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Does Foreign Direct Investment (FDI) Benefit Host Countries: Uncovering the

Relationship between FDI, GDP and Capital Formation in Host Countries

Prashant KulkarniAsst. Professor, Indian Business Academy,

Bangalore

Anantha Murthy N.K. Asst. Professor, Indian Business Academy,

Bangalore

International Conference on Recent Developments in Economics, Hotel Hans New Delhi, Sep 8-12, 2008

Foreign Direct Investment Net inflows of investment to acquire a

lasting management interest (10 percent or more of voting stock) in an enterprise operating in an economy other than that of the investor (World Bank)

Critical element in the flow of international capital. Less volatile

Shift towards services sector


Objectives

To examine the trends and directions of FDI flows and stock

To understand the implication of FDI on host countries.

To examine the relation between FDI stock and the GDP growth rate of the country.

To gauge the extent of FDI flows in gross fixed capital formation of the country


Literature Survey Hymer (1960)

eclectic paradigm of FDI theory by focusing on firm specific advantages

Vernon (1966) concept of product life cycle into theories

international trade to explain the existence of international trade, production and consequently capital flows

Dunning (1981, 1986) Extended the framework of the OLI paradigm to

develop the investment development path (IDP) theory.


Contd.. Gastanaga, Nugent, and Pashamova (1998)

Countries with relatively liberalized capital accounts tend to attract more foreign direct investment flows.

Feldstein (2000) Case of risk reduction through free flows in the

international capital by allowing the owners of the capital to diversify their lending and investment

Bosworth and Collins (1999) and Mody and Murshid (2001)

Near unitary correlation between FDI and domestic investment.


Methodology We define Growth as a function of

GROWTH= f(LABOUR, OPENNESS, EXCHANGE, CAPITAL, GOVERNMENT, FDI)

Where GROWTH- Real GDP per capita LABOUR- Labour force in the economy OPENNESS- Export + Imports of the economy / 2 EXCHANGE- Exchange rate CAPITAL- GCF as % of GDP GOVERNMENT- Government expenditure as % of GDP FDI- FDI inflows as % of Gross Capital Formation

International Conference on Recent Developments in

Economics, Hotel Hans New Delhi, Sep 8-12, 2008

The regression equation is GROWTH= α +β0 LABOUR+ β1OPENNESS+ β2 EXCHANGE + β3CAPITAL + β4GOVERNMENT + β5FDI + Error



Our analysis used the T-statistic to test our hypothesis.

We also used the co-relation study to understand the relation between GDP and FDI inward stock and also the relation between FDI inflows and Gross Fixed Capital Formation.

We also made use of bar charts and diagrams apart from the normal tools and mean and standard deviation


Proposition

H0: There is no Impact of FDI on economic growth

H1: There is an Impact of FDI on economic growth.

We further test it for developed and developing countries separately


Data Description

World Investment Reports of 2004 and 2005. (published by United Nations Commission on Trade and Development. )

World Development Indicators World Resources Institute

(earthtrends.wri.org).



Classified the countries into developed and developing countries as per the classification adopted by WDI databases.

The time period of the data is between 1980-2005.

Our sample was initially 85 countries (25 developed and 60 developing). However in some cases, the missing data resulted in a final sample size of 76 countries (25 developed and 51 developing countries).


Results of Analysis

-4.000

-2.000

0.000

2.000

4.000

6.000

8.000

10.000

1 4 7 10 13 16 19 22 25 28 31 34 37 40 43 46 49

Developing countries

Rea

l g

dp

per

cap

ita

Fitted Values

Residuals

Real gdp pc


-2.000

-1.000

0.000

1.000

2.000

3.000

4.000

5.000

1 3 5 7 9 11 13 15 17 19 21 23 25

developed countries

Real

gd

p p

er

cap

ita

Fitted Values

Residuals

Real gdp pc


Correlation TableDeveloping countries

Labour

Openness

Exchange Capital Govt FDI

Labour 1.000

Openness

-0.246

1.000

Exchange

0.002 -0.046 1.000

Capital 0.379 0.189 0.023 1.000

Govt -0.092

0.301 -0.218 -0.234 1.000

FDI -0.010

-0.086 -0.1000 0.157 0.005 1.000

Correlation TableDeveloped countries

Labour

Openness

Exchange Capital Govt FDI

Labour 1.000

Openness

-0.060

1.000

Exchange

0.201 0.610 1.000

Capital -0.157

0.347 0.555 1.000

Govt 0.189 -0.093 -0.384 -0.576 1.000

FDI -0.101

0.278 -0.132 -0.058 -0.072 1.000

Correlation TableReal GDP &FDI as %of GCF

Real GDP per capita

FDI

Real GDP per capita

1.000

FDI 0.163 1.000

Real GDP per capita

FDI

Real GDP per capita

1.000

FDI 0.624 1.000

Developed countries Developing countries


Multiple correlation and coefficient of

Determination

R R2 Adj R2 S.E

0.6626 0.4390 0.3902 1.4332

Multiple correlation and coefficient of Determination

Developed countries Developing countries

R R2 AdjR2

S.E

0.7546

0.5694

0.5107

1.4807

R R2 AdjR2

S.E

0.6670

0.4449

0.2598

0.6605

Multiple Regression Results

Samples Overall

(F-Value)

Constant

(t-Value)

Labour

(t-value)

Openness

(t-Value)

Exchange

(t-Value)

Capital

(t-Value)

Govt

(t-Value)

FDI

(t-Value)

76 Significant at1% los

Significant at1% los




51(Developing)






25(Developed)




Inferences and Scope for Future Work

The results of regression on growth provide indicators of FDI influencing the growth. The influence however seems weak in case of

developing countries. Correlation between FDI and growth is

stronger in developed world as compared to developing world

Capital formation does not show any significant relationship with economic growth International Conference on Recent Developments in Economics, Hotel Hans New Delhi, Sep 8-12,

2008

Download - Fdi and domestic capital formation

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