant at 1% level; ∗∗ significant at 5% level; ∗∗∗ significant at 10% level.

Note: Figures in parentheses denote the rejection level of signiﬁcance.

equation suggests the existence of a short-run adjustment mech-

In a cointegrated system, xt is said to Granger-cause yt if

VI. TESTING RIVAL MODELS ON TOTAL

5 An application of the original Granger test also indicates similar implications

M1 : Total exports has instrumented the GDP growth;

The encompassing principle along with the non-nested tests

The artiﬁcial nested model is then given by

To test H0 , the coeﬃcient of wt is tested against zero, and

N -Test −1.47 −7.41∗

Model M1 : DW = 2.10 Adjusted R2 = 0.35 LL = 194.55

Aikaike’s Information Criterion: M1 vs. M2 = 4.17 Favors M1

Legend: ∗ signiﬁcant at 5% level; ∗∗ signiﬁcant at 10% level.

error correction equations in Table I constitute the speciﬁc

M1 : ∆yt = β10 + β11 ∆yt−1 + β12 ∆txt−1 + β13 ∆txt−2

For the rival models to qualify as non-nested, each model

growth (M1 ) against the alternative of manufacturing export-