Environmental Regulation Induced Foreign Direct Investment

Abstract

The last decade has witnessed a renewed interest in the relationship between environmental regulations and international capital flows. However, empirical studies have so far failed to find conclusive evidence for this so-called pollution haven or race to the bottom effect where foreign direct investment (FDI) is assumed to be attracted to low regulation countries, regions or states.In this paper we present a simple theoretical framework to demonstrate that greater stringency in environmental standards can lead to a strategic increase in capital inflows which we refer to as environmental regulation induced FDI. Our result reveals a possible explanation for the mixed results in the empirical literature and provides an illustration of the conditions under which environmental regulations in the host country can affect the location decision of foreign firms.

Unilateral Climate Policy and Foreign Direct Investment with Firm and Country Heterogeneity

“…(16) shows that, since we are assuming that the restrictive measures are introduced by the larger country, world production decreases, reducing ceteris paribus the level of global emissions. This change results from total sales falling in country I but expanding in country II.…”

“…We start by determining the equilibrium sales by each …rm in the di¤erent con…gurations, and then we solve for the optimal location choice of …rm 1 in the …rst stage. 16 …”

“…Their results indicate that …rms in developing countries are signi…cantly more emissions-intensive than competitors 6 Another strand of theoretical literature shows that restrictive unilateral climate measures may attract strategic inward FDI. This is considered as one of the mechanism explaining the lack of satisfactory evidence on the PHH (Elliot and Zhou, 2013;Dijkstra et al, 2011 Mulatu et al (2010), this last strand of literature does not really test the "pollution haven" hypothesis. However, in a recent study Aichele and Felbermayr (2014) conclude that the Kyoto protocol has been ine¤ective or possibly even harmful for the global climate.…”

A study on the threshold effect of different types of environmental regulations on FDI

“…From a dynamic point of view, a well-designed environmental regulation policy will drive companies to make technological innovation, thus reducing their production cost. With the help of innovation compensation and pioneering advantage, environmental regulations can improve the competitiveness of enterprises and has a positive effect on FDI [3][4][5] . Third, the impact of environmental regulations on FDI is little or even none, namely, environmental regulations are not a major factor affecting FDI [6][7][8][9] .…”

Unilateral Climate Policy and Foreign Direct Investment with Firm and Country Heterogeneity

“…Their results indicate that …rms in developing countries are signi…cantly more emissions-intensive than competitors 6 Another strand of theoretical literature shows that restrictive unilateral climate measures may attract strategic inward FDI. This is considered as one of the mechanism explaining the lack of satisfactory evidence on the PHH (Elliot and Zhou, 2013;Dijkstra et al, 2011). 7 Studies testing the PHH by considering inter-country FDI location choice do not …nd robust support for this prediction (Smarzynska Javorcik Manderson and Kneller, 2012).…”