Effects of Foreign Direct Investment on Wage Inequality in Developing Countries: Do recipient sectors matter?

Abstract

Foreign direct investment (FDI) is one of the main pillars of globalization. Reducing household income inequality (henceforth income inequality) is one of the goals of the new millennium. Limited empirical studies are applied to test the impact of attracting inward FDI on income inequality. Fewer studies focused attention on the impact on labor return (henceforth wages) inequality within countries despite wages is the main source of household income for the majority of people and directly influence poverty. Neither these empirical studies nor the theoretical framework agreed on the direction of the impact of inward FDI on whether income or wage inequalities, particularly in developing countries. Very few of these empirical studies investigated the disparity in this impact depending on the recipient economic sectors, although being proven theoretically. This study tests the main hypothesis that the impact of inward FDI on wage inequality is sensitive to the recipient sector. The study is applied using the deductive approach in a group of developing countries using panel macroeconomic data. Eight models are estimated for the period 2004-2019. Results of system generalized method of moments (henceforth S-GMM) confirmed that inward FDI is one of the main determinants of wage inequality. Moreover, the impact differs depending on the recipient economic sectors and the measurement of inward FDI. Estimation results confirmed the dynamic nature of wage inequality. Supportive policies are proposed to effectively improve the role of sectoral FDI inflows in reducing wage inequality.