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Policy Uncertainty and Foreign Direct Investment

Author

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  • Sangyup Choi

    (Yonsei University)

  • Davide Furceri

    (IMF)

  • Chansik Yoon

    (Princeton University)

Abstract

While foreign direct investment (FDI) is known to be the most stable type of international capital flows, it may be particularly susceptible to heightened uncertainty because of its high fixed costs. We investigate the effect of domestic policy uncertainty on FDI inflows into 16 host countries using the OECD bilateral FDI panel dataset and the Economic Policy Uncertainty (EPU) index from 1985 to 2013. The bilateral structure of the data enables us to disentangle pull factors of FDI from its push factors, thereby obtaining a cleaner causal identification of the higher domestic policy uncertainty effect. To alleviate remaining endogeneity concerns, we use the timing of “exogenous” elections as an instrument. We find that domestic policy uncertainty in a host country robustly reduces the FDI inflows, with the effect being larger in countries with less financial development.

Suggested Citation

  • Sangyup Choi & Davide Furceri & Chansik Yoon, 2020. "Policy Uncertainty and Foreign Direct Investment," GRU Working Paper Series GRU_2020_007, City University of Hong Kong, Department of Economics and Finance, Global Research Unit.
    • Handle: RePEc:cth:wpaper:gru_2020_007
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    JEL classification:

    • F21 - International Economics - - International Factor Movements and International Business - - - International Investment; Long-Term Capital Movements
    • F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements
    • F42 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - International Policy Coordination and Transmission

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