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Into the Allocation Puzzle - A Sectoral Analysis

This paper assesses whether the allocation puzzle - the tendency for capital to flow to countries with relatively low productivity growth - is observed for foreign direct investment (FDI) flows, which should be particularly sensitive to productivity prospects. We look both at aggregate FDI flows and, using a new data set, at FDI flows into the main economic sectors. We make three points. First, we do not find evidence of an allocation puzzle for aggregate FDI flows. Second, we refine the aggregate result and document substantial sectoral heterogeneity. An allocation puzzle is observed in the agriculture, construction, mining/petroleum/utilities and tourism sector. By contrast, we show that countries with faster productivity growth in manufacturing attract more investment in that sector. The link is even stronger for service sectors. Third, we document a role for financial openness: a country with fast productivity growth draws in more FDI into its service sectors only when it is financially open. We conclude with a discussion of some tentative explanations for the results.

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Paper provided by Swiss National Bank, Study Center Gerzensee in its series Working Papers with number 10.02.

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Length: 39 pages
Date of creation: Oct 2010
Date of revision:
Handle: RePEc:szg:worpap:1002
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  1. Eduardo Borensztein & Jose De Gregorio & Jong-Wha Lee, 1995. "How Does Foreign Direct Investment Affect Economic Growth?," NBER Working Papers 5057, National Bureau of Economic Research, Inc.
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  13. Herzer, Dierk & Klasen, Stephan & Nowak-Lehmann D., Felicitas, 2008. "In search of FDI-led growth in developing countries: The way forward," Economic Modelling, Elsevier, vol. 25(5), pages 793-810, September.
  14. Christopher D. Carroll & Olivier Jeanne, 2009. "A Tractable Model of Precautionary Reserves, Net Foreign Assets, or Sovereign Wealth Funds," NBER Working Papers 15228, National Bureau of Economic Research, Inc.
  15. Levy Yeyati, Eduardo & Panizza, Ugo & Stein, Ernesto, 2007. "The cyclical nature of North-South FDI flows," Journal of International Money and Finance, Elsevier, vol. 26(1), pages 104-130, February.
  16. Joshua Aizenman & Brian Pinto & Artur Radziwill, 2004. "Sources for Financing Domestic Capital -- Is Foreign Saving a Viable Option for Developing Countries?," NBER Working Papers 10624, National Bureau of Economic Research, Inc.
  17. Klasen, Stephan & Herzer, Dierk & Nowak-Lehmann D., Felicitas, 2007. "In search of FDI-led growth in developing countries," Proceedings of the German Development Economics Conference, Göttingen 2007 14, Verein für Socialpolitik, Research Committee Development Economics.
  18. Robert S. Chirinko & Debdulal Mallick, 2008. "The Marginal Product of Capital: A Persistent International Puzzle," CESifo Working Paper Series 2399, CESifo Group Munich.
  19. Beata K. Smarzynska, 2003. "Does Foreign Direct Investment Increase the Productivity of Domestic Firms? In Search of Spillovers through Backward Linkages," William Davidson Institute Working Papers Series 548, William Davidson Institute at the University of Michigan.
  20. Mark Aguiar & Manuel Amador, 2009. "Growth in the Shadow of Expropriation," Discussion Papers 08-051, Stanford Institute for Economic Policy Research.
  21. Alfaro, Laura & Chanda, Areendam & Kalemli-Ozcan, Sebnem & Sayek, Selin, 2004. "FDI and economic growth: the role of local financial markets," Journal of International Economics, Elsevier, vol. 64(1), pages 89-112, October.
  22. Eswar S. Prasad & Raghuram G. Rajan & Arvind Subramanian, 2007. "Foreign Capital and Economic Growth," NBER Working Papers 13619, National Bureau of Economic Research, Inc.
  23. Damiano Sandri, 2014. "Growth and Capital Flows with Risky Entrepreneurship," American Economic Journal: Macroeconomics, American Economic Association, vol. 6(3), pages 102-23, July.
  24. Martin Schindler, 2009. "Measuring Financial Integration: A New Data Set," IMF Staff Papers, Palgrave Macmillan, vol. 56(1), pages 222-238, April.
  25. Francisco J. Buera & Yongseok Shin, 2009. "Productivity Growth and Capital Flows: The Dynamics of Reforms," NBER Working Papers 15268, National Bureau of Economic Research, Inc.
  26. Holger Görg & David Greenaway, 2004. "Much Ado about Nothing? Do Domestic Firms Really Benefit from Foreign Direct Investment?," World Bank Research Observer, World Bank Group, vol. 19(2), pages 171-197.
  27. V N Balasubramanyam & M Salisu & David Sapsford., . "Foreign Direct Investment and Growth in EP and IS Countries," Working Papers ec18/94, Department of Economics, University of Lancaster.
  28. Martin Feldstein & Charles Horioka, 1979. "Domestic Savings and International Capital Flows," NBER Working Papers 0310, National Bureau of Economic Research, Inc.
  29. Timmer, Marcel P. & Vries, Gaaitzen J. de, 2007. "A Cross-country Database For Sectoral Employment And Productivity in Asia and Latin America, 1950-2005," GGDC Research Memorandum GD-98, Groningen Growth and Development Centre, University of Groningen.
  30. Robert E. Lipsey, 2002. "Home and Host Country Effects of FDI," NBER Working Papers 9293, National Bureau of Economic Research, Inc.
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