Title: Aid and foreign direct investment: substitutes, complements or neither?

Authors: Petr Janský

Addresses: Faculty of Social Sciences, Institute of Economic Studies, Charles University in Prague, Opletalova 26, 110 00, Praha 1, Czech Republic

Abstract: This paper examines whether official aid (Aid) and Foreign Direct Investment (FDI), defined here as shares of recipients' gross domestic product, are substitutes, complements or neither. We hypothesise that there is no direct relationship between the two flows. We explain how we address endogeneity and heterogeneity issues through a number of econometric methods. Applying standard panel estimators on data for around 180 countries from 1971 to 2007, Aid and FDI seem to be substitutes even after controlling for Gross Domestic Product per Capita (GDPc). However, this correlation is not significant once we allow for parameter heterogeneity and common correlated effects. When we allow for endogeneity we find that there is no causal relationship between Aid and FDI, and that GDPc does impact on Aid, but not on FDI. We conclude that there is no evidence of causal relationship between Aid and FDI.

Keywords: official aid; FDI; foreign direct investment; global markets; development; substitutes; complements; endogeneity; econometrics; gross domestic product; GDP per capita; GDPc.

DOI: 10.1504/IJTGM.2012.048528

International Journal of Trade and Global Markets, 2012 Vol.5 No.2, pp.119 - 132

Received: 05 Feb 2011
Accepted: 30 Jul 2011

Published online: 31 Dec 2014 *

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