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Do Institutions Matter for Foreign Direct Investment?

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Abstract

Using a panel of 69 countries during 1981 and 2005, we investigate the role of institutions in determining foreign direct investment (FDI). We find that institutions are a robust predictor of FDI and that the most significant institutional aspects are linked to propriety rights. Using a novel data set, we also study the impact of institutions on FDI at the sectoral level. We find that institutions do not have a significant impact on FDI in the primary sector but that institutional quality matters for FDI in manufacturing, and particularly in services.

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Notes

  1. An index that only captures a single aspect of property rights quality will likely underestimate the overall role of property rights security on determining FDI.

  2. Asiedu (2002) refers to the case of Angola. Angola ranks first in attracting FDI in Sub Saharan Africa, but is also a highly unstable country. FDI to Angola is mainly driven by the availability of oil and the fact that the investment returns are sufficiently high to more than compensate for the risk of political instability. Asiedu (2002) hence concludes that political risk and expropriation risk are less relevant for primary FDI, particularly in the oil sector.

  3. The appendix provides details on the definition of these indicators and how they are constructed.

  4. The lower significance of property rights security in some model specifications may be due to a certain degree of collinearity between the property rights security and other institutional variables, in particular with Polit and Demo. A correlation matrix between various institutional variables and FDI is provided in the “Appendix”.

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Authors and Affiliations

  1. Department of Economics, University of Glasgow, Glasgow, Scotland, UK

    Fathi A. Ali, Norbert Fiess & Ronald MacDonald

Authors
  1. Fathi A. Ali
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  2. Norbert Fiess
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  3. Ronald MacDonald
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Correspondence to Fathi A. Ali.

Appendix

Appendix

Table 7 List of countries included in the empirical analysis
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Table 8 Definition of variables and data sources
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Ali, F.A., Fiess, N. & MacDonald, R. Do Institutions Matter for Foreign Direct Investment?. Open Econ Rev 21, 201–219 (2010). https://doi.org/10.1007/s11079-010-9170-4

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