The effect of institutional factors on inward FDI in Asian developing countries

Abstract

This study aims to examine the effect of institutional factors on inward foreign direct investment (FDI), using data from 23 Asian developing countries in the middle-income group from 1996 to 2021. The findings show that institutional factors such as control of corruption, government effectiveness, political stability, regulatory quality, and the rule of law, as well as macroeconomic factors such as Gross Domestic Product (GDP), trade openness, inflation, and exchange rate, are important determinants of FDI inflows into these countries. Although the results are mixed overall, upper-middle-income countries with higher quality in each institutional aspect can attract more FDI, whereas lower-middle-income countries see the opposite effect. In Asian developing countries, higher FDI appears to be associated with lower institutional quality. This effect is less pronounced in countries with higher GDP, greater trade openness, and higher inflation. Even though weak institutions have attracted FDI, Asian developing countries should not rely on this in the long run. They should increase the quality of their institutions in order to attract FDI in the future.