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A Simple and Flexible Dynamic Approach to Foreign Direct Investment Growth: The Canada-United States Relationship in the Context of Free Trade

  • Peter J. Buckley

    (Leeds University Business School)

  • Jeremy Clegg

    (Leeds University Business School)

  • Nicolas Forsans

    (Leeds University Business School)

  • Kevin T. Reilly

    (Leeds University Business School)

This paper asks a simple question: Did Wilfred Laurier’s dream of free trade with the United States, when it came to fruition in 1989, also impact on foreign direct investment (FDI) into Canada by US multinationals? This paper argues that the customary static econometric approach found in the FDI literature, along with the assumption that policy changes influence only the intercept term, are inadequate to address the question. Instead we introduce an innovative dynamic framework to support the testing of hypotheses on behavioural changes in the variables using a structural break framework. A key conclusion is that prior to signing the free trade agreement US FDI responded only to current growth in the Canadian economy, in a unitary fashion, and current exchange rate shifts. This can be described as a static relationship. The implementation of the free trade agreements between Canada and the USA increased the responsiveness of US FDI to growth in the Canadian economy by a factor greater than two. Furthermore, dynamics are found in the form of a lagged effect for changes in the growth in the Canadian economy and interest rate differentials. These conclusions challenge the dominant view, including that in official policy circles, that the free trade agreement had no impact on US firms’ FDI decisions in Canada. Note: Previous versions of this paper were entitled: “A Simple and Flexible Dynamic Approach to Foreign Direct Investment Growth: Did Canada Benefit From the Free Trade Agreements with the United States?”

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File URL: http://128.118.178.162/eps/if/papers/0507/0507002.pdf
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Paper provided by EconWPA in its series International Finance with number 0507002.

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Length: 45 pages
Date of creation: 04 Jul 2005
Date of revision:
Handle: RePEc:wpa:wuwpif:0507002
Note: Type of Document - pdf; pages: 45. Previous versions of this paper were entitled: “A Simple and Flexible Dynamic Approach to Foreign Direct Investment Growth: Did Canada Benefit From the Free Trade Agreements with the United States?”
Contact details of provider: Web page: http://128.118.178.162

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  1. Klein, Michael W. & Rosengren, Eric, 1994. "The real exchange rate and foreign direct investment in the United States : Relative wealth vs. relative wage effects," Journal of International Economics, Elsevier, vol. 36(3-4), pages 373-389, May.
  2. Guy V.G. Stevens, 1993. "Exchange rates and foreign direct investment: a note," International Finance Discussion Papers 444, Board of Governors of the Federal Reserve System (U.S.).
  3. Lucas, Robert Jr, 1976. "Econometric policy evaluation: A critique," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 1(1), pages 19-46, January.
  4. Guy V.G. Stevens & Robert E. Lipsey, 1988. "Interactions between domestic and foreign investment," International Finance Discussion Papers 329, Board of Governors of the Federal Reserve System (U.S.).
  5. Gordon H. Hanson & Raymond J. Mataloni, Jr. & Matthew J. Slaughter, 2001. "Expansion Strategies of U.S. Multinational Firms," NBER Working Papers 8433, National Bureau of Economic Research, Inc.
  6. Boatwright, B D & Renton, G A, 1975. "An Analysis of United Kingdom Inflows and Outflows of Direct Foreign Investment," The Review of Economics and Statistics, MIT Press, vol. 57(4), pages 478-86, November.
  7. Cushman, David O, 1985. "Real Exchange Rate Risk, Expectations, and the Level of Direct Investment," The Review of Economics and Statistics, MIT Press, vol. 67(2), pages 297-308, May.
  8. Buckley, Peter J. & Clegg, Jeremy & Forsans, Nicolas & Reilly, Kevin T., 2003. "Evolution of FDI in the United States in the context of trade liberalization and regionalization," Journal of Business Research, Elsevier, vol. 56(10), pages 853-857, October.
  9. Kyriacos Aristotelous & Stilianos Fountas, 1996. "An Empirical Analysis of Inward Foreign Direct Investment Flows in the EU with Emphasis on the Market Enlargement Hypothesis," Journal of Common Market Studies, Wiley Blackwell, vol. 34(4), pages 571-583, December.
  10. Lunn, John, 1983. "Determinants of U.S. direct investment in the E.E.C. : Revisited again," European Economic Review, Elsevier, vol. 21(3), pages 391-393, May.
  11. Buckley, Peter J & Casson, Mark, 1981. "The Optimal Timing of a Foreign Direct Investment," Economic Journal, Royal Economic Society, vol. 91(361), pages 75-87, March.
  12. Barrell, Ray & Pain, Nigel, 1999. "Trade restraints and Japanese direct investment flows," European Economic Review, Elsevier, vol. 43(1), pages 29-45, January.
  13. Susan Scott-Green & Jeremy Clegg, 1999. "The Determinants of New FDI Capital Flows into the EC: A Statistical Comparison of the USA and Japan," Journal of Common Market Studies, Wiley Blackwell, vol. 37(4), pages 597-616, December.
  14. Scaperlanda, Anthony & Balough, Robert S., 1983. "Determinants of U.S. direct investment in the E.E.C. : Revisited," European Economic Review, Elsevier, vol. 21(3), pages 381-390, May.
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