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Does inward foreign direct investment promote exports?

by Obiora G. Okechukwu

Does inward foreign direct investment (FDI) benefit the host country? The answer to this question is important. It is important for the welfare of workers, households, and communities in developing and developed economies. The answer to this question also matters to policymakers who have over the past decades increasingly offered foreign investors different location incentives such as trade concessions, tax breaks and financial assistance in a bid to attract more FDI to their host countries or regions.

The enthusiasm of policymakers towards FDI attraction is not unjustified. First, FDI is a special type of foreign capital. In addition to financial capital, FDI may bring to the host country superior (or at least different) technology, management skills, and experience in the global market. Perhaps more than any other source of foreign capital, FDI has the potential of creating employment opportunities, stimulating domestic productivity, boosting economic growth and export performance in the host country. As noted by Moran et al. (2005), the conventional wisdom from the Washington consensus was that FDI is ‘unequivocally good’ for the host country provided that the foreign investors do not pollute the environment or commit human rights violations. However, despite the potential contributions of FDI to the economic development of the host country, and the attendant optimism of policymakers, there is little consensus in the empirical literature on the actual impact of FDI. Available evidence suggests that the answer to the question, ‘Does FDI benefit the host country’ is not obvious, and far from settled.

Nowhere is the question about the contributions of FDI more important than in developing countries in general, and sub-Saharan Africa in particular. Plagued with unfavourable characteristics such as a low level of capital, a relatively unsophisticated manufacturing base, low productivity, reliance on raw materials, exports and a large market, FDI can provide a lever towards increased productivity, technological and export upgrading, especially for developing countries. Indeed, FDI features prominently in the economic development and export-led growth strategies of newly industrialised countries like China and India. Hence, it is worth asking whether FDI has the potential to accomplish similar economic outcomes in sub-Saharan Africa.

In a recent paper (Okechukwu et al., 2018) published in the Journal of Economic Studies (co-authored with my supervisors, Prof. Glauco De Vita and Dr Yun Luo) and largely based on my PhD findings, we investigated the impact of inward FDI on Nigeria’s export performance. Nigeria makes for an interesting case to study the FDI-export nexus. In the past four decades, Nigeria has consistently remained one of the top recipients of FDI in Africa and has been one of its top exporters. Past research on the FDI-export nexus in Nigeria has examined the impact of FDI on exports at the aggregate and national level. However, analysis at this level of aggregation may mask differential effects across sectoral FDI flows, especially across different sectoral export categories thus failing to provide results that can be relied on to guide policy making, as there is a qualitative difference between the different types of FDI and export categories. Accordingly, in studying the FDI-export relationship, it important to ask: which FDI? Which exports?

We answer this question by examining the disaggregated impact of sectoral (primary, manufacturing and services) FDI on both oil and non-oil exports. Our results indicate that aggregate FDI has a positive effect on total exports. However, when exports are disaggregated into oil and non-oil exports, we find that the positive relationship holds only for oil exports. On sectoral FDI, we find that primary and manufacturing sector FDI has positive effect on Nigeria’s oil exports but not non-oil exports. Service sector FDI does not appear to have any effect on any of the either oil or non-oil exports.

What can policymakers learn from our findings? First, the evidence suggests that different types of FDI may lead to different economic outcomes. Therefore, there is need to reframe the question in policy discussion. Instead of asking, ‘Does inward FDI promote exports?’, we should ask ‘Which type of FDI promotes which type of Exports?’. Reframing the question as such accounts for the qualitative differences between the different types of FDI, differences that determine the type and magnitude of the impact that FDI has across different export categories. For example, primary sector FDIs to a developing country like Nigeria are often resource-seeking and tend to have fewer linkages with the rest of the economy than, say, manufacturing and service sector FDI. Hence, if policymakers are interested in meaningful and policy-relevant answers about the effect of FDI, the appropriate approach will be to account for these sectoral differences at a disaggregated level.

 


 

References

Moran, T. H., Graham, E. M., and Blomström, M. (2005) ‘Conclusions and Implications for FDI Policy in Developing Countries, New Methods of Research, and a Future Research Agenda’. in Does Foreign Direct Investment Promote Development ed. by Moran, T.H.,  Graham, E. M and Blomström, M. Washington: Institute for International Economics and Center for Global Development, pp. 375-395.

Okechukwu, O. G., De Vita, G., and Luo, Y. (2018) ‘The Impact of FDI on Nigeria’s Export Performance: A Sectoral Analysis’. Journal of Economic Studies, 45(5), pp. 1088-1103.

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