EFFECTS OF INWARD FDI ON LOCAL PRODUCTIVITY

Effects of Inward FDI on Local Productivity



Effects of Inward FDI on Local Productivity

Introduction

The article discusses that with the rapid pace of global financial integration, perhaps most directly observed in the explosive growth of foreign direct investment (FDI) over the last two decades, concerns have been raised in both academic and public communities about the potential negative impact of such environmental changes on the development of domestic enterprises (Blomstrom, 1986, 97). On the other hand, increasing openness and economic liberalisation across the globe has been credited with facilitating the pace of global financial integration with positive consequences for domestic entrepreneurial activity and high economic growth rates observed specifically in industrial and emerging market economies (Obstfeld and Taylor, 2005). While there is an established literature pointing to the ongoing debate about the potential effects of FDI inflows and access to foreign capital on the productivity of (non-financial) domestic enterprises (Driffield, 2000, 103), empirical research about the impact of such environmental change on the productivity of financial institutions, in particular banks, is very limited. The aim of this study is to undertake such empirical analysis and provide international evidence about the impact of FDI inflows on productivity growth in the banking industry.

Analysis of the Article: Effects of Inward FDI on Local Productivity

The article states that since FDI represents a dimension of the economic environment affecting bank productivity, this article relates to the recent literature in banking that emphasises the impact of environmental factors on the total factor productivity (TFP) of banks. Chaffai et al. (2001), for example, analyse the sources of productivity differences among French, German, Spanish and Italian banks and show that these are sensitive to country-specific economic, demographic and technological conditions. Other cross-country studies relate TFP growth of banks to the regulatory environment in which banks operate (Driffield, 2000, 103) and the importance of identifying the success or failure of policy initiatives (Gao, 1999, 301), while various country studies have examined the impact of economic liberalization or financial deregulation on bank productivity (Gao, 1999, 301). It is generally acknowledged that environmental factors and deregulatory policies play an important role in explaining cross-country differences in bank productivity, as well as in bank efficiency (Girma, 2001). However, while there is positive evidence to suggest that international financial integration and access to external finance promotes firm entrepreneurship (Alfaro and Charlton, 2006; Beck et al., 2004, 2006a, b; Rajan and Zingales, 1998), the literature on bank efficiency/productivity has largely ignored to account for these influences, in the form of FDI inflows, trade openness or other aspects of international economic/financial integration. Furthermore, the literature on foreign banking concentrates mostly on evaluating the relative performance of home vs foreign ownership (Girma, 2001), offering little insight on how foreign presence affects bank productivity. Hence, this study aims to expand on the existing literature on banks by attempting to shed light, for the first time to the author's knowledge, on the impact of FDI as a driver of productivity change in the banking ...