Foreign direct investment and its relationship with financial factors: linking macro with micro perspectives

This thesis aims to enhance our comprehension of the intricate association between Foreign Direct Investment (FDI) and financial factors at different levels of development (Developed, Developing and Least Developed). The research undertakes a comprehensive analysis of various facets of FDI, meticulously interwoven by a unifying element of financial factors, with the objective of identifying motivations operating at both country (macro) and firm (micro).

The thesis includes three empirical studies on FDI. The first empirical chapter (Chapter 4) investigates the broad four-dimensional determinants of FDI, namely economic, regulatory, institutional and financial factors. Panel data techniques and Extreme Bound Analysis (EBA) confirm that each of these factors significantly influences the FDI decision. A country genuinely seeking FDI can identify factors, such as openness to trade, inflation, economic freedom, banking sector strength among many others, and develop policies around them to increase their inflows. The chapter contributes to existing literature by expanding the realms of potential determinants across the four dimensions.

The second empirical chapter (Chapter 5) extends the study by focusing on financial factors. The study employs panel data techniques along with Error Correction Model (ECM), including Mean Group (MG) and Pooled Mean Group (PMG). These models throw light on the temporal impact of potential determinants. The study shows that while economic, regulatory and institutional factors are significant in both the long and short run, financial factors are significant only in the long run. This finding is remarkable since it shows that financial factors are different from the others. Any short-term financial fluctuation is easily overlooked in the foreign investment decision, as long as long-term financial stability is achieved. The contribution of this chapter is two-fold, while it explores financial determinants, the methodology also allows it to consider impact on both, the short and long term.

The third empirical chapter (Chapter 6) focuses on India and analyses foreign investments at firm level. India has received massive FDI over the years and represents a developing economy, allowing generalisations and deeper insights into features that are considered ideal to receive foreign investments at this level of development. Logistic regression and General Method of Moments (GMM) confirm that financial factors such as profitability and gearing; and non-financial factors such as age and industry significantly influence the FDI decision. The chapter makes several contributions. Firstly, it combines macro with micro motivations, focussing on Indian firms. Furthermore, using advanced empirical analysis, the study finds strong evidence of financial motivations for the FDI decision.