Causality relationship between growth and energy use, a case study of vietnam

Through testing different types of Granger Causality based on the Vector Error Correction Model VECM, the main finding is the unidirectional Granger causal connection from energy consump

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Causality Relationship between Growth and

Energy Use:

A Case Study of Vietnam

NGUYEN THI TAM HIEN

The University of Danang, Campus in Kon Tum -

nttamhien@kontum.udn.vn

NGUYEN THI PHUONG THAO

The University of Danang, Campus in Kon Tum - ntpthao@kontum.udn.vn

2013 Through testing different types of Granger Causality based on the Vector Error Correction Model (VECM), the main finding is the unidirectional Granger causal connection from energy consumption to economic growth, which is different from previous research in Vietnam In addition, the paper indicates the negative effect of energy consumption on economic growth.

Keywords: energy consumption; Granger causality; Vector Error Correction Model (VECM)

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1 Introduction

Over past two decades, the dramatical increase in the demand for energy to meet the rapid economic development in the Asian countries along with inefficient energy use has caused energy scarcity Besides, the high volatility of energy prices along with the rising greenhouse gas emissions in recent years also has become a challenge to the sustainable development of these countries The building of energy conservation policy intended to ensure energy security as well as promote sustainable growth has attracted many scholars’ concerns It is important in design this policy is that policy makers must understand clearly the causal relationship between energy consumption and economic growth In other words, policymakers have to answer the question whether economic growth boosts energy consumption or whether energy consumption causes economic growth However, up to now, there has a lack of consensus among economists due to the mixed findings from previous studies.

In term of energy economics literature, there has a massive body of academic research on the linkage between energy consumption and economic growth These studies have conducted in various countries with different periods and using different econometric methodologies (Ozturk, 2010) However, the directions of this causality are still mixed and controversial among empirical pieces of research Azlina (2012) classifies the causal relationship between energy consumption and economic development into four views The first view suggests that economic development is considered as the main driver for energy demand economy grows It means that economy growth to lead to the energy demand of the economy also increases On the contrary to the first view, the second view points out the important roles of energy in the economic development process In addition to capital, labor, and materials, energy is considered as an input to production The third view shows that there has

a two-way causal relationship between energy consumption and economic development The fourth view argues that both energy consumption and economic development are neutral with respect to each other.

Over more past two decades, Vietnam has witnessed impressive economic growth in the Southeast Asia However, its consumption of energy also increased tremendously accompanied by high economic growth In particular, before the impact of 2008 World Economic Crisis, the economic growth rates

in Vietnam on average reached over 7 percent for the period from 1990 to

2007 At the same time, the energy consumption per capita in Vietnam also increased by 9.3 percent per year1 CIEM (2012) also show that in two last decades, the economic growth in Vietnam has relied heavily on draining a lot

of its natural resources and energy intensity levels has been higher than other countries in the region In particular, to generate $ 1,000 of GDP, Vietnam must consume about 600 kg of oil equivalent, 1.5 times higher than

in Thailand and more than 2 times compared to the average level of the world (Hong Quang, 2015) Do and Sharma (2011) also give a forecast that the total

1 Toan, P K., Bao, N M., & Dieu, N H (2011)

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energy consumption in Vietnam is projected to rise from 55.6 Mtoe in 2007

to 146 Mtoe in 2025 Vietnam is facing the risk of dependence on imported energy This impressive performance has placed an interesting question to economists and policy makers of whether energy consumption is the cause or effect of economic growth in Vietnam.

To the best of our knowledge, there have been some studies examining the energy-growth nexus, such as Chontanawat et al (2008), Phung (2011), Le (2011), and Nguyen (2012) However, this causal relationship between energy consumption and economic growth has not been reached

to a consensus among economists2.

Awareness of the importance of understanding the causal relationship between energy consumption and economic growth in policy implications leads us to continue this issue Performing Granger causality test and Vector Error Correction Model (VECM) using the energy consumption per capita and income per capita from the year 1986 to 2013, this paper aim to answer the following questions: (1) Does there exist causality between economic growth and energy consumption in short-term and in long-term? (2) If yes, what is the sign and magnitude of such effects?

The remainder of this paper is organized as follows: Section 2 briefly reviews the literature on the causal relationships between energy consumption and economic growth Section 3 outlines the data and the econometric methodology Then, the econometric results are discussed in section 4 Conclusions follow in Section 5.

2 Literature review

The causal linkage between energy consumption and growth has been a widely studied topic in the literature for a long time Since the pioneering work of Kraft and Kraft (1978), which concluded a unidirectional causality from income to energy consumption in the United States for the 1947-1974 period, many economists have joined the debate with either supporting or conflicting views during the next two decades For example, Abosedra and Baghestani (1989) confirms the Kraft and Kraft’s result by applying the standard test of Granger causality Cheng and Lai (1997) with Taiwanese data from 1955 to 1993 and Cheng (1999) with two time series of India also support the causality running from GDP to energy consumption without feedback Conversely, Akarca and Long (1980) detect the issue of temporal sample instability in Kraft and Kraft’s study Therefore, by replacing the time period, the relationship turned out to be no statistically significant The same neutrality property is proved by Yu and Hwang (1984), Yu and Jin (1992) with updated data to 1979 and 1990, respectively Using standard Granger technique, Yu and Choi (1985) also have the same conclusion for the case of

US, UK, and Poland However, the causal relationship runs from GNP to total energy consumption for South Korea and vice versa for the Philippines Masih

& Masih (1996) also found different results when checking the growth-energy consumption nexus for 6 Asian countries The Johansen's

2 Tang, C F., Tan, B W., & Ozturk, I (2016)

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multivariate cointegration tests and dynamic vector error correction model (VECM) show mutual effects between development and energy use in Korea, Taiwan, and Pakistan In sum, most studies in this period used bivariate models and Granger causality approach Hence, major reasons for these contradicted findings may be the usage of different tests and lag terms for time series, the diversification in data of various countries and various time scales.

In the recent years, the debate on the growth-energy nexus is even more extensive and diversified with various research directions and economic techniques Both country-specific and multi-country provide a broad context of the research issue with the aim of drawing a definite conclusion on the relationship and its direction between economic growth and energy consumption This ambitious purpose has still not been achieved due to a consensus on the subject matter so far Table 2.1 provides a summary of controversial arguments in the last 15 years.

From the review of recent literature, some noticeable points are

summarised as follows:

- The previous two decades experience a vigorous debate of a large number of researches worldwide Some studies focus on a specific nation while others assess a group with certain common properties such as developing countries, industrialized countries, G-7 group, oil-exporting countries, same region or same continent countries.

- Except for the study of Stern and Enflo (2013) which uses 150-year time series for Sweden, the examined period often ranges from 3 to 5 decades, assuring the reliability of findings However, the most recent year is 2011 that is relatively out of date In the context of increasingly urgent environmental issues, research with more updated data should be carried out to draw conclusions that are more suitable.

- In terms of methodology and techniques, most of researches implement

3 main steps:

First, test the stationarity of the series or their order of integration in all variables, using Augmented Dickey-Fuller (ADF) test and Phillips-Perron (PP) test Some authors apply more tests such as Kwiatkowski-Phillips- Schmidt-Shin (KPSS) test (Ang, 2008), Zivot and Andrews test (Altinaya & Karagol, 2004) to verify their findings.

Second, examine the presence of a long-run relationship, utilizing the popular approaches of Johansen (1991) or Pedroni (1997, 2004) A few studies are distinguished by some newly developed cointegration tests, for example, test of Pesaran et al (2001) and a modified version of the Granger causality test due to Toda and Yamamoto (1995) in the studies of Wolde-Rafael (2006), Fatai et al (2004).

Third, identify the direction by employing Granger causality tests (VAR model) or vector error correction model (VECM) Some other techniques

are also applied depending on data’s characteristics like Hsiao’s version of Granger causality tests (Aqeel & Butt 2001).

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- There are two types of models: (1) bivariate model in which two main variables are energy and growth (total or per capita) and electricity consumption seems to be the most popular measure energy use Other energy sources such as oil, gas are also mentioned in several studies (2) A multivariate model which usually adds energy price, labor, capital as exogenous factors.

- Although the results are mixed and contradicting, there are three main strands: (1) unidirectional causality which can be energy consumption – growth

or growth – energy consumption directions; (2) bi-directional causality; (3) no relationship Since most of researches lead to policy suggestions accordingly to their findings, evidence in either direction is useful and important To be specific, if there is unidirectional causality running from energy consumption to economic growth, conducting and promoting energy preservation programs could harm the economy Similarly, with bi-directional causality, economic growth demands more energy at the same time energy levels also affect economic growth Energy-saving strategy, therefore, may slow down the momentum of development On the other hand, if the growth - energy consumption direction is found, policies aiming at reducing energy use may be implemented with little or no negative influence on economic growth The same suggestions will be made in the case of no causality.

Several studies on the growth-energy consumption relationship in Vietnam have only been carried out recently, including Phung (2011), Le (2011) and Nguyen (2012) Three authors used the bivariate model to study the relationship between energy consumption/ electricity consumption and economic growth in periods 1976 – 2010, 1975 – 2010, and 1986 – 2006 respectively Despite the different time scales, they came

up with a unidirectional relation from growth to energy consumption These results could not explain the energy-led economy in Vietnam This makes difficult to understand the energy as a determinant of economic growth and giving implications to policymakers in energy policies or sustainable growth policies.

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Table 1

An overview and evaluation of existing literature

Paul & India

1950–

1996 Engle–Granger cointegration

Multivariate model

Bi-directional causality between

Bhattachary

(2004)

standard Granger causality

+ In-sample forecasts till2011–

Test co-integration: Johanson

VECMSoni, Singh

errorcorrection mechanisms (VECM)

growth to energy consumption of rejecting the nullconstructed in levels

Causality testsLoganathan,

1971-2008 OLS Engel-Granger (OLS-EG) Bivariate model

Bi-directional causality between

+ Combination of different

Nanthakum

total energy consumption &

& Autoregressive Distributed Lag ARDL & VECM

(2012)

2009

1960-Test stationary: ADF & PP tests

Multivariate model:

Unidirectional causality:

income to + Implications on policyTest co-integration

add share of industry energy consumption + Consider both demandand

Altinaya & Turkey

2000

1950-Test stationary: Zivot &

Unidirectional causality:

electricity

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The standard Granger causality test

Lise & Van

1970-2003 Test stationary: ADF test Bivariate model

Unidirectional causality from GDP

+ Tests on misspecification:

Montfor Test co-integration: Johansontest (per capita energy

per capita to energy consumption Durbin-Watson, Godfrey,

Ramsey’s reset, Lagrange

multiplier, Pagan

Breusch-Chow & Recursive Breusch-ChowJobert &

1960-2003 Test stationary: ADF, PP tests

Multivariate model:

No relationship between real GDP

Karanfil Test co-integration: Johansen

add industrial value and total energy

The relationship has changed over

+ Long period (150 years)

(2013) Granger causality tests usingVAR add capital, labor time, but mostly energy + Diversified techniques

Test co-integration & VECMGlasure Korea

1961-1990 VECM approach

Multivariate model: Bi-directional + Deal with the omitted

causality between oil consumption

variables ( control effects of

expenditure, money and economic growth

the oil price, money supply,

supply, oil prices

government spending and the

oil price shocks

Oh & Lee

1970-1999 Unit root test: PP test

Multivariate model:

Bidirectional causation between

+ The Newey and West (1987)

(2004) Cointegration test: VAR labour and capital energy and GDP

method applied to choose

Causality testMozumder

&

Bangladesh

1971-1999 Test stationary: ADF test Bivariate model

Unidirectional causality: percapita + Policy implicationsMarathe Test co-integration: Johansontest

GDP to per capita electricity use

Aqeel &

Butt Pakistan

1996

1955-The co-integration technique

Unidirectional causality:

economic

+ Hsiao’s Granger Causality

(2001)

Hsiao’s version of Granger causality

growth to energy consumption test: more robust overtests

arbitrary lag length selection

and other systematic methods

determining lag length

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Yang (2000) Taiwan

1954–

1997 Unit root tests Bivariate model

Bi-directional causality between

Cointegration panel tests

total energy consumption and

Bi-directional causality between

Papapetrou Cointegration panel tests add CPI

energy consumption (total and

Shiu & Lam China

consumption (kWh) and GDP

Unidirectional causality:

nonagricultural-GDP to kWhMorimo & Sri Lanka

1998

1960-Econometric model developed by Bivariate model

1950-Unit root test: DF , ADF ; PP test Bivariate model: Bi-directional causality in

+ Suggest a number of ways to