The Effect of Transparency, Accountability and Corruption on Foreign Direct Investment in Developing Countries

By Rady, Tamer | Journal of Business and Behavior Sciences, Spring 2018 | Go to article overview

The Effect of Transparency, Accountability and Corruption on Foreign Direct Investment in Developing Countries


Rady, Tamer, Journal of Business and Behavior Sciences


INTRODUCTION

Lack of transparency and accountability has been studied rigorously in the literature trying to tie corruption to economic growth via different mechanisms. Much of the empirical studies have shown evidence of lack of transparency hindering growth and development through increasing costs of investment, scaring offforeign direct investment, increasing political turmoil thus rendering many governments unable to take corrective economic actions. Few empirical studies have demonstrated to the contrary, that a certain degree of corruption enhances businesses; however, the later represent a minority in this field. This paper will examine the effect of the lack of transparency and accountability and the quality of institutional management in the public institutions on foreign direct investment in developing nations. Hence, this paper focuses on a small channel that ties the aspects of transparency in the quality of public institutions to foreign direct investment only in developing nations analyzing data of fifty nations covering the period between 2005 and 2015. The paper is divided into three sections, the first section covers literature review, the second covers the methodology, model, data, and results and the final section presents the conclusions.

LITERATURE REVIEW

A center piece in the literature on corruption is Mauro (1995). Mauro identified several channels through which corruption and other institutional factors affect economic growth and attempted to quantify the magnitude of such effects. Mauro presented a cross-country empirical analysis that tied up indicators of bureaucratic honesty and efficiency to economic growth. He analyzed a data set consisting of subjective indices of corruption, amount of red tape, efficiency of the judicial systems, and other various categories of political stability for a cross section of countries. His data covered 56 countries over the period from 1980 to1983, and 30 countries over the period from 1971 to 1979. His results indicated a significant and robust negative relation between different forms of corruption and lower investment.

G. d'Agostino and Pieroni (2016) introduced an endogenous growth model that incorporated different categories of government expenditures and World Bank Control of Corruption index, Corruption Perception Index and others as as proxies for the degree of corruption. The model was tested on several African countries on data that covered the period from 1996 to 2010. Their results are rather interesting; they did confirm a negative relationship between corruption and growth through several government expenditure channels, in particular military spending. Their conclusion is that countries with relatively high military spending and higher corruption level are the worst when it comes to growth, an effect that seemed to decrease with the increase of a country's natural resources. The results imply that when studying the effects of corruption on economic growth it is critical to consider the indirect and direct impact and other effects that prevail through the interaction of corruption and different types of government spending. They point out that failure to do so is likely to lead to a serious misunderstanding of the way in which corruption can affect development. Their results point out that countries in Africa that effectively fight corruption are likely to see a reduction in their military spending as well as a direct improvement in their economic achievements.

Hodge et al. (2011) proposed an econometric model to examine the channels through which corruption can indirectly affect growth. The study covered a cross-section of 81 countries for the time period from 1984 to 2005. The main data on corruption were proxied from the dataset constructed by Political Risk Services (ICRG 2006). Their results suggest that corruption hinders growth through its adverse effects on the regular channels of investment, human capital, and political instability. …

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