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Agglomeration Effects in Foreign Direct Investment and the Pollution Haven Hypothesis

43 Pages Posted: 29 May 2008 Last revised: 23 Oct 2013

Ulrich J. Wagner

Department of Economics, University of Mannheim

Christopher Timmins

Duke University - Department of Economics

Abstract

Does environmental regulation impair international competitiveness of pollution-intensive industries to the extent that they relocate to countries with less stringent regulation, turning those countries into "pollution havens"? We test this hypothesis using panel data on outward foreign direct investment (FDI) flows of various industries in the German manufacturing sector and account for several econometric issues that have been ignored in previous studies. Most importantly, we demonstrate that externalities associated with FDI agglomeration can bias estimates away from finding a pollution haven effect if omitted from the analysis. We include the stock of inward FDI as a proxy for agglomeration and employ a GMM estimator to control for endogenous, time-varying determinants of FDI flows. Furthermore, we propose a difference estimator based on the least polluting industry to break the possible correlation between environmental regulatory stringency and unobservable attributes of FDI recipients in the cross-section. When accounting for these issues we find robust evidence of a pollution haven effect for the chemical industry.

Keywords: agglomeration effects, congestion effects, environmental regulation, foreign direct investment, German manufacturing, panel data, pollution havens

JEL Classification: F18, F23, Q52

Suggested Citation

Wagner, Ulrich J. and Timmins, Christopher, Agglomeration Effects in Foreign Direct Investment and the Pollution Haven Hypothesis. Environmental and Resource Economics, Forthcoming; Economic Research Initiatives at Duke (ERID) Research Paper No. 22. Available at SSRN: https://ssrn.com/abstract=1138337

Ulrich J. Wagner (Contact Author)

Department of Economics, University of Mannheim ( email )

L7, 3-5
Mannheim, 68131
Germany
+49 621 181 1420 (Phone)

HOME PAGE: http://wagner.vwl.uni-mannheim.de

Christopher D. Timmins

Duke University - Department of Economics ( email )

213 Social Sciences Building
Box 90097
Durham, NC 27708-0204
United States
919-660-1809 (Phone)
919-684-8974 (Fax)

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