How Does Corruption Influence the Effect of Foreign Direct Investment on Economic Growth?

Okada, Keisuke and Samreth, Sovannroeun (2010): How Does Corruption Influence the Effect of Foreign Direct Investment on Economic Growth?

Abstract

We investigate the effect of Foreign Direct Investment (FDI) on economic growth by employing the data of 132 countries for the period from 1995 to 2008, considering the role of corruption in each country as an absorptive factor. The estimation results indicate that, although FDI alone does not promote economic growth, it has a significant effect on economic growth if the interaction term between FDI and corruption is considered. The threshold level of corruption separating the negative and positive effects of FDI on economic growth is approximately in the 10th percentile from the least corrupt countries. The existence of a corruption threshold implies a counter-intuitive proposition: that FDI inhibits economic growth in countries where corruption is below a corruption threshold, and promotes economic growth in countries where corruption is above the threshold. Our results are robust even if we use different corruption indices and conduct the instrumental variable estimation to address endogeneity problems.

• Item Type: MPRA Paper
• Language: English
• Keywords: Foreign Direct Investment; Economic Growth; Corruption
• Subjects: D - Microeconomics > D7 - Analysis of Collective Decision-Making > D73 - Bureaucracy ; Administrative Processes in Public Organizations ; Corruption; F - International Economics > F2 - International Factor Movements and International Business > F23 - Multinational Firms ; International Business; F - International Economics > F4 - Macroeconomic Aspects of International Trade and Finance > F43 - Economic Growth of Open Economies

References

[1] Aitken, B. J., Harrison, A. E., 1999. Do domestic firms benefit from direct foreign investment? evidence from Venezuela. American Economic Review 89, 605-618. [2] Alfaro, L., Chanda, A., Kalemli-Ozcan, S., Sayek, S., 2004. FDI and economic growth: the role of local financial markets. Journal of International Economics 64, 89-112. [3] Alfaro, L., Kalemli-Ozcan, S., Volosovych, V., 2008. Why doesn’t capital flow from rich to poor countries? an empirical investigation. Review of Economics and Statistics 90, 347-368. [4] Azman-Saini, W. N. W., Law, S. H., Ahmad, A. H., 2010. FDI and economic growth: new evidence on the role of financial markets. Economics Letters 107, 211-213. [5] Balasubramanyam, V. N., Salisu, M., Sapsford, D., 1996. Foreign direct investment and growth in EP and IS countries. Economic Journal 106, 92-105. [6] Barreto, R. A., 2000. Endogenous corruption in a neoclassical growth model. European Economic Review 44, 35-60. [7] Barro, R. J., 1991. Economic growth in a cross section of countries. Quarterly Journal of Economics 106, 407-443. [8] Barro, R. J., Lee, J-W., 1994. Sources of economic growth. Carnegie-Rochester Conference Series on Public Policy 40, l-46. [9] Barro, R. J., Lee, J-W., 1996. International measures of schooling years and schooling quality. American Economic Review 86, 218-223. [10] Barro, R. J., Sala-i-Martin, X., 2004. Economic Growth, Second Edition. McGraw-Hill, New York, NY. [11] Bengoa, M., Sanchez-Robles, B., 2003. Foreign direct investment, economic freedom and growth: new evidence from Latin America. European Journal of Political Economy 19, 529-545. [12] Billger, S. M., Goel, R. K., 2009. Do existing corruption levels matter in controlling corruption? cross-country quantile regression estimates. Journal of Development Economics 90, 299-305. [13] Borensztein, E., De Gregorio, J., Lee, J-W., 1998. How does foreign direct investment affect economic growth? Journal of International Economics 45, 115-135. [14] Easterly, W., Levine, R., 1997. Africa’s growth tragedy: policies and ethnic divisions. Quarterly Journal of Economics 112, 1203-1250. [15] Egger, P., Winner, H., 2005. Evidence on corruption as an incentive for foreign direct investment. European Journal of Political Economy 21, 932-952. [16] Ehrlich, I., Lui, F. T., 1999. Bureaucratic corruption and endogenous economic growth. Journal of Political Economy 107, S270-S293. [17] Ellis, C. J., Fender, J., 2006. Corruption and transparency in a growth model. International Tax and Public Finance 13, 115-149. [18] Grossman, G. M., Helpman, E., 1991 Innovation and Growth in the Global Economy. MIT Press, Cambridge, MA. [19] Haddad, M., Harrison, A. 1993. Are there positive spillovers from direct foreign investment? evidence from panel data for Morocco. Journal of Development Economics 42, 51-74. [20] Hall, R. E, Jones, C. I., 1999. Why do some countries produce so much more output per worker than others? Quarterly Journal of Economics 114, 83-116. [21] Khamfula, Y., 2007. Foreign direct investment and economic growth in EP and IS countries: the role of corruption. World Economy 30, 1843-1854. [22] Kokko, A., Technology, market characteristics, and spillovers. Journal of Development Economics 43, 279-293. [23] La Porta, R., Lopez-de-Silanes, F., Shleifer, A., Vishny, R., 1999. The quality of government. Journal of Law, Economics and Organization 15, 222-279. [24] Levine, R., Loayza, N., Beck, T. 2000. Financial intermediation and growth: causality and causes. Journal of Monetary Economics 46, 31-77. [25] Lucas, R. E., 1990. Why doesn’t capital flow from rich to poor countries? American Economic Review Papers and Proceedings 80, 92-96. [26] Mauro, P. 1995. Corruption and growth. Quarterly Journal of Economics 110, 681-712. [27] Méndez, F., Sepúlveda, F., 2006. Corruption, growth and political regimes: cross country evidence. European Journal of Political Economy 22, 82-98. [28] Serra, D., 2006. Empirical determinants of corruption: a sensitivity analysis. Public Choice 126, 225-256. [29] Staiger, D., Stock, J. H., 1997. Instrumental variables regression with weak instruments. Econometrica 65, 557-586. [30] Stock, J. H., Yogo, M., 2005. Testing for weak instruments in linear IV regression. In Andrews, D. W. K., Stock, J. H. (eds.) Identification and Inference for Econometric Models: Essays in Honor of Thomas Rothenberg. Cambridge University Press, Cambridge, 80-108. [31] Treisman, D., 2000. The causes of corruption: a cross-national study. Journal of Public Economics 76, 399-457. [32] Wei, S-J., 2000. How taxing is corruption on international investors? Review of Economics and Statistics 82, 1-11.