Investigating geography and institutions as determinants of foreign direct investment in Africa using panel data

Abstract

This article uses a cross-country econometric approach to identify the determinants for foreign direct investment (FDI) in Africa. The contribution is 3-fold. Firstly, we recognize that the estimation techniques used elsewhere, such as ordinary least squares, may be flawed. We therefore use a dynamic one-step generalized method of moments (GMM) estimator due to Arellano and Bond (1991). The GMM-estimates identified a number of robust determinants of FDI, namely government consumption, inflation rate, investment, governance (political stability, accountability, regulatory burden, rule of law) and initial literacy. It is concluded that geography does not seem to have a direct influence on FDI flows to Africa. Neither market-seeking nor re-exporting motives of FDI seem to dominate, with different policy instruments being significant in the different specifications. This does not discount the importance of good policies, but probably indicates the importance of good policies made by good institutions. Institutions, in the form of political stability showed up as a significant determinant of FDI.

Expropriation risk and FDI in developing countries: Does return of capital dominate return on capital?

“…For example, Jensen (2003) finds that expropriation has an insignificant effect on FDI after controlling for democratic institutions. In a sample of African countries, Naudé and Krugell (2007) also find that their measure of expropriation risk has no effect on FDI after controlling for host-country income, inflation, and trade openness. Adam and Filippaios (2007) find a negative effect-expropriation risk reduces FDI-but only in countries where civil liberties are sufficiently strong.…”

“…Other empirical investigations, however, find no (or weak) evidence linking the strength of contract enforcement to FDI (see, for example, Asiedu, 2002;Bénassy-Quéré et al, 2007;Busse and Hefeker, 2007;Jensen, 2003;Naudé and Krugell, 2007;Sánchez-Martin et al, 2014). 6 The latter body of work finds that measures of institutional quality (alternatively referred to as "political risk variables") other than expropriation risk-such as corruption, regulatory burden, and democratic accountability in establishing laws-are more important determinants of FDI inflows.…”

“…National income normalization is adopted in much of the empirical FDI literature, where the dependent variable is either net or gross FDI expressed as a share of gross domestic product (GDP) or gross national income (GNI) (e.g., Ali et al, 2010;Addison and Heshmati, 2003;Asiedu, 2002Asiedu, , 2006Asiedu et al, 2009;Asiedu and Lien, 2011;Adam and Filippaios, 2007;Gastanaga et al, 1998;Méon and Sekkat, 2004;Naudé and Krugell, 2007;Noorbakhsh et al, 2001;Sánchez-Martin et al, 2014). Other empirical FDI studies, however, normalize by country-year-specific population and use FDI (net or gross) per capita as the dependent variable (e.g., Chakrabarti, 2001;Harms and Ursprung, 2002;Kinoshita and Campos, 2003;Schneider and Frey, 1985).…”

“…36 An extensive literature has examined how FDI is influenced by various categories of political risk falling under this category. Notable examples include government corruption (Wei, 2000;Egger and Winner, 2005;Hakkala et al, 2008), uncertainty associated with various types of political regimes (Jensen, 2003;Li and Resnick, 2003;Busse, 2004;Kolstad and Villanger, 2008;Wisniewski and Pathan, 2014), and regulatory risk such as onerous or nontransparent licensing procedures (Gastanaga et al, 1998;Naudé and Krugell, 2007). 27 3.…”

Development Progress in Sub-Saharan Africa: Lessons from Botswana, Ghana, Mauritius, and South Africa

“…The economics literature suggests that the most important causes of this sluggishness are due to various combinations of policy failures-or policy 'syndromes' 3 (e.g., Ndulu et al 2007aNdulu et al , 2007b, institutional weaknesses (e.g., Birdsall 2007;Sachs et al 2004), adverse history (e.g., Acemoglu et al 2001Acemoglu et al , 2002Nunn 2008), political instability and civil conflict (Easterly and Levin 1997;Collier and Hoeffler, 2004;2005), and geographical constraints (e.g., Gallup et al 1999;Naudé 2004Naudé , 2009. A large number of studies have also been concerned with sub-Saharan Africa's trade orientation and performance, and the impact of globalization on Africa-including consideration of foreign direct investment and regional integration (e.g., Carrère 2004;Foster 2006;Fosu 1990;Naudé and Krugell 2007).…”