The effect of Foreign Direct Investment on Productivity: a comparative analysis between Central and Eastern Africa

Abstract

Most countries have been taking advantage of the contribution of the inflows from FDI to improve the state of their economic performance. However, FDI inflows in Central and Eastern African regions are still low as compared with the aggregate in other regions. Nonetheless, Eastern African nations have, on average, attracted higher FDI inflows in recent decades when compared to Central Africa nations. This particular research aims at investigating drivers of FDI, as well as its effects on prodcutivity in both regions. We used panel data sourced from WDI and UNCTAD spanning from the year 1990 to 2018. The study also adopted the Panel ARDL model based on PMG and the DFE estimations to capture short-run as well as long-run relationships amongst variables. Overall, the study found that in long run, infrastructure quality, trade openness, and market size, drive inflows of FDI in the two regions. In the short-run, infrastructure quality is negatively statistically related with FDI. Comparing the two regions, results indicated that in Central Africa, FDI is determined by trade openness and natural resource rents. But resource curse hypothesis has been found since the increase in resource rents decreases the attraction of FDI inflows. In short-run, the infrastructure quality has a significant but negative impact on the attraction of FDI. However, in Eastern Africa, infrastructure quality and the market size are determinants of FDI attraction. Following these results, we concluded that factors that determine FDI attraction differ across the two regions. Besides, results revealed that overall; FDI and natural resource endowment positively and significantly affect TFP both in CA and EA. In comparing the two regions, the study found that natural resource rents improve TFP in CA and that the FDI has positive but not significant impact on TFP, while in EA, results showcased that FDI has a significant positive effect on TFP, implying that FDI improves TFP in the Eastern African region but not in Central Africa. The study suggested that policy makers should implement policies that improve productivity (GDP, capital and labour) and promote cooperation among countries by increasing the levels of trade and removing barriers to trade, reduce the cost of doing business and invest in infrastructures, and promote entrepreneurship activities.