The Political Economy of United States Foreign Direct Investment in Developing Countries: An Empirical Analysis

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A nation has three priorities in designing its foreign policy according to Karl Deutsch (1978). First, the country seeks to preserve its security and independence. Second, it pursues and protects its economic interests, especially those of powerful domestic interest groups. Finally, the nation attempts to spread its ideology. In his argument in support of the state-centered system, Krasner (1978) echoes Deutsch's first priority when he suggests that government officials protect and promote broad national security interests and thus develop a distinctive and autonomous set of preferences.

Trade embargoes and the granting or revocation of most favored nation status are two examples of the use of economic policies as instruments of foreign policy. Another example is the use of military and economic aid to achieve foreign policy goals. According to Guess (1986), many observers note the link between foreign aid and foreign policy, and "foreign aid is evaluated by the success of vague foreign policy doctrines such as 'containment' or 'frontiersmanship.'."

Another instance of the use of economics as an instrument of foreign policy involves multinational corporations abroad. Bergsten, Horst, and Moran (1978, p. 324) discuss a neomercantilist interpretation of the relation between U.S. foreign direct investment (FDI) and American interests, where "the government uses the activities of business abroad to advance the interests of the state." Multinational corporations are vehicles that promote the free enterprise ideology of the western bloc and demonstrate its superiority over communism. Several authors discuss the linkages between United States' foreign direct investment abroad and United States' foreign policy.(1)

The simultaneous effects of politics and economics upon foreign direct investment are obvious according to Schneider and Frey (1985), yet empirical investigations of this joint influence are insufficient. This insufficiency is due in part to the small number of studies that incorporate both economic and political determinants of foreign direct investment. In addition, Schneider and Frey argue that the theoretical basis of these works is vague and the estimation methods awkward and difficult to interpret.

The empirical analysis of U.S. foreign direct investment presented here addresses the insufficiency noted by Schneider and Frey (1985) by incorporating independent variables designed to represent economic and political influences upon foreign direct investment. This study adds to the previous research because it analyzes U.S. foreign direct investment in developing countries instead of total foreign direct investment. A review of past studies provides a basis for the selection of the independent variables, which, in turn, provides a stronger basis for the empirical analysis. Some independent variables are included to represent a neomercantilist view of foreign direct investment. Combined cross-section, time series data for the years 1978 through 1986 show that both political and economic variables influence flows of U.S. foreign direct investment to 54 developing countries.


The most important role a government plays in encouraging foreign direct investment is participation in loan and risk-sharing agencies, according to Whitman (1967). These agencies find investment opportunities and make them known to potential private sector investors. The government may control investment activities by using its own selective criteria to determine whether it will assist any given investor.

In his study of the Overseas Private Investment Corporation (OPIC, a risk-sharing government agency), Brennglass (1983, p. 261) concludes that "(OPIC) has always been immediately connected with U.S. foreign policy." OPIC is a government-administered program to guarantee American investors abroad against losses from political risks in host countries. …