The Determinants of FDI

Hot of the press at the NBER (abstract; emphasis added):

Determinants of Foreign Direct Investment

Empirical studies of bilateral foreign direct investment (FDI) activity show substantial differences in specifications with little agreement on the set of covariates that are (or should be) included. We use Bayesian statistical techniques that allow one to select from a large set of candidates those variables most likely to be determinants of FDI activity. The variables with consistently high inclusion probabilities are traditional gravity variables, cultural distance factors, parent-country per capita GDP, relative labor endowments, and regional trade agreements. Variables with little support for inclusion are multilateral trade openness, host country business costs, host-country infrastructure (including credit markets), and host-country institutions. Of particular note, our results suggest that many covariates found significant by previous studies are not robust.

One of the dirtier secrets about econometric research – for that matter any research that resorts to statistical methods – is that it’s possible for unscrupulous researchers to be selective about the variables (or proxies) included in their model, and thus influence the result. Model selection based on ideological grounds are as a big a culprit.

Which makes this particular piece of research highly relevant – if there’s a general consensus on the relevant models and the variables of interest to FDI, its harder to bias the results, deliberately or otherwise. It should also serve as a quick guide to future research, on the variables (and proxies) that should be targeted for collection and estimation. In short, it provides further rigour to the FDI literature.

Turning to the paper itself, I must admit the finding on host country institutions and infrastructure surprised me – I would have thought those mattered. I don’t know that I’d quibble over the rest.

In case you’re wondering, “gravity” variables simply means FDI flows are bigger for countries that are bigger and closer together.

Technical Notes:

Blonigen, Bruce A. & Jeremy Piger, "Determinants of Foreign Direct Investment", NBER Working Paper No. 16704, January 2011