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Trading Spaces: The Political Economy of Foreign Direct Investment Regulation

Trading Spaces: The Political Economy of Foreign Direct Investment Regulation . Sonal S. Pandya Department of Government Harvard University. FDI Central to International Economy. Single largest source of global capital flows Generates 20% of world trade flows Promotes economic development.

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Trading Spaces: The Political Economy of Foreign Direct Investment Regulation

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  1. Trading Spaces: The Political Economy of Foreign Direct Investment Regulation Sonal S. Pandya Department of Government Harvard University

  2. FDI Central to International Economy • Single largest source of global capital flows • Generates 20% of world trade flows • Promotes economic development

  3. Research Question Why do countries regulate foreign direct investment?

  4. Restrictions Vary By Industry Industry-Level Foreign Ownership Restrictions 25 Latin American Countries, 1997-2000 Two-digit Industry Categories # Restricting Countries 64 Post and telecommunications 10 92 Recreational, cultural and sporting activities 9 40 Electricity, gas, steam and hot water supply 8 66 Insurance and pension funding 8 12 Mining of uranium and thorium ores 7 62 Air transport 7 05 Fishing, operation of fish hatcheries and fish farms 6 11 Extraction of crude petroleum and natural gas 6 60 Land transport; transport via pipelines 6 10 Mining of coal and lignite; extraction of peat 5

  5. Existing Explanations Insufficient • Nationalism can’t account of multiple dimensions of variation • Scholarly literature makes assumptions re: governments preferences for FDI No Microfoundations

  6. Political Economy Approach Identifies Sources of Variation • FDI inflows redistribute income • Political cleavages between winners and losers • Politicians negotiate tradeoffs

  7. Vertical FDI FDI Inflow Finished Product Home Country Host Country

  8. Politics of Vertical FDI • Vertical FDI’s Economic Effect Increases labor demand • Political cleavage Labor vs. Capital Local wages & production costs increase • Salient Political Institution Partisanship

  9. Horizontal FDI FDI Inflow Finished Product Home Country Host Country

  10. Politics of Horizontal FDI • Horizontal FDI’s Economic Effect Increases market competition • Political cleavage Producers vs. Consumers Local firms’ profit & prices decrease • Salient Political Institution Electoral Competition

  11. Alternate Explanation: Nationalism • FDI increases foreign ownership Foreign ownership threatens national identity

  12. Hypotheses • Left governments are less likely to restrict vertical FDI • Electoral competition reduces the probability of restrictions on horizontal FDI • Nationalist governments more likely to restrict FDI

  13. Measuring FDI Regulation • Foreign ownership restriction 1 = banned, only minority share allowed 0 = no limit • Data coded from US Commercial Guides 119 countries, 58 industries, 1990s (pooled) Approx. 30% of country-industries restricted

  14. Measuring Propensity Vertical FDI Restrictions • Interaction of Host Labor Supply and Industry Labor Demand Data: Average Schooling Industry per worker value-added for US- based multinational firms Partisanship

  15. Support for Vertical FDI at Low Skill Levels Logit Model Estimates # = significant at .1 level

  16. Measuring Industry’s Propensity to Receive Horizontal FDI Restriction • Incentives to enter market via horizontal FDI Data Host country GDP Gravity model estimates of trade barriers Degree electoral competition

  17. Nationalist Governments Less Likely to Restrict Shift to executive from nationalist party decreases expected probability of ownership restriction by 24 percentage points*. *standard deviation = .08

  18. Summary of Results • Left parties less likely to restrict FDI in lower skilled industries • Weak democracies use FDI restrictions as substitutes for trade restrictions; in stronger democracies restrictions less sensitive to market entry barriers • Governments led by nationalist executives less likely to restrict FDI

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