Financial liberalization, Foreign Direct investment (FDI) and Economic Growth: A Panel Dynamic Data Validation

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Financial liberalization, Foreign Direct investment (FDI) and Economic Growth:

A Panel Dynamic Data Validation

SAIEF EDDINE, AYOUNI and FAKHRI, ISSAOUI and SALEM, BRAHIM

l’Institut Supérieur d’Administration des Entreprises de GAFSA, l’Ecole Supérieure d’Economie Numérique, MANOUBA, Institut supérieure d’informatique, ARIANA

1 June 2014

Online at https://mpra.ub.uni-muenchen.de/56386/

MPRA Paper No. 56386, posted 09 Jun 2014 05:17 UTC

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Financial liber alization, Foreign Dir ect investment (FDI) and Economic Gr owth:

A Panel Dynamic Data Validation

AYOUNI Saif Eddine¹, ISSAOUI Fakhr i², Br ahim Salem³

Abstr act

The aim of this study is to show that financial liber alization, as a deter minant of financial development, can stimulate the r elationship betw een for eign dir ect investment (FDI) and economic gr ow th. Two distinct components have been analyzed. The fir st one is a theor etical component in w hich w e tr ied to tr eat the r elationship betw een financial development, inter nal financial liber alization, and FDI using an endogenous gr ow th model. The second component consists of an empir ical study w hich tr ied using a panel data to validate the previously stated theor etical r elationship. The sur vey, cover ing a sample of sixty nine developed and developing countr ies enabled us to r each thr ee fundamental r esults. Fir st, w hen financial syst ems ar e non-liber alized, w e have noted that FDIs had a negative effect on GDP gr ow th per capita. Second, w hen FDIs ar e implemented in countr ies char acter ized by their developed financial sector they gener ate positive effects on gr ow th. This implies that the key var iable w hich deter mines FDI efficiency is the degr ee of financial syst ems liber alization. Consequently, in non-liber alized financial systems FDIs effects on gr ow th ar e challenged. Thir d, w e show ed that financial development level is a str ategic var iable w hich positively affects gr ow th.

Key wor ds: financial liber alizat ion, For eign Dir ect invest ment , GMM syst em.

1 Doctor and Assi stant at The Gr aduate I nst itute of Business Administr ati on of Gafsa,, e- mail :saifayouni2000@yahoo.fr Tel: (+216) 21 16 06 46

2 Teacher – Resear cher at t he Gr aduate School of Digi tal Economy, Univer sity of Manouba.

3Assistant Pr ofessor in Instit ut Supér ieur d’Infor matique, Ar iana, e-mail : salembr ahim.br ahi m@gmail.com. Tél (+216)98602378

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Intr oduction

The contr ibution of for eign dir ect investment (FDI) in economic gr ow th has been the subject of sever al theor etical and empir ical studies (Akbes et al. (2013); Laur a, A et al. (2004 and 2006); Xiaoying, L and Xiaming, L (2004). Choong, C. K et al. (2004); Omr an, M and Bolbol, A., (2003); Bor ensztein, E., J. Gr egor io and J.W. Lee (1995) and De Mello, L.R., (1999)). This is explained mainly by the fact that FDI is supposed to be an effective mechanism to tr ansfer technology fr om developed to developing countr ies. In other wor ds, FDI is gener ally r egar ded as an impor tant r esour ce to enable industr ial development in the host countr y and in par ticular in developing countr ies. Mor eover , FDI, once established, can gener at e positive effects on pr oductivity, competitiveness and job cr eation in host countr ies.

Indeed, the impact of FDI is r eflected not only thr ough capital inputs for the host countr y, but also, thr ough a contr ibution in ter ms of technology and know -how as w ell how to access new mar kets. Thanks to spillover s effect s that take place at differ ent levels, FDI may contr ibute, in an active w ay, to economic gr owth and development (Gr osssman and Helpman (1991), Bar r o and Sala-i-Mar tin (1995) and Goa (2004)).

How ever , it is noted that most of the studies on FDI, ar e based on micr oeconomic foundations. Such studies have focused, pr imar ily, on communication channels thr ough which FDI may affect economic gr ow th in host countr ies. They have show ed that the ineffectiveness of cer tain economic policies in attr acting FDI totally depends on tw o fundamental factor s: the level of development of host countr ies and the quality of their economic envir onments (Fer nández-Ar ias and Montiel (1996)). Indeed, globalization of financial mar kets and the obligations developing countr ies faced to integr ate it, r equir ed designing mor e efficient economic policies and institutions. Thus, the main issue facing economic policymaker s is how to develop mechanisms allow ing the whole economy, to attr act the maximum of the expected benefits (w hich ar e nor mally linked to FDIs) and lead domestic investments to foster long-ter m sustainable economic development.

UNCTAD r epor t on tr ade and the deter minants of FDI (1998), answ er ed this question by identifying thr ee main factor s that affect the ability of a countr y to attr act FDI flow s. These factor s ar e essentially of a political (such as economic and political stability, etc.), economic and envir onmental natur e (the degr ee of tr ade liber alization in the host countr y).

The r epor t noted that for eign investor s ar e seeking mar ket s, r esour ces and efficiency. Ther efor e, since the publication of this r epor t, empir ical studies (on the deter minants of FDI in developed and developing countr ies) w hich ar e initially focused on micr oeconomic factor s have been r edesigned to include both macr oeconomic and institutional factor s. Thus, in our study w e w ill focus on the r ole of FDI (financial liber alization) on economic gr ow th.

I. Financial liber alization and FDI: theor etical aspects and liter atur e r eview

Financial liber alization, as a deter minant of development of financial sector s, is a necessar y but not sufficient condition to encour age investment in new t echnologies as w ell as in technical pr ogr ess (McKinnon and Shaw (1973)). In other w ords, as long as the local financial sector is developing, risks associated w ith modernizing old and new technologies w ill be reduced. Development of the local financial sector allow s for eign fir ms to bor r ow in or der to incr ease their innovative activi ties in the host countr y. This may incr ease technological exter nalities to local fir ms.

The availability and quality of national financi al ser vices may influence FDI and the diffusion of technologies in the host countr y. This dissemination pr ocess can be mor e appr opr iate once financial sector s in the host countr y ar e better developed. This allow s the multinational subsidiar y to incr ease its investments once they ar e settled in the host countr y.

Fur ther mor e, developed financial sector s encour age local contr actor s to oper ate w hile ensur ing moder nization of existing technology and the adoption of new technologies similar to those intr oduced by for eign fir ms.

In this context, it would be plausible to note that the r ole of financial inter mediar ies is so important because they positively affect the speed of technological innovation, w hich impr oves as a r esult, economic gr ow th (Huang and Xu (1999)). Her mes and Lensink (2003); Alfar o and al. (2004) and Choong et al. (2004) show ed that w hen financial inter mediation is developed, it w ould have a ver y impor tant r ole in impr oving FDI flow s. In other w or ds, a pr oper functioning of the financial system leads to el iminating the tr ansaction costs of financial mar kets and positively contr ibutes to technology dissemination pr ocess. Her mes and Lensink (2003) r epor ted that domestic financial systems’ quality can pr omote FDI and contr ibute to gener ating positive impacts (technology diffusion, efficiency etc.) in the host countr y.

This means that ther e is a str ong link betw een FDI and domestic financial mar kets. In the same vein, Alfar o and al. (2004) and Choong et al.

(2004) also show ed that countr ies w her e financial mar kets ar e mor e developed ar e able to benefit mor e fr om FDI to incr ease their economic gr ow th. In their r esear ch, they emphasized on the r ole of financial inter mediar ies and they pr oved that under -development of local financial systems can limit the economy in benefiting fr om spillover effects.

In summar y, pr oper functioning of financial systems may enhance FDI effect s on gr ow th in host countr ies. In pr actice, financial sector s affect both investment financing and business activities. Ther efor e, the good efficiency of local financial systems encour ages pr oduction activities and attr act s mor e FDIs. This is especi ally tr ue w hen FDIs lead to the adoption of a completely new technology w hich w ill spr ead not only on the domestic mar kets but also on expor t mar kets.

Empir ically, w e note that ther e is a small number of studies which focused on the impact of financial liber alization in gener al - and inter est- r ate liber alization on financial deepening. Mosley (1999) examined, for example, the impact of financial liber alization thr ough access to r ur al cr edit in a number of developing countr ies. The author show ed that the impact of financial sector r efor ms on financial deepening (measur ed by M2 and bank deposits as a per centage of GDP) var ies betw een countr ies. The author concluded that ther e w er e few changes in financial depth in Madagascar and a slight decline in Malaw i. Although Tanzania had under gone a shar p contr action of financial depth in the second half of the 1980s, the countr y has cover ed near ly half of the fall in the fir st half of the 1990s. In Uganda, a slight r ecover y w as achieved in the fir st half of the 1990s after the collapse of financial depth in the 1980s, how ever the financial system r emained ver y fr agile and ver y little developed. In Zambia, the r efor ms have been unable to pr event a continuous dr op and r apid financial depth that began in the fir st half of the 1980s.

Ber thelemy, j. C. and Var oudakis, A., (1998), have alter ed the M2/ GDP var iable by intr oducing the r ole of financial liber alization in or der to test the hypothesis that financial system size is not a factor of economic gr ow th in per iods pr ior to financial r efor ms (especially in

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r epr essed financi al syst ems). They tr ied to inter act the M2/ GDP var iable w ith a dummy var iable (r ated DREF), w hich takes the value 1 for the per iod pr eceding the r efor m and 0 for the post-r efor m per iod, to obtain, finally, a new var iable [ DREF × Ln (M2/ GDP)] .

Based on the theor etical and empir ical findings pr esented above and on the study of Ber thélemy and Var oudakis, w e can note that ther e is a theor etical modeling betw een financial liber alization and financial development level. In other w or ds w e can assume that ther e is a

function (h) w hich deter mines the financial development on the basis of financial liber alization. The r elation can be w r itten as follow s:

= ℎ

^{( )}

^{= × , > 0 ( 1)}

Wher e is financial liber alization and is an indicator for measur ing financial deepening. We assume too that ∂DF/∂Lib> 0. This mean that a countr y can not liber alized its financial system, only w hen it is assumed r elatively developed. On the other hand, if a countr y is unable to liber alize its financial system, then the latter is assumed to be fr agile and under developed. Thus, to expr ess the r elationship that exists betw een domestic financi al development and for eign dir ect investment flow s in the pr ocess of economic gr ow th, w e pr opose a theor etical model, in which w e w ill tr y to integr ate the technological model developed by Her mes and Lensink (2003) in a model of endogenous gr ow th similar to Bar r o's model (1995).

Accor ding the model of Bar r o and Sala-I-Mar tin (1995), the constant r ate of r etur n, r is r epr esented by the follow ing equation:

= (

_η

) . ( )

^{( )}

. 1 −

.

^{( )}

^{( 2)}

Where α is a pr opor tion of capital income, η = f (FDI) is the cost of r esear ch and development, A=

( )

r epr esent the level of technology and L is the labor . In their study, Bor ensztein et al. (1998) state that the cost of R&D depends on FDI, namely the higher FDI inflow leads to a decline in the innovation cost. Hence, the innovation cost is a function of FDI as follow s:

w her e ∂η^/∂FDI < 0.

It should be noted that the above mentioned author s have tr ied to integr ate, the var iable "financial development" in the model of Bar r o (1995) and leads to a r elationship that explains the level of endogenous gr ow th accor ding to the FDI and the level of financial development.

= 1

( ) . ℎ ^{( )}

^{( )}

¹ −

_{( )}

− ^{( 3)}

We note that all pr evious w or ks having studied the r elationship cited above have ignor ed the effect of the financial liber alization, as a major deter minant of financial development, on economic gr ow th. So, to deal w ith this deficiency and follow ing Her mes and Lensink, w e have r eplaced financial development by financial liber alization (expr essed by equation (1)).

= 1

( ) . ( )

^{( )}

1 −

_{( )}

− ^{( 4)}

The expr ession (4) show s that the r ate of gr ow th of the economy (g) increases in L, FDI and Lib (or DF) function, and decreases on ρ and θ.

Also, this expr ession show s that an incr ease in the level of flow s of FDI leads on the one hand to a decr ease in the level of costs and on the other hand to an incr ease in the r ate of r etur n on assets (r ) and ther efor e to an incr ease in the r ate of gr ow th (g). In effect, an incr ease of (r ), allow s an incr ease on savings, investment and consumption. Consequently, the economic gr ow th r ate is incr eased and allow s developing countr ies to catch-up those developed. How ever , this link is highly dependent on the effectiveness of the financial sector . In summar y, w e can r epor t fr om this last equation that the new var iety of inter mediate goods, intr oduced by FDI flow s, can incr ease economic gr ow th under -condition that financial liber alization enhances the level of financial development and is significant enough to r educe the costs of new technologies adopted, and incr ease yields of new inter mediate goods.

II. Financial liber alization and gr owth: theor etical backgr ound

At this level of analysis, the follow ing question ar ises: to what extent does the liber alization of the financial sector play the r ole of a catalyst to str engthen and stimulate for eign dir ect investment and economic gr ow th of the host countr y? To answ er this question it w ould be impor tant to note, fir st, that financial liber alization is gener ally defined as the pr ocess w her eby the mar ket is entr usted to deter mine quantities and pr ices (inter est r ates) of tr aded capital. In pr actice, total financial liber alization has six main dimensions:

der egulation of inter est r ates; r emoval of cr edit contr ols, fr ee entr ance in the banking sector ; autonomy of the Centr al Bank; pr ivate ow ner ship of banks and liber alization of inter national capital flow s.

To r espond to the cited question above w e can note that the development of the financial sector can be consider ed as a pr er equisite for the attr action of FDI flow s. Technology diffusion speed and gr ow th path in a countr y str ongly r elate to local developments in the financial sector (Bank Wor ld (1998), Levine, r ., (1997) and Liu (1998)). Indeed, the financial system can act as a mechanism for the channelling of financial r esour ces betw een sur plus units and loss-making units and can also tr ansfer t echnology associated w ith FDI flow s (Choonget al. (2004)). How ever , w hat should be noted is that the financial system mobilizes, not only savings, but also has a deep impact on economic development. In this context, Levine, R., (1997) r epor ted that, in addition to its positive effects on savings, financial syst ems impr ove allocation of r esour ces and allow s technological innovation.

Her mes and Linsink (2003) and Bailliu (2000) tr ied to study the significance of the r elationship betw een for eign capital flow s,

4

= 1 5

i*

X

j

financial development and economic gr ow th. The tw o studies have confir med a r obust r elat ionship betw een for eign capital flow s and economic gr ow th (thr ough the financial development channel). These r esults indicate that positive exter nalities associated w ith capital flow s can have a dir ect and significant impact on economic gr ow th w hen the local financial system r eaches a minimum development thr eshold.

Mor eover , financial sector liber alization can encour age saver s to tr ansfer par t of their savings (monetar y or non-monetar y) to financial investments ( shar es and bonds) allow ing thus an incr ease in cr edit availability in the economy. This obser vation is appr oved by Ikhide (1992), who noted that positive r eal inter est r ates encour age financial savings at the expense of other for ms of savings and, allow for the pr omotion of financial deepening. In the same line of ideas, financial liber alization contr ibutes to incr easing oppor tunities for the diver sification of r isk for financial institutions [ for example banks] . This can also r educe the costs of bor r ow ing suppor ted, usually, by lender s and leads to a decr ease in capital cost, an incr ease in investment and, pr obably, to a possible incr ease in gr ow th r ate.

Hellmann, Mur dock and Stiglitz (1996, 1997, and 2000) placed emphasis on the fact that liber alization can r educe fr anchise value of banks. The stylized fact s pr oved, r epeatedly, the afor ementioned effects. As an illustr ation and not for exclusion w e r efer to Southeast-Asian countr ies. In the ear ly 1960s, w e noted that financial syst ems of most of this gr oup of countr ies w er e submitted to r egulator y measur es and to financi al r estr ictions (inter est r ates r egulation, selective contr ol of cr edit allocation, explicit and implicit taxes on financial institutions, segmentation of capital mar kets and inter national capital contr ols). How ever , financi al liber alization (know n by those countr ies in the 1970s) allow ed these financial syst ems to become mor e dynamic and their monetar y policies to become mor e efficient and mor e flexible.

Accor ding to McKinnon (1973) and Shaw (1973) a financially r epr essed sector may adver sely affect economic development in var ious w ays. Fir st, in a r epr essed economy, tr ansfer of savings is not w ell developed and its per for mance is negative and unstable.

Second, it is noticed that financial inter mediar ies do not efficiently allocate savings collected betw een competing uses. Thir d, companies have little incentive to invest because a financi ally r epr essed sector r educes r et ur n on investment and makes them uncer tain. Ther efor e, a r ecession gr ow th is r ecor ded. Fur ther mor e, the author s noted that financial r epr ession is likely to r esult in a double effect: a low level of deposit and an excess demand of appr opr iations (r equir ing banks t o adopt cr edit r ationing).

III . Data and sample

This study cover s the per iod betw een 1985 and 2008 and focuses on a panel of 69 developed and developing countr ies. Concer ning the var iables, w e should note that the theor y pr ovides no clear guidelines concer ning those that should be included in the gr owth equation. How ever , accor ding to the objective of the study, differ ent explanator y var iables w er e r etained and supposed to be impor tant in the liter atur e. The var iables used in the empir ical analysis, ar e essentially indicator s of economic gr ow th, FDI, financial liber alization and/ or financial development and contr ol var iables. Economic gr ow th var iable is the independent var iable in the estimated model and measur ed by the gr ow th r ate of r eal GDP per capita (noted GDPC) and calculated fr om data fr om the national accounts of each countr y in our sample.

To measur e FDI, w e chose net FDI inflow s to GDP r atio. Sever al empir ical studies have show n the existence of a positive r elationship betw een FDI inflow s and GDP gr ow th r egister ed in the host countr y, e.g. in Mexico (Blamestor m and Per sson (1983), Blomstr om and Wolff (1994) and Kokko (1994)), in Ur uguay (Kokkoet al. (1996)) and Indonesia (Sjöholm (1999b)).

Concer ning financial development var iable, w e distinguish the banking sector fr om financial mar ket indicator s w hich ar e par t of the independent var iables. These indicator s should r eflect the functions per for med by the financial mar ket in the economy such as, mobilization of savings, identification of pr ofitable pr ojects, management and facilitation of tr ansactions. Finally, w e pr esent an indicator which measur es inter nal liber alization of the financial sector . To achieve this, w e have chosen five indicator s to measur e. (i) DEPTH = M2/ GDP measur es financi al sur face (liquidity r ate) or even the financi al inter mediar ies size thr ough the amount of due liabilities of the financial system r epor ted to the GDP. (ii) PRIVY measur es the amount of loans to the pr ivate sector compar ed to economy size (GDP). It measur es the degr ee of integr ation of economies. (iii) BANK measur es the r elative shar e of commer cial banks as to centr al banks in the allocation of domestic savings. (iv) Mar ket capitalization as a per centage of GDP (CAPB) and measur es financial mar ket size. Finally, total value of tr ansactions as a per centage of GDP (VTRAD). After Levine and Zer vos (1998), this measur e complements that of financial mar ket size, because the mar ket can be lar ger but inactive.

Our sample is heter ogeneous because it includes a r ange of developed and developing countr ies. Thus, given the lack of detailed financial data in development countr ies, w e had to calculate a global financial development index (Goldsmith (1969) and King and Levine (1993b)). To calculate this index, w e used the same calculation pr ocedur e pr oposed by Audr ey Chouchane-Ver dier (2004) and w hich consists of over tw o stages:

-The fir st is to calculate the aver age of the indicator j on the 69 countr ies

X

j.

-The second is to calculate five standar d indicator s for each countr y i,

X

_j^i*

= X

^j

X

j

w her e i = 1, 2... 69 and j = 1, 2... 5 and

X

ⁱ_j

cor r esponding to the five selected measur es LLY, PRIVY, BANK, CAPB and VTRAD.

The index Xⁱ_j^* can be negative and positive w her e countr y j has a lag above the aver age on all countr ies sampled in the r ever se case.

Once the five standar dized indicator s ar e calculated, the global financial development index w ill be calculated using the simple ar ithmetic aver age of these five standar dized indicator s, either :

5

We consider ed that this last index is the most significant among the other indicator s. Indeed, the FDI gives us a gener al FDIa about the degr ee of over all development of the financial system for each countr y (i), since it encompasses all other indicator s in a single measur e. Ther efor e, as far as this indicator is positive and high, as much as the financial system of the countr y (i) is supposed to be developed.

The financial liber alization var iable (Li b) is det er mined by the dat e in w hich each countr y decided to liber alize its financi al system (inter est r ate). It is 0 for the pr e-liber alization per iod and 1 for the post-liber alization per iod. We need to bear in mind that, for the major ity of countr ies, the date of the financial liber alization coincides w ith the date of inter est r ates liber alization except for the case of the Ser bia and the Ukr aine w her e w e chose t he date of beginning of financial r efor ms.

For contr ol var iables integr ated in estimation w e have been used the follow ing notations LLF (log of wor k for ce); LSCP (physical capit al st ock); LOUV (t r ade openness); LDCG (public expendit ur e); LINF (inflat ion); LDXT (ext er nal debt ) and MPC (inst it ut ional qualit y). Our statistical data have been collected fr om the data of the Wor ld Bank (WDI-2010), the Inter national Monetar y Fund (IFS- 2010), the UNCTAD 2009 r epor t, the Financial Str uctur e 2010 database and other inter national institutions.

Summar y Table

Var iables Definition Indicator s

Var iables of Inter est

 For eign dir ect investment - FDI = For eign dir ect investment / GDP

 Financial development

 Financial Liber alization

- Liquid liabilities

- Pr ivate sector domestic bank loans

- Commer cial bank asset s as a r atio of total bank assets

- Stock mar ket Capitalization - Stock mar ket value tr aded

The financial liber alization (Lib) var iable is deter mined by the date in w hich each countr y decided to liber alize its financial system (inter est r ate).

- LLY: M2/ GDP

- PRIVY = Cr edit to pr ivate sector / GDP

- BANK = Commer cial bank asset s/

Commer cial bank asset s + Centr al bank assets

- CAP = Stock mar ket

capitalization/ GDP

- VTRAD = Stock mar ket value tr aded/ GDP

Lib equal 0 for the pr e-liber alization per iod and 1 for the post-liber alization per iod. We need to bear in mind that, for the major ity of countr ies, the date of the financial liber alization coincides w ith the date of inter est r ates liber alization except for the case of the Ser bi a and the Ukr aine w her e w e chose the date of beginning of financial r efor ms.

Contr ol Var iables

 Labor Force - LF = Labor For ce

 Physical Capital Stock - PCS: measur ed by gr oss domestic capital

for mation (The per petual inventor y method is used w ith 6% depr eciation r ate).

 Gover nment spending Gover nment consumption expenditur es GCE = aver age shar e of gover nment spending/ GDP

 Annual inflation r ate Calculated fr om the consumer pr ice index log (1 + aver age inflation r ate)

 Exter nal Debt Is a useful indicator s to define debt’s evolution and r eimbur sement capability

EXD = Exter nal debt/ GNP

 Tr ade Openness Measur e of the degr ee of openness TO = (Expor tation + impor tation) / GDP.

 Institutional quality To distinguish betw een countr ies based on political r egimes

IQ = (Civil r ight + political r ight) / 2

IV. The stylized facts

The descr iptive analysis w ill most often pr ovide a w ay to quantify and descr ibe to w hat extent t he financial system contr ibutes to the attr action of FDI flow s. Figur e (1) show s the link betw een FDI (FDI shar e to GDP) and financi al development (the shar e of loans to GDP).

6

Figure.1 Foreign direct investment and financial development.

Source: World Bank (WDI 2009) and Handbook of St at ist ics, UNCTAD 2009

Fr om the gr aph w e can easily locate the economies having, jointly, a low cr edit and FDI levels (the far left of the figur e) like Malaw i, Uganda and Zambia. How ever , at the far r ight of the figur e, w e find economies w ith a high cr edit and FDI levels, like Singapor e, Hong Kong, Luxembour g and Lebanon. Mor eover , w e can conclude that ther e is a gener ally positive r elationship betw een the tw o var iables. How ever , it is also evident that ther e is a w ide var iation in the two var iables given their inter action w ith each other . Indeed, if financial development plays an impor tant r ole in influencing FDI effects on pr oduction, it can be expected that countr ies w ith the same level of FDI ar e tr ying to have ver y differ ent r esults in ter ms of income levels. The following table show s some descr iptive statistics for for eign dir ect investment and financial development.

Table. 2 Descriptive A nalyzes

Var iables Obser vations Mean Standard deviation

Minimum Maximum

FDI 1599 0.0561 0.2559 -0.6359 4.1610

LLY 1543 0.6350 0.5027 0.0450 4.3176

PRIVY 1541 0.5418 0.4308 0.0019 2.0974

BANK 1483 0.8529 0.1845 0.1242 1.2644

CAPB 1272 0.5410 0.6377 0.0006 6.0347

VTRAD 1283 0.3124 0.5522 0.00002 5.4118

Sour ce: cr eated by author s

Table (2) indicates that ther e is a consider able var iation in ter ms of FDI to GDP r atio (called FDI) acr oss the countr y on the r epor ting per iod. The minimum value of this r atio is r egister ed in Luxembour g (-63.59%) in 2007, while the maximum is in Malaw i (416.10%) in 1995. With r egar d to financial development indicator s, w e find that they var y widely with Bolivia scor ing the minimum value for financial inter mediation size (LLY) (45%) in 1985, and the maximum value is for Luxembour g (431.76%) in 2008. The low est r atio of pr ivate cr edit gr anted to GDP (PRIVY) is r egister ed in the Democr atic Republic of Congo (0.19%) in 2002, while the highest is in Ir eland (209.74%) in 2008. Zambia r ecor ded the minimum value for the balance of commer cial banks fr om the Bank (BANK) (12.42%) in 1998, and then Alger ia r ecor ded the maximum value for this indicator (126.44%) in 2008. Mar ket capitalization (CAPB) is highest in Hong Kong (603.47%) in 2008 and Alger ia scor es the minimum value (0.06%) in 1986. Finally, Indonesia r egister ed the low est value of tr ansactions (VTRAD) a total of (0.002%) in 1986, w hile Sw itzer land r ecor ded the highest value (541.18%) in 2008.

For cor r elation, on the one hand, betw een FDI and economic gr owth and on the other hand, betw een financial development and economic gr ow th, cor r elation table and char ts (see appendices 2 and 3) indicate a negative cor r elation betw een the gr ow th r ate of r eal GDP per capita and for eign dir ect invest ment to GDP r atio (-0.0367). The fir st char t show s this negative cor r elation. Similar r esults ar e obtained by Br ew er (1991), Saltz (1992) and Her mes and Lensink (2003), show ing a negative cor r elation betw een

DZA

ARG AUS

BGD

BEL

BOL

BWA BRA CAN

CHL COL CHN

ZAR CYP

EGY DNK EST FJI

FIN FRA DEU GHA

GRC

HKG

INDIDN IRN

IRL

ITA JAM

JPN JOR

KEN

KOR

KWT

LBN LTU

LUX MWI

MYS MLT

MUS

MEX MAR

NGA

PAK NOR PER

PHL POL SRB

SGP

ZAF

ESP LKA

SWE

THA CHE TTO

TUN

TUR

UGA UKR GBR

USA VEN URY

ZMB

ZWE

-4-20246Ln_IDE

1 2 3 4 5

Ln_PRIVY

IDE et Développement Financier (1985 - 2008)

7

=

_,

+ + + ( × ) + + + ^{( 5)}

economic gr owth and FDI. This negative cor r elation is equivalent to the effect of competition and for eign fir ms’ domination on local fir ms. We note also that ther e is a cor r elation, gener ally, positive and low betw een gr ow th r ate and var ious financial development indicator s. Indeed, the slope of each point cloud is slightly gr eater than zer o. This means that any incr ease in financial development pr oduces a slight incr ease in gr ow th r ate of r eal GDP per capita. We postulate that this last r esult obtained on the basis of cor r elation betw een var ious financial development indicator s and economic gr ow th confir ms the pr edictions of Mc kinnon (1973) and Shaw (1973).

To better under stand the impact of financial liber alization on financial development, w e will pr esent in the follow ing table a compar ison of the var ious cor r elation coefficients betw een gr ow th r ate of r eal GDP per capit a and the differ ent var iables that measur e financial development level in the pr esence and absence of financial liber alization.

Table 3 : comparison of correlation coefficients

Variables LPIBT

Wit hout liber alizat ion wit h Liber alizat ion

LLY PRIVY BANK CAPB VTRAD

0.099 0.156 0.023 0.084 0.102

0.131 0.157 0.092 0.133 0.125

Sour ce: cr eated by author s

Fr om the table above, w e can see that cor r elation betw een financial development level and gr ow th r ate of r eal GDP per capit a incr eased t aking into account financial liber alization effect. We note for example that money supply as a per centage of GDP (M2/ GDP) incr eased fr om 0.099, befor e including financial liber alization index, to 0.131 w hen financial liber alization is included.

This conclusion pr oves w hat is mentioned in the second chapter of the fir st par t that financial liber alization enhances financial development level which incr eases in tur n economic gr ow th. Rancièr e, R et al. (2006) found the same conclusion. Accor ding to the author s, financial liber alization has a dir ect effect on economic gr ow th. Indeed, financial liber alization str engthens financial development and contr ibutes to long-ter m economic gr ow th.

IV. Empir ical model and the r esults

In this section w e pr esent the methodology adopted to estimate the r elationship betw een economic gr ow th and liber alized FDI in the pr esence of a financial syst em, as w ell as the r esults of each estimate. We w ill use the GMM method to estimate a dynamic panel model.

IV.1. The ser ies stationar ity

Befor e addr essing the appr opr iate specification of our model, it is impor tant to test w hether or not the var iables ar e stationar y. We note that individual and tempor al dimension of our sample is lar ge, which confir ms heter ogeneity of the gr oup and incr eases r isk of pr esence of non-stationar y var iables. Ther efor e, accor ding to Baltagi (2005), econometr ic estimations applied to data fr om heter ogeneous and non-stationar y panel ar e not valid.

Thus, to achieve valid r esults and estimates, w e check stationar ity of the main var iables in our model, such as gr ow th r ate of GDP per capita, for eign dir ect investment and the six indicator s of financial development level. We w ill use unit r oot tests used in panel data fr om two tests. The fir st is the homogeneous natur e of the autor egr essive r oot under the alter native hypothesis (common to all individual autor egr essive r oots, Lin and Chu (2002)). The second test developed by Im, Pesar an and Shin (2003) allow s under the alter native hypothesis autor egr essive r oot heter ogeneity. We also pr esent, for this specification, another test; the Fisher -ADF test.

Unlike the tw o fir st unit r oot tests pr esented pr eviously (know n as fir st-gener ation tests), w e use the test of Hades (2000), w hich is based on the assumption of stationar ity of zer o ser ies. In appendix (3) w e discuss the differ ent tests for each basic var iable such as gr ow th r ate of r eal GDP (GPIBT), for eign dir ect investment (FDI), the volume of the callable commitments of the r epor ted financial system to GDP (LLY), the r atio of cr edit gr anted to pr ivate sector (PRIVAT), the r atio of commer cial bank asset s to the sum of assets of commer cial banks and the centr al Bank ( BANK), the r atio of mar ket capitalization to GDP (CAPB), and the total value of tr ansactions (VLTRAD). Accor ding to the r esults of the stationar ity test (appendix 3) w e find that our basic var iables ar e usually stationar y. The test of Hades (2000), in par ticular , confir ms this stationar ity. Thus, the r esults of the econometr ic estimates w ould give statistically valid r esults.

IV.2. The dynamic estimating model

Based on the pr ocedur e of Ar ellano and Bover (1991) and Blundell and Bond (1998), the dynamic model takes the follow ing for m:

With | ρ | <1 to ensur e stationar ity. This model uses st andar d assumptions:

- E (α

i) = 0, E (uit) = 0, E (uit

.α

i) = 0, i = 1, 2, 3,…,69 et t = 1985,…, 2008 ;

∀

^t

≠ s, E (u

it .uis) = 0, i = 1, 2, 3,…,69.

-

E (GPIBTi1.uit) = 0, i = 1, 2, 3,…,69 et t = 1985,…, 2008

.

8

The pr esence of autocor r elation of or der two and the instr uments invalidity, in most r egr essions, r equir es the use of the GMM system method of Blundell and Bond (1998). This method allow s taking into account homogeneity of countr ies to deal w ith the var iables endogeneity pr oblem. The GMM system method is used in r ecent studies, in par ticular those studying the r elationship betw een gr ow th and FDI and betw een financial liber alization and gr ow th. It is on the r esults of this method that w e mainly base our conclusions.

IV.3. Inter pr etation of Results:

Table (5) r epr esents the GMM system pr ocedur e. In this table, w e notice that the autocor r elation test r esults do not r eject the hypothesis of the absence of a second-or der autocor r elation, in all the r egr essions. Regar ding the validity of the instr uments, w e note that the over - identification of the Hansen-test (1982) specifies absence of cor r elation betw een instr umental var iables and er r or ter m. Ther efor e, the instr uments ar e ther efor e valid and can inter pr et the r esults of the estimations. Estimation of the model by GMM system gives r esults w hich ar e statistically and economically satisfactor y. Fr om these six r egr essions, w e note that a global conver gence phenomenon is obser ved. Indeed, the coefficient of the var iable LPIBT is negative and statistically significant in four per for med r egr essions (LLYlib, PRIVYlib, BANKlib and IDFlib) indicating a conver gence of the countr ies in our sample.

Table5. Economic gr ow th, FDI and financial liber alization: Estimation by GMM in system (Dependent var iable: gr ow th r ate of r eal GDP per capita GPIBT)

Independent var iables

Estima tions

LLYlib PRIVYlib BANKlib CAPBlib VTRADlib I DFlib

Coeff t -St at Coeff t -St at Coeff t -St at Coeff t -St at Coeff t -St at Coeff t -St at

LPIBI -0.0164*** -3.21 -0.0150*** -2.90 -0.0199*** -4.08 -0.0021 -1.13 0.0022 1.02 -0.0209*** -3.79

FDI -0.0485*** -2.94 -0.0190*** -2.83 -0.0672 -1.49 0.0293*** 3.93 0.0392 1.57 -0.7126*** -4.28

LDFlib -0.0169*** -4.52 -0.0184*** -3.70 -0.0084** -2.58 -0.0025* -1.71 -0.0021 -0.39 -0.0048*** -4.27

FDI*LDFlib 0.0300*** 5.26 0.0096*** 2.74 0.0268** 2.35 0.0009 0.22 0.0453*** 2.96 0.2456*** 4.76

LLF -0.0349*** -3.51 -0.0376*** -3.67 -0.0347*** -3.70 -0.0004 -0.10 0.0177* 1.73 0.0100* 1.95

LSCP 0.0817*** 7.59 0.0825*** 7.07 0.0793*** 6.48 0.0104 1.21 0.0375** 2.45 0.0999*** 6.71

LOUV 0.0878*** 3.92 0.0861*** 3.30 0.0863*** 3.36 0.0317*** 3.21 -0.0167 -0.77 0.0233** 2.43

LDCG -0.0300*** -2.79 -0.0344*** -2.96 -0.0581*** -2.42 -0.0176*** -2.95 -0.0347 -1.05 -0.0035 -0.51 LINF -0.0071*** -3.73 -0.0077*** -4.01 -0.0060*** -2.94 -0.0052** -2.43 -0.0178*** -4.74 -0.0061* -1.76 LDXT -0.0179* -1.94 -0.0173* -1.89 -0.0147 -1.62 -0.0147*** -5.26 -0.0206** -2.19 -0.0135** -2.63

MPC 0.0120** 2.94 0.0099** 2.42 0.0201*** 4.28 -0.0002 -0.14 -0.0166 -0.37 0.0023** 2.05

Intercept -0.4401*** -2.71 -0.4200** -2.33 -0.4079** -2.07 -0.0267 -0.40 0.4743*** 3.15 0.0119 0.20

Nombre d’obs. 904 906 885 837 851 279

Nombre de groupes 54 54 54 54 54 31

Test de Hansen 0.652 0.737 0.330 0.116 0.322 0.280

AR(1) 0.005 0.002 0.004 0.009 0.015 0.070

AR(2) 0.824 0.972 0.939 0.673 0.565 0.316

Notes: *** significance at the level of 1%, ** significance at the level of 5% and * significance the level of 10%. All var iables ar e expr essed in natur al logar ithm (except FDI's and inst itutional quality). The oper ator (L) means the natur al logar ithm. For a definition of measur ement indicator s see Appendix 6. The t-statist ic is the Student test cor r ected for heter oscedasticity. AR (2): pr obability of significance of the second or der of t he stat istic of the autocor r elation test

FDI coefficient is negative and statistically significant in most estimations (except for the case w her e financial mar ket var iables ar e used).

We note also that financial development coefficients ar e globally negative (except the var iable CAPBlib coefficient). The w or k of Levine and Zer vos (1998a) and mor e r ecently the w or k of Beck and Levine (2004) have pr oved that ther e should be development of financial mar ket s to consFDIr a high economic gr ow th. In par ticular , financial mar kets liber alization can save a higher economic gr ow th (Beckaer t et al.

(2005)). Even though the distinction betw een a mar ket-or iented financial system and a system-or iented Bank seems to be outdated (Jacquet and Pollin (2007)), Tadesse (2002) show ed that, in financially developed countr ies, financial systems dominated by banks ar e mor e advantageous for gr ow th than mar ket-or iented syst ems.

In sum w e note that the dir ect effect of financial syst ems development on economic gr ow th r ate is negative. We can put for w ar d tw o ar guments w hich explain this r esult. On the one hand, most countr ies in our sample ar e known by a financial system gener ally fr agile. On the other hand, ther e is an instability linked to development of some countr ies in our sample (e.g. Latin Amer ican and Southeast Asian countr ies). These tw o ar guments neutr alize the positive effects of financial development on economy. Similar r esults, indicating a negative r elationship betw een financial development and economic gr owth have been found. De Gr egor io and Guidotti (1995) found a negative

9

r elationship betw een financial development and economic gr ow th in a gr oup of Latin Amer ican countr ies. Mor eover , Har r is (1997) has show n that ther e is a w eak r elationship betw een financial development indicator s and GDP gr ow th per capita in a sample of 49 developed and developing countr ies. Ber thélemy and Var oudakis (1998) found a negative r elationship betw een financial development and economic gr ow th in financially r epr essed countr ies. Using a cr oss-section method on a sample of 95 devel oped and developing countr ies, Ram (1999) found a negative r elationship betw een financial development indicator s, used by King and Levine (1993a), and GDP gr owth r ate in these countr ies. Yen Li Chee and Mahendhir an, Nair (2010) also found a dir ect negative and significant impact of financial development indicator s on economic gr ow th of countr ies in Asia and Oceania. Follow ing Alfar o et al. (2004, p. 101), w e can suggest that: “t his might par t ly be due t o t he fact t hat most count r ies’ st ock mar ket s ar e even less developed compar ed wit h banks and t her eby exagger at ing t he pr oblem. However , ir r espect ive of which financial mar ket var iable we use, t her e r emains t he concer n t hat an unusually lar ge number of count r ies seem t o exper ience negat ive effect s. One explanat ion could be t hat we have for ced a linear r elat ionship on what is essent ially a non- linear int er act ion bet ween FDI and financial mar ket s. Ot her t han t his pr oblem, t he r esult s confirm our conject ur e t hat insufficient ly developed financial inst it ut ions can choke t he posit ive effects of FDI.”

Regar ding the var iables measur ing financial deepening, w e note that inter actions var iables coefficients (FDI * LLYlib, FDI * PRIVYlib, FDI * BANKlib, FDI * VTRADlib and FDI * IDFlib) ar e positive and statistically significant at the 10% level ( except the coefficient of the var iable FDI * CAPBlib is not significant).

The r esults obtained on the coefficient of FDI * CAPBlib inter action is not significant. This r esult seems mor e logical and closer to r eality.

We inter pr et this r esult as follow s:

Fir st, under development of financial mar kets in most countr ies in our sample does not pr omote economic gr ow th. Instead, it has a dir ect negative effect. Indeed, the financi al mar kets of developing countr ies, w hich constitute almost 70% of the countr ies in our sample, ar e of embr yonic char acter . Second, the combined effect of mar ket capitalization and FDI on GDP gr ow th per capita is not significant. In other w or ds, the mar ginal pr oduct of capitalization does not incr ease in the pr esence of for eign dir ect investment.

As in the pr evious section, w e focus, specifically, on the combined effect of cr edit to the pr ivate sector fr om the date of inter est r ates liber alization and FDI on the gr ow th of host countr ies.

The GMM system pr oves that the dir ect effect of cr edit to the pr ivate sector has a negative and not significant dir ect effect on GDP gr ow th per capita. Based on pr evious liter atur e, this r esult seems ver y close to r eality, since most pr ivat e companies in our sample ar e SMEs.

On the other hand, inter action coefficient betw een PRIVYlib and FDI is positive and significant at the 1% thr eshold. This means that the combined effect of FDI and cr edits to the pr ivate sector on gr ow th is positive. Both inter pr etations ar e possible for this r esult: the fir st being that the mar ginal pr oduct of PRIVYlib incr eases w ith FDI, the second being that the mar ginal pr oduct of FDI incr eases w ith mor e cr edit to pr ivate fir ms.

The fir st inter pr etation suggests that small pr ivate businesses can lear n and benefit fr om the pr esence of FDI so that they pr oduce mor e yields w ith cr edits. Thus, thanks to these benefits FDI gener ates mor e efficiency to r aise the yields of local businesses. The second inter pr etation is that FDI mar ginal pr oduct incr eases in the pr esence of an impor tant local economic activity suppor ted by cr edit line. The tw o inter pr etations come dow n essentially to one, r eflecting the link of complementar ity betw een FDI and local businesses pr oductivity in their r elationship w ith economic gr ow th.

Regar ding the var iables of inter est to our study, w e note that the inter actions coeffici ents (FDI * LLYlib, FDI * PRIVYlib, FDI * BANKlib, FDI * VTRADlib and FDI * IDFlib) ar e positive and statistically significant at the 10% thr eshold (except the coefficient of the var iable FDI * CAPBlib that is not significant).

The r esults of the inter action coefficient FDI * CAPBlib is not significant. This r esult seems mor e logical and closer to r eality. We inter pr et this r esult as follow s:

Fir st, development of financial mar kets in most countr ies in our sample does not pr omote economic gr ow th. Instead, it has a dir ect negative effect. Indeed, financial mar kets of developing countr ies, w hich constitute almost 70% of the countries in our sample, ar e embr yonic in char acter . Second, the combined effect of mar ket capitalization and FDI on GDP gr ow th per capita is not significant. In other w or ds, the mar ginal pr oduct of capitalization does not incr ease in the pr esence of for eign dir ect investment.

As in the pr evious section, w e focus, specifically, on the combined effect of cr edit to the pr ivate sector fr om the date of inter est r ates liber alization and FDI on the gr ow th of host countr ies.

The GMM system pr oves that the dir ect effect of cr edit to the pr ivate sector has a negative and not significant dir ect effect on GDP gr ow th per capita. Based on pr evious liter atur e, this r esult seems ver y close to r eality, since most pr ivat e companies in our sample ar e SMEs.

On the other hand, the inter action coefficient betw een PRIVYlib and FDI is positive and significant at the 1% thr eshold. This means that the combined effect of FDI and cr edits to the pr ivate sector on gr ow th is positive. Both inter pr etations ar e possible for this r esult: the fir st being that the mar ginal pr oduct of PRIVYlib incr eases w ith FDI, the second being that the mar ginal pr oduct of FDI incr eases w ith mor e cr edit to pr ivate fir ms. These r esults illustr ate, gener ally, that the inter action betw een financi al system development and FDI has beneficial effects on economic gr ow th. Indeed, the dir ect impact of FDI on gr ow th seems to be negative, but the inter action betw een FDI and liber alized financial system, in par ticular the banking sector , is positive and significant, w hich encour ages the attr action of FDI in host countr ies.

In summar y, FDI and the financial system ar e complementar y in ter ms of str engthening the pr ocess of technology dissemination which allow s for an incr ease in economic gr ow th r ate. This r esult confir ms our assumption that the existence of a cer tain level of financial development, in par ticular a liber alized financial system, may incr ease absor ption capacity in host countr ies. Financial sector development is ther efor e at the hear t of the absor ption capacity of an economy.

We can for w ar d then, accor ding to our r esults, the follow ing point of view : Although most FDIs ar e in the for m of for eign capital, it is essential to admit that the positive impact of FDI on the host economy heavily depends on the ext ent of the development of the local financial syst em.

Contr ol var iables

Regar ding the contr ol var iables, the r esults by the GMM system method estimation seems mor e impor tant than those found by the GMM method in fir st differ ences.

In table 12, w e found a positive and significant i mpact at the 10% thr eshold of the stock of physical capital (CPCA) in all the r egr essions. We found that capital stock level has a positive impact on a countr y's economic gr ow th, w hich confir ms economic theor y. On the other hand, w e found a negative impact of the w or kfor ce (LLF) on gr ow th r ate. This goes against most r esults in the liter atur e on the effect of w or kfor ce on gr ow th. Our r esult could be explained by the fact that w or kfor ce in the countr ies in our sample is not positively involved in the model.

In gr ow th theor y, expor ts w er e consider ed as a r elevant independent var iable for economic gr ow th. Indeed, FDI inflow s ar e expected to incr ease the competitiveness of expor ts of the host countr y and as expor ts incr ease domestic investment, they w ill have a multiplier effect on GDP. Fr om table 12, w e found tr ade openness coefficient significant and positive in all the r egr essions.

10

Our r esults ar e consistent w ith those found by Ljungw all and Khin (2007) and Alfar o et al. (2004) which showed that tr ade openness has been a significant and positive economic gr ow th deter minant.

Gener ally, incr ease in public expenditur e, incr eases r isk to hinder GDP gr ow th. The r elationship betw een this var iable and gr ow th r ate is negative. Fr om the same table, w e notice a negative and significant r elationship betw een the two indicator s. In other wor ds, any incr ease in public expenditur e by a point r educes GDP gr ow th r ate by 2.5%, on aver age. It w as noted that Gw ar tney James et al. (1998) have highlighted the negative r elationship betw een gover nment expenditur e and economic gr ow th for 23 countr ies in the OECD r egion betw een 1960 and 1996. Similar ly, Alesina and Silvia (2009) concluded that unsuccessful r ecover y initiatives, in a gr oup of 21 industr ialized countr ies dur ing the per iod 1970 to 1990, w er e based on public spending.

In the same w ay w e inter pr et the r elationship betw een ext er nal debt and GDP gr ow th r ate. The r esults found indicate a negative and significant r elationship betw een the tw o var iables. Indeed, the six r egr essions indicate a negative and significant r elationship at the 10%

thr eshold. With the exception of the thir d column, the impact of exter nal debt on economic gr ow th r ate is not significant. In the economic liter atur e, incr ease of for eign debt, in par ticular in developing countr ies, can have a long-ter m negative effect on economic gr ow th. Indeed, w hen debtor countr ies ar e unable to quickly fulfil their debt ser vice obligations, they w ill face a deter ior ation of their sover eign r atings and w ill str uggle to bor r ow . Accor dingly, these countr ies w ill pay high r ates for new cr edits. Pattilo, and al. (2002) noted that a debt w hich exceeds the r epayment capacity of a debtor countr y w ill discour age local and exter nal invest ments due to the cost of its ser vice, and thus hamper s economic gr owth. Ther efor e, any incr ease in exter nal debt by a point w ould decr ease GDP gr ow th r ate of the countr ies in our sample by 1.6% on aver age.

As for inflation, w e can notice that it has a negat ive and significant coeffici ent at the 5% and 10% thr esholds in all r egr essions. This r esult is consistent w ith economic theor y, stating that inflation r ate has a dir ect negative impact on economic gr ow th r ate.

The coefficient of institutional quality var iable (MPC) is positive and st atistically significant at t he 5%, thr eshold except for the r egr essions that use var iables fr om the financial mar ket (CAPBlib and VTRADlib). This r esult r eveals the r elevance of civil liber ty and political r ights or even institutional quality as factor s explaining economic gr ow th of countr ies in our sample. We obtained the same r esults as those of Tavar es and Wacziar g (2001) and Rigobon and Rodr ik (2005).

Conclusion

In this study, w e defended the idea that financial liber alization as a deter minant of financial development plays the r ole of a catalyst to str engthen the link betw een FDI and economic gr ow th of the host countr ies. Fur ther mor e, w e investigated the r elationship betw een inter nal financial liber alization and financial sector development. Finally, w e found suppor t to the idea that financial liber alization

impr oves the impact of FDI on economic gr ow th of the host countr y. Ther efor e, the r esults found gener ally confir m our tested theor etical hypotheses. We star ted w ith a descr iptive study of the var ious indicator s and the cor r elation betw een key var iables. The cloud of points of the couple (FDI, Cr edit to the pr ivate sector ) show ed a gener ally positive r elationship.

The GMM system method emer ges fr om the over all negative effect s of financial development on economic gr owth, w hich seems close to r eality because the natur e of our sample (70% of countr ies ar e developing and they ar e char acter ized by a fr agile and embr yonic financial sector ).

The r esults found by this method pr ove that FDI has an impact on GDP gr ow th per capita, a negative dir ect effect and a positive effect w hen it inter acts w ith financial sector development. In par ticular , liber alized financial systems play a mor e impor tant r ole than non-liber alized systems in str engthening the potential of technology tr ansfer and incr easing pr oductivity, ther efor e incr easing economic gr ow th. Indeed, liber alized financial systems play an impor tant r ole in str engthening technological diffusion associated w ith FDI tow ar ds economic gr ow th.

Ther efor e, inter action betw een financial liber alization, as a deter minant of financial development, and FDI exer ts it s beneficial effects on economic gr owth.

In summar y, beyond the tr aditional factor s of FDI location, w e deter mined another motivating factor that seems to have a positive impact on the r elationship betw een FDI and economic gr ow th, that of financial development, in par ticular a liber alized one.

11

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