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Openness and Foreign Direct Investment: The Role of Free Trade Agreements in Latin America

Ponce, Aldo Fernando (2006): Openness and Foreign Direct Investment: The Role of Free Trade Agreements in Latin America.

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Abstract

This paper sheds lights the on the performance of Latin American governments in attracting foreign direct investment (FDI) through trade policies -- specifically by signing free trade agreements with other countries. The relationship between FDI and trade for Latin America has previously been analyzed. According to these studies, the relationship between the degree of “openness” (imports plus exports divided by the domestic product) and FDI has not been conclusive. At the same time, the effect of specific trade policies on the behavior of FDI inflows has not been extensively studied. Some state policies on trade could produce a significant impact in attracting FDI inflows. Specifically, through the implementation of several free trade agreements, several Latin American countries have been able to attract greater inflows of foreign direct investment. The implementation of these free trade agreements was part of a more general plan of economic reforms that Latin American countries launched since the mid-1980s. Those countries that signed more free trade agreements – or signed them with the largest economies in the world –increased their effectiveness in attracting FDI inflows. I test the impact of this policy on the behavior of FDI inflows through a panel data model (with feasible generalized least squares estimators) for seventeen Latin American countries and for the period ranging from 1985 to 2003.

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