U'S' Foreign Direct Investment in Africa and its Determinants

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U.S. Foreign Direct Investment in Africa and its
Determinants

• Emmanuel Nnadozie
• Una Okonkwo Osili
• UNECA Workshop of Financial Systems and
  Mobilization in Africa
• November 2nd 2004

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Outline

• Motivation
• Central Questions
• Theoretical Framework
• Data
• Results
• Conclusions

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Motivation

• Foreign direct investment (FDI) represents an
  important source of finance for developing
  countries.
• Africas share of global FDI and US total private
  investment to developing countries remains low
  and has not grown rapidly despite economic and
  political reforms.

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Background

• FDI in Africa is relatively low, volatile, and
  highly concentrated in a few countries.
• For example, US FDI in Sub-Saharan Africa
  mainly in the manufacturing sector in South
  Africa, and the petroleum industry in Nigeria and
  Angola.
• Foreign direct investment (FDI) in Sub-Saharan
  Africa yields relatively high returns. In 2002
  "The rate of return on FDI was highest in
  Sub-Saharan Africa, compared with other regions
  in the world, perhaps because, given perceived
  higher risks in the region, investors chose only
  high-return projects. (World Bank, 2003).

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Figure 1. Africa FDI inflows, top 10 countries,
1999 and 2000 (Billions of dollars) source
UNCTAD
Figure 1. Africa FDI inflows, top 10 countries,
1999 and 2000 (Billions of dollars)
                                                  
                                                  
                                                  
                                                  
      Source UNCTAD, World Investment Report
2001. Ranked on the basis of the magnitude
of 2000 FDI inflows.
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FDI and Remittances A comparison

• In 2002, foreign direct investment remained the
  most important source of external financing for
  developing countries, with net FDI reaching
  143bn in 2002.
• Workers' remittances currently the second
  largest source of inflows 80bn last year, up
  from 60bn in 1998, while net lending by official
  creditors to developing nations was 16bn, with
  another 33bn given in grants.

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Country Examples

• A few examples from Sub-Saharan Africa DATA from
  IMFs, International Financial Statistics
  yearbook various years
• SUDAN Workers' remittances averaged 417 million
  dollars in 1995-98,representing over 70 of
  export earnings and three and a half times the
  amount of foreign direct investment (FDI).
• NIGERIA Workers' remittances received on average
  in 1995-98 were over 1.3 billion dollars, 10 of
  the value of exports and roughly equal to the
  total of FDI.
• MALI At 103 million dollars, workers' remittances
  on average in 1994-97 were equivalent to 23.3 of
  export value and were greater than FDI.

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Central Questions

• What are the economic and political variables
  that influence FDI flows to Africa?
• How do US FDI flows differ from total FDI flows
  to Africa?

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Theoretical Framework

• US FDI f (GDP, economic growth rate, openness,
  infrastructure quality, inflation, political
  risk, labor force quality)
• US FDI ? ß1GDP ß2economic growth ß3OPEN
  ß4TELEPHONES ß5CPICHANGE ß6POLITICALRISK
  ß7ENROLLEMENTS µ

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Data

• World Bank African Economic Indicators
• US Commerce Department -US Direct Investment
  Database
• PRS Group, International Country Risk Guide
• Penn World Tables

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Figure 1. Total Annual US Direct Investment in
Africa 1982-2001, in millions of Current US
Dollars
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Key Definitions

• The U.S. direct investment includes the
  acquisition of sufficient common stock in a
  foreign country, the acquisition or construction
  of plant and equipment in a foreign country, U.S.
  parent companies equity in, and net outstanding
  loans to their foreign affiliates.Note A
  foreign affiliate is a foreign business
  enterprise in which a single US investor owns at
  least 10 percent of the voting securities, or the
  equivalent.

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Econometric Issues

• Omitted Variable bias (some investor and host
  country policies may be unobserved in our
  analysis)
• Measurement error
• Multicollinearity (GDP growth may affect
  infrastructure, political risk, labor quality,
  and other explanatory variables).

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Economic Variables

• Real per capita GDP---market size
• Real GDP growth
• Openness to International Traderatio of sum of
  exports to imports
• Inflation (Change in CPI)
• Labor Force Quality (literacy rate, primary
  school enrollments)
• Infrastructure quality-number of telephone lines
  per capita

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Measuring Political Risk

• Political Risk Indicator International Country
  Risk Guide Rating
• Political instability has been shown to have a
  negative effect on foreign direct investment in
  cross-country regressions (Schneider and Frey,
  1985).
• Since 1960, more than 40 percent of African
  countries have experienced at least one civil war
  (Collier and Hoeffler, 2002). --- may pose
  substantial barriers to FDI inflows to the
  region.

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Summary Statistics
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Political Risk

• Political Risk may pose barriers for US FDI in
  Africa?
• Interesting context High concentration of FDI
  flows in the primary resource extraction sector
  may lead to an unclear relationship between
• Some evidence from Latin America -- political
  risk was not found to be a significant factor in
  the FDI location decision (Trevino et al , 2002).

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Main Findings

• Total FDI appears more responsive to economic
  and political variables than US FDI.
• Political Risk has a a significant, negative
  impact on total FDI and FDI as a share of GDP,
  less clear for US FDI
• GDP growth rate, literacy, and Openness have a
  positive and significant impact on total FDI

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Other Findings

• Less robust evidence on the role of GDP per
  capita and infrastructure
• Inflation rate has a negative effect on FDI
  inflows, but less robust

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Conclusions

• There is still a considerable proportion of the
  variation in total FDI and US FDI not explained
  by the model.
• Other potential explanations bias toward Africa
  or by a lack of information and knowledge about
  African business opportunities?

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Future Work

• Need to study the effect of changes in wages,
  monetary and exchange rate policy, taxation and
  other variables that may influence FDI flows for
  several African countries.
• Institutions, government policies, geography,
  ethnic diversity, and other factors that may be
  difficult to capture within a regression
  framework.

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POLICY IMPLICATIONS

• A number of countries have undertaken economic
  and political reforms in Africa, but has not led
  to a significant expansion in US FDI to the
  region.
• In a competitive global economy, it is not enough
  just to improve one's policy environment
  improvements need to be made both in absolute and
  relative terms (Asiedu, 2004).