Financial Globalization, Convergence, and Growth: The Role of Foreign Direct Investment

Abstract

Using a panel data set covering 139 countries over the 1970-2009 period, we empirically investigate the role of foreign direct investment on growth through diffusion of technology and innovation. Using an otherwise standard growth regression and regressions on productivity growth, we introduce a direct effect of foreign direct investment, which may be proxying for innovation, and an indirect effect, to capture the role of technological catch-up. We find that these two mechanisms have a positive effect on productivity growth and on GDP growth. These results are consistent with an open economy model, in which foreign direct investment affects growth through diffusion of technology and innovation.

Keywords: foreign direct investment, composition of foreign capital, diffusion of technology, catch-up, convergence, growth

JEL Classification: F21, F36, F43, O47