Fortune or Evil? The Effect of Inward Foreign Direct Investment on Corruption

International Studies Quarterly, Vol. 60, No. 4, pp. 693-705, 2016

68 Pages Posted: 8 Jan 2009 Last revised: 22 Feb 2017

See all articles by Pablo M. Pinto

Pablo M. Pinto

University of Houston

Boliang Zhu

Pennsylvania State University - Department of Political Science

Date Written: June 23, 2009

Abstract

We analyze how one of the central drivers of globalization, foreign direct investment (FDI), relates to the prevalence of corruption. According to received wisdom, the link between globalization and corruption depends on the presence of proper political institutions and practices. We develop an alternative explanation that looks at the effect of inward FDI on host market dynamics, which in turn affect the opportunities for rent creation. We argue that, in less developed countries, FDI inflows can increase market concentration, resulting in higher rents that public officials can demand from market actors. Yet, the positive association between inward investment and corruption is mitigated in more developed economies. There, foreign entry into a market populated by productive indigenous firms promotes competition and reduces rents. This lowers opportunities for corrupt behavior. We test this nonlinear relationship between FDI and corruption in an instrumental variable two-stage least squares setting. The results indicate that FDI is indeed associated with higher levels of corruption in less developed countries, but not in developed countries. Our findings highlight the role of globalization in shaping host countries’ market dynamics, which often set the parameters of political outcomes.

Keywords: foreign direct investment, corruption, instrumental variables

JEL Classification: D72, D73, F21, F23, C12

Suggested Citation

Pinto, Pablo M. and Zhu, Boliang, Fortune or Evil? The Effect of Inward Foreign Direct Investment on Corruption (June 23, 2009). International Studies Quarterly, Vol. 60, No. 4, pp. 693-705, 2016. Available at SSRN: https://ssrn.com/abstract=1324750 or http://dx.doi.org/10.2139/ssrn.1324750

Pablo M. Pinto (Contact Author)

University of Houston ( email )

TX 77204-3011
United States
7137432540 (Phone)

HOME PAGE: http://pablopinto.com

Boliang Zhu

Pennsylvania State University - Department of Political Science ( email )

University Park, State College, PA 16801
United States

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