FDI and economic growth : the role of stock market liberalization and trade liberalization

Abstract

[ACCESS RESTRICTED TO THE UNIVERSITY OF MISSOURI AT REQUEST OF AUTHOR.] This paper analyzes the effect of stock market liberalization and trade liberalization on the relationship between FDI and economic growth using the data of 124 countries for the period of 1980 to 2005. To this end, I, for the first time, incorporate the official stock market liberalization date from Bekaert et al. (2005) and the trade liberalization date from Warcziag and Welch (2003) into the model of previous FDI studies. I use my own framework to investigate the effect of stock market liberalization and trade liberalization. First, I compare the Open Group, which has a liberalized stock market or trade system, with the Closed Group, which do not have a liberalized stock market or trade system. Second, by introducing the stock market liberalization date dummy and trade liberalization date dummy into the regression model for the Open Group, I directly estimate the liberalization effects on the relationship between FDI and growth. The main findings of this paper are as follows. First, stock market liberalization does not have a significant effect on the relationship between FDI and economic growth; the effect of FDI in Open Group, which is on the whole insignificant to growth, is the same as that of FDI in Closed Group. In addition, the interaction term between FDI and the stock market liberalization date dummy also does not have any significant relationship with economic growth. The effect of both M&A FDI and Greenfield FDI are also not influenced by stock market liberalization. The second finding is that trade liberalization has a significantly positive effect on the relationship between FDI and economic growth; FDI in the Trade Open Group shows a significant relationship with economic growth. In addition, the interaction term between FDI and trade liberalization for Trade Open Group I also shows a significant relationship with economic growth. The third finding is that the positive effect of FDI on growth after trade liberalization comes from Greenfield FDI, not from M&A FDI. This means that the effect of Greenfield FDI on growth coincides with that of FDI. These results are also robust when either a fixed effect or a random effect regression with AR (1) and a GLS are conducted to correct for serial correlation and heteroskedasticity problems. Additionally, this paper finds that exports and imports after trade liberalization play an important role in enhancing the effect of FDI on economic growth for the Trade Open Group. New FDI with new technology and new knowledge which are brought by exports and imports into a host country after trade liberalization seems to contribute to economic growth.