The remarkable growth in FDI has attracted the attention of many researchers, but there is a debate as to whether inward FDI has a positive or negative effect on economic growth. Inward FDI can make a positive contribution to the host country by supplying advanced technology, product and process innovations (Dunning, 1994). Furthermore, inward FDI may create forward and backward linkages as foreign firms transfer technology to local suppliers of intermediate goods and customers (Blomstrom and Kokko, 1997; Saggi, 2000; Zhang, 2001; OECD, 2002). Inward FDI may enhance human capital in the host country by introducing the host country management practices, organizational and marketing techniques (de Mello, 1999; Ericsson and Irandoust, 2001).
Alternatively, there is a risk that foreign technology and working practices cannot accommodate local capacities and needs (Dunning, 1994). Additionally, inward FDI may transfer the host country’s advanced technology to the home country, resulting in a reduction in the comparative advantages of the host country (Dunning, 1994). Another potential drawback is that foreign firms might out-compete local firms and drive local firms out of business, which might lead to foreign firms establish monopolies and raise prices in the host country’s market (Blomstrom and Kokko, 1997; Hill, 2009). Moreover, the balance of payments in the host country may deteriorate if the repatriated profits to the home country are more than the initial capital investment in the host country (Hill, 2009) or if inward FDI promotes imports and limits exports in the host country (Dunning, 1994; Hill, 2009).
There is a wide range of literature examining the causal relationship between inward FDI and economic growth in developing countries (see Herzer et al., 2008 for an overview). However, studies on developed countries are limited (Ericsson and Irandoust, 2001; Ekanayake et al., 2003; Qi, 2007; Iyer et al., 2009).
Using secondary data from World Bank or OECD sources, the study would use statistical and econometric analysis to establish the causal links between inward FDI and economic growth in developed countries. Previous studies apply causality tests based on cointegration test and error correction model (Engle and Granger 1987) or causality test developed by Toda and Yamamoto (1995). This study would extend prior work to ascertain whether the FDI-growth relationship depends on the type of FDI (technology seeking FDI, resource seeking FDI etc), different industries and host country characteristics such as labour market conditions.
Blomstrom, M. and A. Kokko (1997) How foreign investment affects host countries. Policy Research Working Paper 1745. Washington D C, The World Bank.
de-Mello, L. R. (1999) Foreign direct investment-led growth: evidence from time-series and panel data. Oxford Economic Papers 51: 133-151.
Dunning, J. H. (1994) Re-evaluating the benefits of foreign direct investment. Transnational Corporations 3: 23-52.
Ekanayake, E. M., R. Vogel, et al. (2003) Openness and economic growth: empirical evidence on the relationship between output, inward FDI and trade. Journal of Business Strategies 20: 59-72.
Engle, R.F. and C.W.J. Granger (1987) Cointegration and error correction: representation, estimation and testing. Econometrica 55: 251–276.
Ericsson, J. and M. Irandoust (2001) On the causality between foreign direct investment and output: a comparative study. The International Trade Journal 15: 1-26.
Herzer, D., S. Klasen, et al. (2008) In search of FDI-led growth in developing countries: the way forward. Economic Modelling 25: 793-810.
Hill, C. W. L. (2009) International business: competing in the global market place. London, McGraw-Hill.
Iyer, K. G., A. N. Rambaldi, et al. (2009) How trade and foreign direct investment affect the growth of a small but not so open economy: Australia? Applied Economics 41: 1525-1532.
OECD (2002) Foreign direct investment for development: maximising benefits, minimising costs. Paris, Organisation for Economic Co-operation and Development.
Qi, L. (2007) The relationship between growth, total investment and inward FDI: evidence from time series data. International Review of Applied Economics 21: 119-133.
Saggi, K. (2000) Trade, foreign direct investment, and international technology transfer: a survey. Policy Research Working Paper 2349. Washington D C, The World Bank.
Toda, H.Y. and T. Yamamoto (1995) Statistical inference in vector autoregressions with possibly integrated processes. Journal of Econometrics 66: 225–250.
Zhang, K. H. (2001) Does foreign direct investment promote economic growth? Evidence from East Asia and Latin America. Contemporary Economic Policy 19: 175-185.
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