This study uses a VAR model to analyse the dynamic relationship between gross domestic product (GDP) and domestic investment (DI) in Rwanda for the period 1970 to 2011. Several selection lag criteria chose a maximum lag of one, and a bivariate VAR(1) model specification in levels was adopted. Unit root tests show that both GDP and DI series are nonstationary in levels but stationary in first differences, implying that both are integrated of order one I(1). Tests of cointegration established that GDP and DI are CI(1,1), suggesting there is a long-run equilibrium relationship between the two series. The error correction model indicates that DI adjusts to GDP with a lag whereby 0.2 percent of the discrepancy between long-term and short-term DI is corrected within the year. Granger causality tests show that there is unidirectional causality where GDP causes DI. The bivariate VAR (1) was unstable when estimated at levels, but was stable in first differences. Finally it was found out that GDP almost perfectly predicts DI in the estimated VAR (1) model. The forecasted value of DI in 2011 was 22.6% of GDP while the actual value was 22.7% of GDP. The small discrepancy may be attributed to the appropriate policy measures the Rwandan government and the private sector federation have thus far taken to facilitate investors in their businesses.

This paper analyses real Gross Domestic Product (GDP), Domestic Investment (DI), Foreign Direct Investment (FDI), Domestic Savings (DS) and Trade (TR) in Rwanda for the period 1970 to 2011. GDP and DI have an upward trend and annual growth of real GDP was around 8% in average for all period. FDI and DS have remained below 2% of GDP each and trade balance of Rwanda is always negative. Augmented Dickey-Fuller (ADF) tests show that GDP, DI and FDI are not stationary at the level but the first differences are stationary. VAR (1) was identified as the appropriate model according to Akaike information criterion, Schwarz information criterion and Hannan-Quinn information criterion. Granger causality tests show that there is bi-directional causality between GDP and TR and TR and DI and unidirectional causality from GDP to DI, from DS to GDP, from DS to DI and from DS to TR. These findings show that GDP can be used to promote Domestic Investment and Trade. Domestic savings have significant effects on GDP, DI and TR. VAR was estimated and the forecasted values of GDP, DI and FDI in 2011 are respectively, 3,843.6233 million, 22.67% and 0.95% while their actual values in 2011 are 3891.9million, 22.7% and 1.66%. There is under-prediction for GDP, DI and FDI. The differences can be explained by the efforts of the Government of Rwanda to promote GDP, Domestic Investment and Foreign Direct Investment.

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