Foreign direct investment and institutional quality: empirical evidence from South America

Abstract

Purpose The purpose of this paper is to investigate the effect of institutional quality on foreign direct investment (FDI) flows in South America. Design/methodology/approach The study uses two-stage least squares (2SLS) and fixed effect ordinary least squares regression analyses to examine the relationship between institutional quality and FDI in South America. Findings The study finds a significant positive relationship between institutional quality index and FDI. This implies that improvements in the institutional quality relate to increases in the flow of FDI to South America. Domestic capital, GDP per capita growth, and trade positively relate to FDI. However, the coefficient of trade is not significant. This implies that increases in these variables relate to increases in FDI flows to South America. Practical implications The study recommends that quality of institutions matter to the flow of FDI and therefore, efficient institutional reforms should be a priority for policymakers as this creates a conducive investment environment to attract FDI in South America. Further, policies that are focused on promoting competition, open market, and effective non-corrupt public institution as well as open and transparent legal and regulatory regimes, and effective delivery of government services should be the priority of policymakers in South America (Mishra and Daly, 2007). Originality/value The study uses a single measure of institutional quality based on a broad set of institutional indicators. This broad measure of institutional quality differs from the available studies that mainly focused on single aspects of institutional quality, that is, either corruption, governance, or political risk.

Institutional quality and foreign direct investment in Ghana

“…The finding thus confirms the institutional theory by North (1990) highlighting the significant link between institutional quality and FDI inflows. The result is also consistent with prior empirical findings (Ajide et al, 2014;Esew and Yaroson, 2014;Owusu-Nantwi, 2019). GDP per capita growth is positively associated with FDI suggesting that economic growth motivates FDI inflows.…”

“…The results of the long-run estimates indicate a positive significant relationship between institutional quality and FDI, implying that strong institutions have substantial effects on FDI inflows in Ghana. This evidence lends support to the argument that effective institutional quality creates a conducive investment climate impacting positively on FDI inflows (Peres et al, 2018;Owusu-Nantwi, 2019). The significant impact of institutional quality on FDI can be attributed to the stringent efforts undertaken by the Government of Ghana in recent years in strengthening Ghana's institutional structures.…”

“…Foreign direct investment (FDI) is one of the key factors driving economic development. In developing and emerging economies, FDI attraction is considered as a part of the economic development strategies (Owusu-Nantwi, 2019). The importance of FDI is manifested by increase in technological and labor transfer, capital deepening, enhanced international trade and human capital development (Javorcik, 2004;Yakubu and Mikhail, 2019).…”

“…In the past decades, the role of institutional quality in motivating FDI inflows has received a great deal of attention (Daude and Stein, 2007;Owusu-Nantwi, 2019). Several empirical findings lend strong support that the quality of host country's institutions attracts FDI (Bengoa and Sanchez-Robles, 2005;Saidi et al, 2013).…”

“…Given that institutions play a vital role in attracting FDI, research regarding institutional drivers of FDI has become increasingly relevant. Several empirical studies have delved into the effect of institutional factors on FDI for different countries or regions and found inconclusive results (Jadhav, 2012;Esew and Yaroson, 2014;Gobinda and Haider, 2014;Ullah and Khan, 2017;Owusu-Nantwi, 2019). While some studies evidenced a positive significant relationship between institutional variables and FDI, others have found a negative insignificant relationship.…”