The paper examines the influence of FDI on manufacturing growth of Singapore in a panel data sample of 14 manufacturing industries over 30 years stretching from 1975 to 2004. By controlling for unobserved industry characteristics and time effects, we find a positive contemporaneous effect of FDI on the output growth of Singapore manufacturing industries where 1 percent increase in FDI tends to increase manufacturing output growth by nearly 0.4 percent. We also observed positive impact of FDI on manufacturing output growth using Arellano-Bond GMM estimator that controls for the endogeneity problems in the estimation.
Singapore economy is an open economy that relies heavily on foreign investment to maintain its competitiveness and drive its economic growth. FDI in export-oriented industries, particularly the electronics industry, has been the key factor in driving the exportled growth in the Singapore economy. Although there are several studies highlighting the importance of FDI on the Singapore economy, most of them are focused on the impact at the aggregate economy and there is lack of empirical studies to study the impact of FDI at the manufacturing sector at a disaggregated level (Hu, 2004; Chang, 2005; Anwar, 2008; Low, 1999). This paper intends to fill this gap by examining the impact of FDI flows on the growth of the Singapore economy at the disaggregated manufacturing industry level. To our knowledge, this is the first paper to examine the impact of FDI on manufacturing output growth using a disaggregated industrial level data.
The role of FDI on output growth of economies has been extensively analyzed in the literature. Traditional growth models as well as endogenous growth models highlight the importance of technology and efficiency improvements in stimulating economic growth and hence provide the framework to analyze the relationship between FDI and economic growth. These growth models highlight that FDI inflows lead to high output of the recipient economy by increasing investment and/or enhancing the labour productivity.3 In an excellent survey of literature, De Mello (1997) lists two channels through which FDI inflows enhance economic growth: adoption of new technology in the production process through capital spillovers, and knowledge transfers through labour training and skill acquisition and better management practices. However, empirical evidence on these issues using single country time series or cross sectional study is rather inconclusive. Nair-Reichert and Weinhold (2001) note that while many studies argue that FDI inflows may have positive impact on economic growth of the recipient economy through technological diffusion and capital formation, others suggest that these positive effects may not be unconditional and points to the lack of technology transfer and spillover effects.
Macroeconomic studies which examine the causality between FDI and growth using aggregate FDI inflows and growth data in a cross country framework, generally, suggest that FDI inflows positively affect economic growth. Zhang (2001) finds that FDI strongly Granger-cause GDP growth in a sample of 11 countries. Choe (2003) finds a bi-directional causality between economic growth and FDI in a sample of 80 countries over the period 1971-1995. However, their results also show that the causality is rather more apparent from growth to FDI than from FDI to growth. In a sample of 32 countries that includes OECD and non-OECD countries and using a single-country time series regression framework, De Mello (1999) find that the long-term effect of FDI on growth is heterogeneous across countries. He does not find firm evidence for the positive effect of FDI on growth in a panel of non-OECD countries. Nair-Reichert and Weinhold (2001) find that FDI on average has a significant positive impact on growth though the relationship is highly heterogeneous across countries. There are many studies that attempt to draw conclusions on FDI-growth causation by controlling for human capital, openness of the economy and different stages of growth. Blomström et al. (1996) find that FDI inflows are an influence on growth rates for high income developing economies, but not for lower income ones as it depends more on domestic factors such as secondary education, changes in labour force participation, and infrastructure. Balasubramanyam et al. (1996) find that FDI promotes economic growth in a sample of 46 developing economies during the period 1970-1985. Their results further revealed that FDI inflows are more productive in countries with export promoting trade and investment strategies than with import-substituting strategies. Basu, Chakraborty and Reagle (2003) also emphasize trade openness as a crucial determinant for the impact of FDI on growth. By revisiting these findings in the context of more recent cross-sectional data, Greenaway et al. (2007) confirm the robustness of the impact of FDI on economic growth. The heterogeneity of the results of these macro level studies indicates different country specific effects and also points to various specification issues in models. There are arguments that these studies do not fully control for simultaneity bias, country-specific effects, and the lagged effects of dependent variables in growth regressions (Carkovic and Levine 2005). By addressing these issues in data, Carkovic and Levine (2005) find that the exogenous component of FDI does not exert a robust and positive influence on economic growth. Hansen and Rand (2006) using mean group estimator find a strong causation from FDI to GDP, and their results indicate that FDI appears to be growth enhancing much in the same way as domestic investment. Similar to country-specific macro studies, studies which uses micro-level data are also fail to draw strong conclusions on the effect of FDI on growth. While several studies find positive association between FDI and output growth (see for recent work by Branstetter 2006, Kneller and Pisu 2007), some studies find that FDI has negative impact on productivity (see for example Aitken and Harrison 1999, Konings 2001).4 In this paper, we avoid the above country specific effects and heterogeneity by examining a disaggregated industry level data for a specific economy such as the Singapore economy.
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FDI Activities, Exports and Manufacturing Growth in a Small Open Economy
