This study contributes to the empirical literature by investigating the mediation effects of household consumption (HHC) in the linkages between inflows of foreign direct investment (FDI), and gross domestic product (GDP) for Sub-Sahara African Countries (SSA) for 2016. Correlation and robust mediation were used in the analysis. The result of the study shows a positive and statistically significant relation between FDI and HHC. At to the nature of the mediation effects of HHC in the relationship between GDP and FDI, the variance accounted for (VAF) is 94.4% of the total impact of FDI on GDP, indicating a full mediation. SSA should stimulate FDI to boost their economic growth.
The study is inspired by the hypothesis stated by Mamingi and Martin (2018) that the direct effect of FDI on GDP is small when FDI is considered in isolation, but indirect effect is more significant than direct effect. The paper contributes to the existing literature by conducting a quantitative research in contrast of the hypothesis of Moolio and Guech Heang (2013) indicating that indirect impacts of FDI on GDP are analyzed in qualitative approach, but not in quantitative approach.
Inhaltsverzeichnis
Abstract
1. Introductıon
2. Literature Review
2.1. Theoretical Review
2.2. Empirical Review
3. Methodology
4. Research Results
4.1. Descriptive statistics
4.3. Mediation Analysis
5. Result Discussion and Conclusion
5.1. Results Interpretation
5.2. Conclusion
References
Abstract
This study contributes to the empirical literature by investigating the mediation effects of household consumption (HHC) in the linkages between inflows of foreign direct investment (FDI), and gross domestic product (GDP) for Sub-Sahara African Countries (SSA) for 2016.
Correlation and robust mediation were used in the analysis. The result of the study shows a positive and statistically significant relation between FDI and HHC. The study finds also a positive and statistically significant relationship between FDI and HHC. At to the nature of the mediation effects of HHC in the relationship between GDP and FDI, the variance accounted for (VAF) is 94.4% of the total impact of FDI on GDP, indicating a full mediation. SSA should stimulate FDI to boost their economic growth.
Keywords Foreign Direct Investment Inflows, House Hold Consumption, Direct; Indirect, Effects, Gross Domestic Product, Mediation, Sub-Sahara African countries.
1. Introductıon
The objective of this paper is to investigate the mediation effects of house hold consumption (HHC) in the relationship between foreign direct investment (FDI) and gross domestic product (GDP) in Sub-Sahara African countries for 2016. The study is inspired by the hypothesis stated by Mamingi and Martin (2018) that the direct effect of FDI on GDP is small when FDI is considered in isolation, but indirect effect is more significant than direct effect. The paper contributes to the existing literature by conducting a quantitative research in contrast of the hypothesis of Moolio and Guech Heang (2013) indicating that indirect impacts of FDI on GDP are analyzed in qualitative approach, but not in quantitative approach.
Many researchers focused on analyzing direct contribution that FDI may have on GDP/economic growth without focusing on indirect effects produced by FDI. Even though researchers confirmed the existence of indirect effects of FDI, they did neither evaluate them nor investigate to what extent those indirect effects contribute in the process of economic growth. This constitutes a limitation of the existence literature on the impact of FDI on GDP. Analyzing direct effect without evaluating indirect effects, and the way they affect economic growth constitutes an underestimation of the FDI’s real contribution to receiving country. Mamingi and Martin (2018) affirmed that even though FDI positively affects growth, its impact is minimal when considered in isolation. They confirmed that the significant effect of FDI is rather indirect than direct.
Despite the fact that less attention was paid to quantitative analysis of indirect effects produced by FDI, researchers do not deny the existence of such indirect effects. For instance, Argiro (2003) indicated that FDI has direct, and indirect positive effect on the growth rate of European Union economies through trade reinforcement. According to the author, FDI may raise the productivity in the receiving country and exports. This increase in productivity in turn, may indirectly affect exports. Moolio and GuechHeang (2013) indicated that indirect impacts of FDI on GDP are analyzed in qualitative approach, but not in quantitative approach. They indicated that the job creation contributes to poverty reduction. The ambiguous in findings related to the impact of FDI on GDP may be the result of the gap of knowledge in the research regarding the mechanism through which FDI contributes in the economic growth in the receiving country (Moura, & Forte, 2009). Casi and Resmini (2011) indicated that the indirect effects of FDI are able to potentially affect all variables included in the production function, and that increases the impact of FDI. Denisia (2010) showed that effects of FDI on economic development are complex, as researchers found a positive and negative effects of FDI. This complexity may be to the fact that the effect of FDI on growth differs significantly from one group of countries to another as indicated by Mamingi and Martin (2018). Selma (2013) indicated that FDI has both direct and indirect effects on employment. However, he did not show how those indirect effects increase GDP. Besides (2012), indicated that in addition to externalities, technology spillovers, human capital training, efficiency, and productivity are among factors that indirectly increase GDP in the economic growth of receiving country.
A country’s economy may be considered as a compound of variables where a change in one variable may affect other variables. For instance, a company created by a foreign investor will lead in hiring employees; the hired employees will get salaries and wages. The increase in the employees’ income will increase the demand in goods and services. The increase in demand of goods and services will increases the production of suppliers. The increase in the demand may lead to recruitment of new employees and new investment by the suppliers. Without forgetting that there the created company will be tax on revenue, and tax of wages and salaries. All those spillovers may have an impact on GDP. An increase in household consumption will increase the GDP.
Besides the existing literature about the direct effects on FDI on GDP, mediation analysis of HHC in the relation between GDP and FDI has not been established as yet in SSA. As result, this study examines the mediation effects of HHC in SSA. The exiting literature focused on developing countries, with little interest to investigate the mechanism by which FDI has effect on GDP for the Sub-Saharan Africa (SSA) countries. The studies related to indirect effects of FDI did not connect those effects to GDP. Additionally, the contradictory findings on the impact of FDI on GDP justify the need for further research on the relationship between the variables to enhance understanding of such relationship.
The primary objective of this study is investigating the mediation effects HHC in the relationship between FDI and GDP in Sub-Sahara African countries. Specifically, the study addresses the following sub-objectives:
- Identifying the significance, and the direction of the relationship between GDP and FDI in SSA.
- Examining the significance, and the direction of the relationship between FDI and HHC.
- Investigating the nature of the mediation effects of HHC in the relationship between GDP and FDI.
2. Literature Review
2.1. Theoretical Review
The World Bank (2020) indicated that FDI are direct investment equity flows in the reporting economy, corresponding to a sum of equity capital, reinvestment of earnings, and other capital. Direct investment is a kind of cross-border investment associated with a resident in one economy having control or a significant degree of influence on the management of an enterprise that is resident in another economy. The criterion used in defining direct investment relationship is having 10 percent or more of the ordinary shares of voting stock. HHC or private consumption refers to the market value of all goods and services, adding durable products (such as cars, home computers and washing machines), purchased by households. Many theories have been developed by researchers to explain the impact of FDI on receiving country. Djordjevic, Ivanovic and Bogdan (2015) indicated that the economic theory, believes that the expected results of FDI in the host country are economic growth, positive impact on foreign exchange, unemployment reduction, increase labour productivity and more exports. Hodrob and Maitah (2015) summarized two most influential theories including the modernization and dependency theories. They indicated that modernization theories got root on the neoclassical and endogenous growth theories, which hypothesized that FDI could promote economic growth in developing countries. The modernization is built on a fundamental principle in economics that economic growth requires capital investment. Regarding the new growth theories, Many theories have been developed indicated that the transfer of technology through FDI in developing countries is crucial because most developing countries lack the required infrastructure in regarding educated population, liberalized markets, economic and social stability that are needed for innovation to promote growth. Nonetheless, dependency theories stated that foreign investment leads to negative impact on economic growth and income delivery. The supporters of the theories argued that FDI generates a monopoly industrial structure that results in underutilization of prolific. The process may pass through the control of the local economy, and would not lead to original progress as the multiplier effect that causes demand in one area to generate demand in another area of a country is weak and consequently slowing growth in the developing countries (Hodrob & Maitah, 2015). Empirical results confirmed both positive, and negative impact of FDI on GDP.
2.2. Empirical Review
There has been an increasing number of empirical studies which focused on the effects of FDI on GDP in receiving country economies. The finding however, have been mixed. Some studies found evidence supporting the theoretical prediction on the existence of positive and negative effects from FDI. Sokang (2018) showed a proliferation of a widespread belief among international institutions, academicians, policymakers, and researchers that FDI has a huge positive impact on the economic growth of developing countries. The supporters of this hypothesis argued that FDI contributes in the economic growth of the receiving country by increasing capital accumulation, bringing new technologies and know-how skills, increasing competence of employees, having access on global markets, increasing productivity through competition, increasing exports and imports, getting international currencies, and increasing managerial capacity in receiving country (Amoh, Abdallah & Fosu, 2019, Jumanne & Keong, 2018 ; Denisia, 2010; Modou & Liu, 2017; Moolio & GuechHeang, 2013, Sokang, 2018). The Food and Agriculture Organization of the United Nations (2013) stated the importance for any international investment to bring development benefits to the host country concerning technology transfer, employment creation, upstream and downstream linkages, and so on in case of “win-win” investments rather than “neo-colonialism”.
However, the listed beneficial flows are not automatic as much care must be taken in the formulation of investment contracts and selection of business model. Host country should also have an appropriate legislative and policy frameworks. All those researchers are in line with modernization theories. A study conducted by Hojjati (2015) to investigate the relationship between economic growth and the inflow of FDI in the SSA (41 countries), using regression showed that FDI has a positive effect on economic growth in the receiving countries. Abbas, Akbar, Nasir, Aman and Naseem (2011) used multiple regression models, and concluded on a positive and significant relationship between GDP and FDI in South Asian Association for Regional Co-Operation. Tamilselvan and Manikandan (2015) used simple regression between FDI and GDP including 23 years, their results showed that FDI had a positive impact on GDP in India economy.
On the side on negative effects of FDI, Vissak and Roolaht (2005) identified many ways by which FDI could affect host country. They indicated there is no regularity of FDI inflows which can destabilize a country’s economic development and complicate the application of economic policy instruments. Additionally, foreign capital may be concentrated in certain sectors ignoring other sectors. The authors indicated large FDI inflows can lead to the emergence of parallel economy. Finally, they indicated FDI inflows can lead governments to use the money received from privatization for financing the central budget deficit.
Edrees (2015) analyzed 39 Sub-Saharan African countries for 1992 to 2012. Using pooled mean group estimator, he found that revealed that the impact of FDI on economic growth was negative and statistically significant in low-income and middle-income countries. Sukar, Ahmed and Hassan (2007) investigated the effect of FDI on economic growth in SSA. They used augmented endogenous growth model with data from1975 to 1999. They found that FDI had marginally significant positive effect on economic growth. However, Jugurnath, Chuckun and Fauzel (2016) analyzed 32 Sub-Saharan African countries for 2008 to 2014. The result of static panel regression techniques and dynamic panel showed that FDI had a positive and significant impact on economic growth. Tsatsaridis (2017) investigated 43 SSA for the years between 1996 and 2016. The results of ordinary least squares regressions with country fixed effects and cointegration tests showed existence of a statistically significant impact of FDI on the growth of GDP.
There are still gags in the analysis of the relationship between FDI and GDP. There also many methodologies followed by researchers to examine the relationship between FDI and GDP. The conflicting result may be the consequence of the lack of common understanding of the methodology used in various analyses. For instance, Ward, Lee, Baptist and Jackson (2010) showed that the limitation of ordinary least squares is the results can be misleading if a factor is not included in the estimation that affects both variables. Hanousek, Kocenda and Maurel (2010), after concluding on the existence of direct and indirect effects of FDI in emerging European markets, indicated that panel studies are seemingly to find relatively lower spillover effects.Crawford (2014) indicated the limitation of correlation analysis such correlations are different from causation. This indicates that it is impossible to claim that one co-variable actually causes the other co-variable, as it could be that a third unknown variable (a mediating variable ) that may cause both variables to change together. It is very hard to find cause and effect. Additionally, correlation is only capable of detecting a linear relationship and fails to handle nonlinear relationship (Kwon, 2011).
3. Methodology
To achieve the objective this study, mediation approach is adopted to find direct and indirect of FDI on GDP. The choice of this approach is based on the fact that mediation analyses are used to understand a known relationship by investigating the underlying mechanism or process by which independent variable influences dependent variable through a mediator variable. Moreover, mediation analysis gives a better understanding of the relationship between the independent and dependent variables when the variables appear not to have a definite connection (Omokri, Agbedey and Nwajei, 2018). According to these authors, many approaches can be followed such testing the hypothesis H0: ab = 0; bootstrap resampling method are able to provide more accurate confidence limits. Additionally, they indicated that two main methods are generally used such Baron and Kenny method, and bootstrap resampling procedure.
Topi (2011) indicated ways to calculate GDP by using value added (or production) approach, difference between gross output of different industries and intermediate inputs to avoid double counting; by using income (by type) approach, it is a sum of all income earned by different factors of production. The last method is using final demand (or expenditures) approach, which measures the activities, such as investment and consumption across different industries and imports deducted from exports. Using the final demand approach, the equation become: GDP = C + I + G + (X – M) where C is consumption of final goods and services by the households, I is investment in things such as plants, equipment and software, G is government expenditures on goods and services, X is exports and M is imports.
The choice of HHC as mediator variable, and omitting other variables of the equation of GDP like imports (IMP), gross capital formation (GCF), exports (EXP), and governance expenses (GE), is to avoid the problem of multicollinearity in the regression analysis in Baron and Kenny procedure. Those variables are highly correlated to HHC. The correlation between HHC and IMP is 0.80, HHC and GCF is 0.93, HHC and FDI is 0.64, HHC and GE is 0.71, HHC and GDP is 0.96, and HHC and EXP is 0.73. Tingley, Yamamoto, Hirose, Keele and Imai (2014) indicated that the standard procedure for analyzing causal mechanisms is based on linear regression models and then the estimates of “mediation effects” are computed from the fitted models. The procedure proposed by Baron and Kenny’s method is explained by Pardo & Román (2013) as follows variables X and Y must be related, that means, the coefficient c in Figure 1 must be different to zero in the expected direction. Variables FDI and HHC must be related, this implies, coefficient a from figure 1 must be different to zero. Variables M and Y must be related once the effect of X is controlled, it means, coefficient b from figure 1 must be different to zero. The relationship between FDI and GDP must be significantly reduced when controlling the effect of HHC. Consequently, coefficient c’ (direct effect in figure 1) must be smaller than coefficient c (total effect in Figure 1).
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Figure 1: Mediation path analysis (source: Author’s computation)
Baron and Kenny test was criticized by other authors indicating that mediation may work out even when there is no statistical significance within the direct path (X → Y). The reason it has been developed bootstrap method which does not rely on the assumption of normality, and is thus also fit for smaller sample sizes (Hadi, Abdullah & Sentosa, 2016).Omokri, Agbedey and Nwajei, (2018) added that bootstrap resampling procedure is more performing than Baron and Kenny method.
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