Environmental regulation and FDI: Mergers and Acquisitions versus Greenfield Investment

This paper investigates the impact of environmental regulation (ER) on foreign direct investment (FDI) location decisions, using a gravity model covering the period 2003–2018. We examine how ER in both origin and destination countries influences bilateral FDI flows, distinguishing between greenfield (GF) investments and cross-border mergers and acquisitions (M&As). To our knowledge, this is the first study of FDI location decisions to jointly analyse the responses of bilateral M&A and GF projects to ER across a large sample of developed and developing countries and manufacturing industries. Overall, we find no consistent evidence supporting either the pollution haven hypothesis (PHH) or the green haven hypothesis (GHH) for total FDI. However, results differ by mode of investment: stricter ER in the origin country encourages outward M&As, but has no significant effect on GF projects. Conversely, ER in host countries appears to exert limited pull effects. Further analysis by sector (clean versus dirty industries) and by country income level reveals important heterogeneity in these effects. For pollution-intensive sectors, tighter regulation in high-income countries is associated with greater outward M&A activity and GF investment directed toward low- and middle-income hosts-an allocation consistent with the PHH. In contrast, in clean industries, GF investment is positively associated with stricter ER in the origin country, lending support to the GHH. Taken together, these results suggest that stricter ER need not deter investment, especially in clean industries or via GF projects; however, in pollution-intensive activities, reallocation through cross-border M&As toward low- and middle-income countries remains a concern.