DETERMINANTS OF CAPITAL FORMATION IN ETHIOPIA

Abstract

In economic theory when high savings istied with high levels of capital formation long-term economic growth can be realized. This study aims to investigate the determinants of Capital Formation in Ethiopia using annual time series data from1980/81-2015/16. To analyze data Error correction model was applied. The result of co-integration test indicated that there is a long run relationship among variables and error correction model used to estimate the short run dynamics. The result of the models revealed grossnational saving, Per Capita Income, Investment, and Consumption have significant role on gross Capital formation in Ethiopia in the long run. ButConsumer Price Index, Average Lending, Dependency Ratio, Real Effective Exchange Rate, Taxes and Money Supply, found to be statistically insignificant determinants of gross Capital formation in Ethiopia in the long run. However, in the short run, except Consumer Price Index, DependencyRatio, Real Effective Exchange Rate, Taxes and Money Supply the rest of the explanatory variables such as Gross National Saving, Per Capita Income, Average lending rate, Investment, and Consumption found statistically significant explaining gross Capital formation in Ethiopia. Further, the findings of the study underlined gross nationalsaving; Per Capita Income and Investment, and Consumption are most important factors that positively and significantly influence gross capital formation in Ethiopia. Therefore, In order to acquire maximum benefit from them concerned bodies have to put their effort to sustain the saving culture through financial literacy. The public authorities should Encourage savings by enhancing Interest rate .The Government should be creating and enabling good atmosphere and provide more infrastructural facilities to cover way for investment which in turn will boost Capital Formation.