Environmental and Resource Economics

, Volume 43, Issue 2, pp 231–256 | Cite as

Agglomeration Effects in Foreign Direct Investment and the Pollution Haven Hypothesis



Does environmental regulation impair international competitiveness of pollution-intensive industries to the extent that they relocate to countries with less stringent regulation, turning those countries into “pollution havens”? We test this hypothesis using panel data on outward foreign direct investment (FDI) flows of various industries in the German manufacturing sector and account for several econometric issues that have been ignored in previous studies. Most importantly, we demonstrate that externalities associated with FDI agglomeration can bias estimates away from finding a pollution haven effect if omitted from the analysis. We include the stock of inward FDI as a proxy for agglomeration and employ a GMM estimator to control for endogenous time-varying determinants of FDI flows. Furthermore, we propose a difference estimator based on the least polluting industry to break the possible correlation between environmental regulatory stringency and unobservable attributes of FDI recipients in the cross-section. When accounting for these issues we find robust evidence of a pollution haven effect for the chemical industry.


Agglomeration effects Congestion effects Environmental regulation Foreign direct investment German manufacturing Panel data Pollution havens 

JEL Classification

F18 F23 Q52 


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Copyright information

© Springer Science+Business Media B.V. 2008

Authors and Affiliations

  1. 1.Department of EconomicsUniversidad Carlos III de MadridGetafe (Madrid)Spain
  2. 2.Department of EconomicsDuke UniversityDurhamUSA

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