Effect of Foreign Direct Investment on Private Domestic Investment in Ethiopia.

Abstract

This study examines the effect of foreign direct investment (FDI) on private domestic investment in Ethiopia. This study employed annual time-series data from 1990 to 2019 for gross fixed capital formation, real gross domestic product, exchange rate, inflation, and foreign direct investment (FDI). This study adopted an autoregressive distributed lag (ARDL) approach and other econometric tools of analysis to answer the objectives set out in this study. The Augmented Dickey–Fuller test, Phillips–Perron unit root test, and bounds test method of cointegration employed indicate that the series used in the model are all stationary, with a unique long-run relationship established among the variables. The study also establishes an inverse relationship between FDI and private domestic investment within the period under reference. Using econometric procedures, the ADF unit root test revealed that some variables were integrated into the first difference. The ARDL test indicated the existence of long-run relationships among the variables. When testing for causality using the Granger causality test, the results obtained indicate that there is a unidirectional relationship between FDI and private domestic investment in Ethiopia, meaning that FDI causes private domestic investment in Ethiopia, while private domestic investment does not cause foreign direct investment. Based on the findings, the following recommendations were made: First, the concerned body should put in place policy with respect to domestic investment, and there must be safety measures to protect domestic investors from falling out of business and domestic investment promotion measures that will stimulate domestic firms’ investment. Second, in an attempt to control the birr exchange rate since it does have bearing on inflation, the government should put in place an enduring framework to strike the risk of domestic producers for them to take innovative domestic investors that will have a competitive advantage with foreign investors.