Investment and Sources of Investment Finance in Developing Countries

Abstract

This paper uses annual aggregate data for 36 low or middle income countries covering the period 1995-2001 to test the responsiveness of investment to the sources of finance under (un)favourable regimes for investment. Two sources of private investment finance are considered: private investment and FDI inflows. We use four governance measures (voice and accountability, regulatory quality, political stability and control of corruption) to distinguish between 'market-friendly' (favourable) and 'market-unfriendly' (unfavourable) regimes. The results suggest that private investment has a greater effect on total investment than FDI in unfavourable regimes whereas both are of similar importance in favourable regimes. Finally, as would be anticipated, total investment levels are higher under favourable regimes.

Keywords: Foreign direct investment, Private investment, Institutions, Developing countries

JEL Classification: E20, F21