Policy uncertainty and FDI: Evidence from national elections

Policy uncertainty and foreign direct investment

“…Before investigating the policy uncertainty effects on FDI inflows, we show in Column (I) the estimation results of a baseline model without the EPU index. In baseline regression, we control for an extensive set of variables that are purported to affect FDI flows in the literature: real GDP growth, log GDP per capita in USD, trade openness, stock market returns, the policy rate, government spending to GDP ratio, the inflation rate, the bilateral nominal USD exchange rate, the real effective exchange rate (REER), and exchange rate volatility (e.g., Carstensen & Toubal, 2004;Chen et al, 2019;Eicher et al, 2012;Julio & Yook, 2016;Yeyati et al, 2007). The signs of these variables are mostly consistent with theoretical predictions or previous empirical studies, although some variables are not statistically significant.…”

“…Azzimonti (2019) analyzes how partisan conflicts on the trade policy affect FDI flows to the U.S. economy. In the international context, taking the timing of national elections as a proxy for policy uncertainty, Chen et al (2019) show that the aggregate FDI inflows of 126 countries dropped significantly during election years. However, not all studies reach a consensus about the role of policy uncertainty in driving FDI flows.…”

“…By exploiting the bilateral data and controlling for the push factors with a constellation of fixed effects, we can better identify the effect of higher domestic policy uncertainty on FDI inflows. We employ several country-level control variables to capture the macroeconomic environment of the host country, which are motivated by prior research examining determinants of FDI flows at a business cycle frequency (Azzimonti, 2019;Blonigen & Piger, 2014;Carstensen & Toubal, 2004;Chen et al, 2019;Eicher, Helfman, & Lenkoski, 2012;Julio & Yook, 2016;Yeyati, Panizza, & Stein, 2007). We obtain the data on the share of government expenditure to GDP, and trade openness measured by the sum of exports and imports over GDP from the World Bank database, and the data on real GDP per capita, GDP growth, the nominal exchange rate, the inflation rate, and the policy rate from the IMF International Financial Statistics.…”

“…Most existing studies using election timing as a determinant of FDI treat the level of uncertainty surrounding each election the same (Chen et al, 2019; Honig, 2020; Julio & Yook, 2016). While this is not an issue for identification purposes, it can be a significant drawback from a measurement standpoint (Gulen & Ion, 2015).…”

“…Despite this potentially important link between FDI and policy uncertainty, only a few studies have analyzed the role of policy uncertainty in affecting FDI flows (e.g., Azzimonti, 2019; Chen, Nie, & Ge, 2019; Honig, 2020; Julio & Yook, 2016; Nguyen, Kim, & Papanastassiou, 2018), mostly for a limited sample of countries or FDI flows at the aggregate level. We extend this literature by providing the first systematic study of how policy uncertainty in a host country affects FDI inflows at the bilateral level for a large sample of economies.…”