The effects of transition and political instability on foreign direct investment inflows

This paper examines the effects of transition and of political instability on foreign direct investment (FDI) flows to the transition economies of Central Europe, the Baltics and the Balkans. We find that FDI flows to transition economies unaffected by conflict and political instability exceed those that would be expected for comparable West European countries. Success with stabilization and reform increased the volume of FDI inflows. In the case of Balkan counties, conflict and instability reduced FDI inflows below what one would expect for comparable West European countries, and reform and stabilization failures further reduced FDI to the region. Thus, we find that the economic costs of instability in the Balkans in terms of foregone FDI have been quite high.     

ESTIMATING VALUE ADDED OF ILLEGAL PRODUCTION IN THE WESTERN BALKANS

Several economists continue to assert that the official national accounts of many countries do not cover a large “hidden” or “underground” economy. This article looks at one component of the underground economy, namely illegal activities. According to the UN System of National Accounts, production of goods and services that are illegal should be included in the Gross Domestic Product (GDP) if both the producers and consumers are willing partners to the transactions involved. We examine the estimates of illegal production recently made by several countries in the Western Balkans and conclude that, if illegal activities were fully included in their official GDP estimates, they would increase by about 1 percent. Trade in narcotics and prostitution are the two most important kinds of illegal activities in most countries and we look in detail at how estimates for these activities were made by the Western Balkan countries.     

Energy efficiency in transition economies

This article outlines and estimates a measure of underlying efficiency in electricity consumption for an unbalanced panel of 27 transition economies and 6 European OECD countries between 1994 and 2007. A Bayesian Generalized True Random Effects stochastic frontier model with persistent and transient inefficiency is considered by estimating an aggregate electricity demand function that leads to consumption efficiency scores, giving further insights than a simple analysis of energy intensity. There is evidence of convergence between the CIS countries and a block of Eastern European and OECD countries, although other country groups do not follow this tendency, such as the Balkans.     

Privatization, strategic foreign direct investment and host-country welfare

Recent evidence shows that developing countries and transition economies are increasingly privatizing their public firms and at the same time experiencing rapid growth of inward foreign direct investment (FDI). We show that there is a two-way causality between privatization and greenfield FDI. Privatization increases the incentive for FDI, which, in turn, increases the incentive for privatization compared to the situation of no FDI. The optimal degree of privatization depends on the cost difference of the firms, and on the foreign firm's mode of entry.     

Home country effects of foreign direct investment: From a small economy to a large economy

Previous studies on home country effects mainly focused on FDI from large developed economies to other countries. But today's super recipient is a relatively larger economy than its investors and many of these investors are not classified as “developed economies.” A simple Ak type model implies that a small and more developed country investing in a large and less developed country will experience decreases in both employment and income disparity (compared to the recipient country) as the less-developed recipient country gains the higher technology of production through FDI inflows. The empirical results for the Four Tigers (source countries) and China (recipient country) are consistent with our theoretical model of FDI outflows. We also find that FDI outflows to China decrease the ratio of exports to GDP only for small source countries, even though a higher investment in China raises the share of these countries' exports-to-China to China's total imports.     

How important is employment protection legislation for Foreign Direct Investment flows in Central and Eastern European countries?1

In this article we investigate empirically the importance of labour market conditions and in particular the role of employment protection legislation as determinants of bilateral Foreign Direct Investment (FDI). We find that FDI flows are significantly higher in countries with relatively low unit labour costs. We also find that employment protection legislation does not exert a statistically significant impact on FDI flows. Our results are consistent with the interpretation that transition economies attract FDI via low production costs whereas indirect costs related to the rigidity of the labour market are less relevant.     

中国对外直接投资的政策动因——一个新的实证研究

全球外国直接投资在世界范围内遭受到经济和金融危机的严重影响。危机改变了外国直接投资的格局：对发展中经济体和转型期经济体的投资骤增;流入发达国家的外国直接投资同期大幅度下降。同时中国对外直接投资强劲增长,成功地成为对外直接投资的重要来源。与全球外国直接投资整体下滑之势相反,中国对外直接投资呈现出逆势增长的趋势。因此有必要从宏观经济的角度对中国对外直接投资的动因进行探讨。本文从理论和实证两个角度分析中国对外直接投资的动因,认为国民生产总值、出口、对矿产和能源进口需求、外汇储备和中国对外直接投资额之间存在长期稳定的关系,其中国家政策的影响显著,中国对外直接投资会随着对矿产和能源进口需求和外汇储备的增加而增加。     

Foreign direct investment and economic performance in transition economies: evidence from China

Based upon a production function with FDI representing updated technology from more developed, market‐based economies, this study tests the hypothesis that FDI contributes to the economic growth of less developed, transition economies via technology updating, using data for 30 Chinese provinces from 1985 to 2000. It is found that provinces with a higher FDI ratio experienced faster technology updating and more rapid economic growth. The study suggests that less developed, transition economies should encourage FDI from more developed, market‐based economies so as to accelerate technology updating and economic growth.     

Welfare effects of competition for FDI between technologically asymmetric countries with varying trade costs

Given the traditional argument that host countries' excessive competition for FDI (foreign direct investment) deteriorates the host countries' welfare, this paper examines the impact of policy competition for FDI on social welfare considering varying trade costs. Based on a model where two technologically asymmetric countries compete for FDI, we determine an equilibrium where a multinational firm relocates to a less efficient country. Moreover, we demonstrate that the policy competition for FDI between less integrated economies might improve social welfare when the multinational firm relocates to a country with a lower technology and a less competitive market. Nonetheless, we show that the traditional argument can be true when the policy competition for FDI between highly integrated economies deteriorates host countries' welfare, as supported by the empirical evidences of moderated competition for FDI within EU member countries.     

The impacts of PTA formation on small economies’ tax competition for FDI inflows

This paper examines why small economies are so eager to form or join preferential trade agreements (PTAs), as observed in the East Asia and the Central Europe, taking consideration of the strategic impacts of PTA formation on tax competition for foreign direct investment (FDI) inflows. Based on a simple model where three asymmetric countries compete for FDI inflows, we demonstrate that PTA formation provides a strategic advantage to a small member country of PTA in competing for FDI inflows not only with respect to a non-member country but with a large member country when the integrated market size is large enough. In addition, it is shown that it might be an out-of-equilibrium path strategy for a non-member small economy to exert efforts to induce FDI inflows, because the excessive subsidies to induce FDI inflows might outweigh the gains from the FDI inflows due to strategic disadvantage in tax competition after PTA formation. These findings explain why small economies are mainly driven by the expected economic benefits including FDI inflows from joining PTA.     

THE POLITICS OF FDI EXPROPRIATION

I examine the role of political instability and fractionalization as potential explanations for the lack of capital flows from rich countries to poor countries (i.e., the Lucas Paradox). Using panel data from 1984 to 2014, I document that (i) developed countries exhibit larger inflows of foreign direct investment (FDI), (ii) countries subject to high investment risk (IR) receive low FDI inflows, and (iii) IR is higher in fractionalized and politically unstable economies. These findings suggest a negative relationship between political instability and FDI through the IR channel. I inspect the theoretical mechanism using a dynamic political economy model of redistribution, wherein policymakers can expropriate resources from foreign investors. The proceeds are used to finance group‐specific transfers to domestic workers but hinder economic growth by discouraging FDI. I show that the political equilibrium exhibits overexpropriation and underinvestment.     

FDI,taxes and agglomeration economies in the EU15

This article provides an empirical analysis of the impact of tax differentials and agglomeration economies on Foreign Direct Investment (FDI). The article departs from most previous work on FDI and tax competition in a number of ways. First, it incorporates several measures of agglomeration in order to investigate whether agglomeration economies mitigate the downward spiral in tax rates. As the strength of agglomeration economies may vary with the degree of integration, we use a panel of bilateral FDI flows for a highly integrated region including countries with similar economic structure – the EU15 – from 1986 to 2004. Second, the empirical analysis explicitly deals with the problem of selection bias by using the Heckman sample selection approach. Also, by focusing on the EU15, we are able to provide additional information on the determinants of FDI between similar, higher-income countries. The empirical analysis provides some evidence of corporate marginal effective tax rates having an impact on FDI. This result, however, is sensitive to the inclusion of agglomeration economies. In particular, we find both Marshall types of technological externalities and overall concentration of economic activity to have an influence on FDI flows and, moreover, mitigating the negative impact of taxes.     

The Effect of Terrorist Incidents on Capital Flows

Previous work has shown that terrorism has significant negative impact on countries' economies. We explore this relationship in more detail. Using an unbalanced panel of more than 160 countries for up to 25 years and the Global Terrorism Database (GTD) we show a decrease in foreign direct investment (FDI) as a consequence of terrorism. We also find evidence that FDI flows are more sensitive to terrorism than either portfolio investments or external debt flows. Finally, we test the hypothesis that terrorism has negative spill‐over effects on FDI flows into neighboring countries and find evidence that cultural, but not geographical, closeness matters.     

Foreign Direct Investment Determinants in OECD and Developing Countries

In this paper we examine the foreign direct investment (FDI) inflow determinants in 24 Organisation for Economic Co‐operation and Development (OECD) and 22 developing (non‐OECD) countries over 1980–2012, using the standard fixed effects as well as a dynamic panel approach. The most robust finding is that lagged FDI, market size, gross capital formation and corporate taxation significantly affect FDI inflows in OECD countries. We also examine a group of developing countries, taking into consideration the increased share of world FDI inflows that developing countries have attracted, and compare the results. In this case, lagged FDI, market size, labor cost and institutional variables provide the most robust results. The empirical results have important policy implications indicating the factors that host economies should emphasize in order to attract FDI inflows.     

Do Multinational Enterprises Contribute to Convergence or Divergence? A Disaggregated Analysis of US FDI*

It is widely held that foreign direct investment (FDI) has a positive effect on economic growth. To test this hypothesis, we perform convergence regressions derived from a theoretical model on the impact of FDI on endogenous technological change in small economies. The model includes FDI externalities that enhance growth, but also shows that FDI can crowd out host country income and reduce local innovation. The empirical analysis employs disaggregated US data for various FDI‐related activities—in addition to the conventionally used aggregate FDI stocks and flows. We estimate the net FDI impact on the convergence rate of per‐capita income to US levels, controlling for human development, financial development, and trade. We find that FDI accelerates convergence for high‐income countries only, otherwise slowing it down.     

Transition to FDI openness: Reconciling theory and evidence

Empirical studies quantifying the economic effects of increased foreign direct investment (FDI) have not provided conclusive evidence that they are positive, as theory predicts. This paper shows that the lack of empirical evidence is consistent with theory if countries are in transition to FDI openness. Anticipated welfare gains lead to temporary declines in domestic investment and employment. Also, growth measures miss some intangible FDI, which is expensed from company profits. The reconciliation of theory and evidence is accomplished with a multicountry dynamic general equilibrium model parameterized with data from a sample of 104 countries during 1980–2005. Although no systematic benefits of FDI openness are found, the model demonstrates that the eventual gains in growth and welfare can be huge, especially for small countries.     

Does immigration crowd out foreign direct investment inflows? Tradeoff between contemporaneous FDI-immigration substitution and ethnic network externalities

This study examines the dynamic interactions between immigration and inward foreign direct investment (FDI) using bilateral data on these indicators between Japan and each of the 29 countries/economies of origin for both FDI and immigrants into Japan during 1996–2011. Although literature shows a positive FDI–migration relationship, I distinguish between short- and long-term effects of immigration, and show a contemporaneous negative relationship between FDI and immigration. The results show that immigration flows discourage FDI inflows (FDI–migration substitution), although larger immigration stocks induce FDI inflows (ethnic network externalities). Therefore, total effects need to be evaluated considering a tradeoff between contemporaneous substitution and the longer-term complementarity from network effects. While inward FDI promotion and immigration enhancement are often suggested as solutions to resolving shortages in domestic savings and labor, our results have implications for addressing the increasingly daunting policy issue of population aging.     

Agglomeration economies and location choice: Foreign direct investment in Hungary1

Since the beginning of the transition process, Hungary has attracted a significant amount of foreign direct investment (FDI), although this is unevenly distributed among the twenty Hungarian counties. This paper examines the determinants of FDI at a regional level in Hungary and more particularly assesses the importance of agglomeration effects among determinants. A panel model of the location determinants of FDI in Hungary is developed and estimated. Empirical testing suggests that counties with higher labour availability, greater industrial demand and higher manufacturing density attract more FDI. Surprisingly, higher unit labour costs attract FDI. In addition, inter‐industrial agglomeration economies and infrastructure availability are found to be important.     

The welfare effects of FDI: A quantitative analysis

Foreign direct investment (FDI) can increase productivity and wages. However, it is also often accompanied by primary income deficits as foreign-owned firms repatriate their profits. The welfare effects of FDI are thus ambiguous. A particularly illustrative example of this phenomenon are the Visegrád 4 (V4) countries (Czech Republic, Hungary, Poland, Slovakia). This paper investigates whether FDI can be beneficial in the presence of profit repatriation using a general equilibrium model calibrated to the V4 economies. Counterfactual simulations suggest that the benefits of FDI outweigh the costs for these countries. On average, a 1% increase in the share of foreign firms is associated with a 0.17% increase in welfare. However, incentivising foreign firms to reinvest more of their profits domestically is, ceteris paribus, welfare-improving. A 10-percentage-point increase in the profit repatriation rate is associated with a 1.06% welfare gain on average.     

Foreign Direct Investment,Financial Development and Their Impact on the GDP Growth in Low-income Countries

ABSTRACT

This essay empirically studies the effects and causal links between foreign direct investment (FDI), financial development (FD) and economic growth. The sample consists of the main economies of low-income countries and the study covers the period 1990–2015. The results of the estimate show that, under certain specific economic conditions, FDI affects positively the level of long-term economic growth; it thus makes it possible to improve the economic situation of these countries. Using Johansen’s cointegration technique, the results find that FD; FDI and GDP growth are cointegrated, that shows the pursuit of the long-term equilibrium relationship between them. The error correction model confirms the existence of a double causal relationship between FDI and GDP growth, and between FD and FDI and between GDP growth and FD.