Determinants of foreign direct investment inflows: the role of economic policy uncertainty

Abstract

This article investigates the impacts of the domestic economic policy uncertainty (EPU) and the World Uncertainty (WUI) on net foreign direct investment inflows (FDI) for 21 economies over the period 2003–2013. By using the sequential (two-stage) technique of linear panel data models, this study provides two major results. First, the growth rate of domestic EPU adversely affects FDI inflows. Second, when combined with the domestic EPU level, the World Uncertainty (WUI) that includes the economic policy uncertainty measure of 143 countries has a positive impact on the FDI inflows into the host country. The findings suggest that although domestic economic policy uncertainty has an adverse effect on FDI inflows; an increase in the global (world) economic policy uncertainty could increase FDI inflows into the country. We explain this systematic aversion to global uncertainty through the existence of a behavioural bias (anchor and adjustment) illustrating the investors’ sensitivity to their ability to associate a frame to uncertainty.