Bilateral Investment Treaties

1
Bilateral Investment Treaties The Investment
Environment in Developing CountriesJennifer
Tobin

• Overarching Project
• The politics of investment choices made by
  developing countries
• Growth and distributional consequences of those
  choices
• EITM Project
• The role of Bilateral Investment Treaties (BIT)
  in encouraging foreign direct investment (FDI)
  in developing countries.

2
Empirical Puzzle

• BITs Investment treaty signed between a foreign
  investor and a developing country agent. BITs
  provide
• legal protection under international law
• international dispute resolution
• Goals To increase FDI through
• reduced risk faced by investors
• enhanced reputation for strong property rights
  leading to a strong domestic investment
  environment
• Puzzle Empirical analysis shows no such
  increase in either FDI flows or in measures of
  investment reputation. Why?

3
Hypothesis

• An adverse economic shock in conjunction with a
  BIT reveals the quality of the domestic
  investment environment.
• Countries which are thus revealed to have strong
  property rights, should see increased FDI and
  enhanced reputation.

4
Model

• Sequence of moves
• Developing countries and FDI sign a BIT
• Agent chooses whether to invest in good or bad
  project
• Nature chooses whether project will succeed
• Nature chooses whether investment in bad project
  is detected or not, if the bad project is chosen
• Agent chooses whether to expropriate or not
• Returns are realized
• Investor updates beliefs about domestic
  investment environment
• Either FDI flow increases or it goes down
• Either measures of reputation go up or down

5
Model Results

• Just signing a BIT is a pooling equilibrium for
  all developing countries.
• An adverse economic shock creates the incentive
  to deviate since required rate of return on the
  project is now higher.
• Some countries will choose to honour a costly
  commitment, some will not. This results in a
  separating equilibrium.
• Investors now update their beliefs about the
  quality of each countrys domestic investment
  environment.
• FDI flows to countries with newly proven records,
  should now increase / start increasing.

6
Implications

• BITs provide countries with the opportunity to
  signal commitment to a good investment
  environment.
• Lack of a BIT, does not allow a country to send a
  costly signal during a time of shock.

7
Empirical Design

• Approach 1 Using an economic shock
  interaction term with BITs to test impact on FDI
  flows and reputation
• Approach 2 Use expropriation of privatized
  utilities from the 1980s and 1990s to measure
  probability of expropriation
• Dependent variable expropriation dummy
• Explanatory variables
• whether a BIT has been signed
• whether there was an economic shock

8
Extensions

• Consider the costs of signing BITs to domestic
  investors
• government may emulate provisions and improve
  domestic investment environment for all OR
• government may ignore domestic environment
  evolution to the detriment of domestic investors
• What is the net effect on the countrys welfare
  in the long run?

9
Questions / Suggestions

• Measuring severity of shock for an individual
  country?
• What happens if all countries in the intermediate
  group face a similar common shock e.g. currency
  crisis. Do investors still impose the same
  requirement on returns?
• For countries who dont choose to sign BITs and
  dont expropriate existing FDI projects, do their
  subsequent FDI flows and reputation exceed, equal
  or fall behind BIT signatories?