Home Country Determinants of Outward Foreign Direct Investment: from Which Countries Does the Republic of Ireland Attract Foreign Direct Investment?
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Home Country Determinants of Outward Foreign Direct Investment: From which countries does the Republic of Ireland attract Foreign Direct Investment? BACHELOR THESIS THESIS WITHIN: Economics NUMBER OF CREDITS: 15 ECTS PROGRAMME OF STUDY: International Economics AUTHOR: Mark Stribling & Ville Viinikainen JÖNKÖPING May 2021 Bachelor Thesis in Economics Title: Home Country Determinants of Outward Foreign Direct Investment: From which countries does the Republic of Ireland attract Foreign Direct Investment? Authors: Mark Stribling and Ville Viinikainen Tutor: Andrea Schneider, PhD Date: 2021-05-24 Key terms: Foreign Direct Investment, Home Country Determinants, Macroeconomic Factors, Market Size, Corporate Tax Abstract The flow of foreign direct investment (FDI) into a country can benefit both the investing entity (the home country) and the host country. The determinants of FDI are a highly discussed topic, with various determinants being analysed and discussed over time. Multiple research papers focus on the determinants of the host country, which try to identify the most important factors that make countries attractive to investment from abroad. This paper aims to shed light on the home country determinants and their relationship with investments into the Republic of Ireland. Using panel data analysis for 28 different countries around the world from the years 2012 to 2019, this paper aims to find relationships between different home country related variables and FDI flows into the Republic of Ireland. We find evidence that FDI is positively associated with the market size of the home country, the corporate tax rate difference between the home and the host country and sharing an official language. On the other hand, population and distance were found to be negatively associated with FDI. Based on the results of our analysis, a discussion of the home country determinants and their impact on FDI into Ireland is presented. i Table of Contents 1. INTRODUCTION ......................................................................... 1 2. LITERATURE REVIEW ............................................................. 5 2.1 Previous empirical studies regarding FDI ........................................................... 5 2.2 The specific case of Ireland regarding FDI from previous studies ..................... 6 3. THEORETICAL FRAMEWORK .............................................. 9 3.1 Foreign Direct Investment .................................................................................. 9 3.2 Market Size ....................................................................................................... 10 3.3 Population ......................................................................................................... 11 3.4 Corporate tax ..................................................................................................... 12 3.5 Distance ............................................................................................................. 14 3.6 Language ........................................................................................................... 15 3.7 Other factors ...................................................................................................... 17 4. DATA ............................................................................................ 19 4.1 Dependent and Independent Variables.............................................................. 19 4.2 Descriptive Statistics ......................................................................................... 20 4.3 Expected Results ............................................................................................... 22 5. EMPIRICAL ANALYSIS ........................................................... 23 5.1 Specification of the empirical model ................................................................ 23 5.2 Results ............................................................................................................... 24 6. DISCUSSION ............................................................................... 28 7. CONCLUSION ............................................................................ 30 7.1 Suggestions for Future Research ....................................................................... 31 Reference list .............................................................................................. 34 Appendix ..................................................................................................... xl ii GLOSSARY Abbreviation Meaning Asian Tiger Economies Hong Kong, Singapore, South Korea, and Taiwan EEC European Economic Community EU European Union FDI Foreign Direct Investment FEM Fixed Effects Model GDP Gross Domestic Product GVC Global Value Chain IDA International Development Agency MNC Multinational Corporation OECD The Organisation for Economic Co-operation and Development OLS Ordinary Least Squares ROI The Republic of Ireland UNCTAD United Nations Conference and Development UK United Kingdom US United States iii 1. INTRODUCTION Ireland’s economic history has long been one of stagnation and hardship, with its economy performing poorly throughout much of the 19th and 20th centuries. In the 20th century, this had peaked, with Ireland being considered as one of the poorest nations in Western Europe at the time (Dorgan, 2006). However, this evolved with the remarkable boom of the Irish economy in the 1990’s, as shown in Figure 1, which came to see the country referred to as the “Celtic Tiger,” a term coined to show the similarities between the Irish economy and the Asian Tiger economies at the time, which were also experiencing substantial economic growth. Fuelled by an ever-growing flow of inward foreign direct investment (FDI), mainly from the United States from 1994 - 2007, this boom saw the Irish economy grow precipitously. Since then, although badly affected by the Financial Crash of 2008, the economy of the Republic of Ireland (ROI) has continued to grow rapidly, utilising a low rate of corporate tax, which has led to an increase in the trade competitiveness of Ireland as it was able to attract more inward FDI flows from abroad. This is evident in Figure 2, where the FDI inflow per capita from 2009 to 2018 is considerably higher in Ireland than the OECD (The Organisation for Economic Co- operation and Development) average. Today Ireland is one of the most FDI-reliant countries in the European Union (EU), attracting $75 billion of inward FDI flows in the first six months of 2020 alone (Central Statistics Office, 2020). Moreover, Ireland experienced the fastest GDP in the developed world in the year 2020, fuelled by the contributions of FDI into the country, mainly to the pharmaceutical and technological sectors (McHugh, 2021). Furthermore, due to Ireland’s impressive execution in attracting foreign investment into the country, it has been named the best country in the world for attracting high-value foreign direct investments for six consecutive years from 2011 to 2016 (Taylor, 2017). The above-stated reasons are why Ireland is selected as the sole host country for analysis in this thesis. 1 Figure 1 GDP (current US$) of The Republic of Ireland Source: World Bank (2021a) This paper will examine the determinants of numerous countries worldwide that affect FDI flows into Ireland, based on previous literature related to FDI, literature based on Ireland’s attractiveness as a destination for FDI, and literature associated with FDI outflows. Moreover, this paper will empirically show the significance and impact that the determinants: market size (related to GDP), population, corporate tax, distance, and language have on FDI flows from the chosen home countries to Ireland. The purpose of this thesis is to answer the following research using panel data for the period 2012-2019: From which countries does Ireland attract FDI? This paper aims to show which countries Ireland attracts FDI from and the most significant determinants of FDI flows into Ireland from the chosen home countries. Previous research has concentrated on determinants of the host country for FDI flows into Ireland, showing what makes Ireland an attractive location for investment. Therefore, this paper aims to fill the literature gap currently present, with little research focussing on the determinants of the home countries regarding FDI flows into Ireland, showing from which countries Ireland attracts FDI. Previous literature has concentrated on individual determinants of the host country, with a significant focus on corporate tax rates, indicating that the low rate of corporate tax has had a positive impact on inward FDI flows into Ireland (Gunnigle and McGuire, 2001; Barry, 2003; Sweeney, 2010; Brazys and Regan, 2017). 2 Due to Ireland’s low rate of corporate tax, numerous multinational corporations (MNC) have used this to their advantage, with the notable inclusion of Apple using Ireland as a route to avoid paying large tax bills from their European and international operations. By using Ireland as a tax haven to avoid the US and Irish tax regulations, Apple, from the years 2003-2014, was found by the European Commission to have an unpaid tax bill to the Irish government amounting to $14.5 billion (Barrera and Bustamante, 2017). Figure 2 FDI inflow per capita (current US$) comparison between OECD countries and Ireland Source: World Bank (2021b) and World Bank (2021c) Section 2 gives an overview of the previous literature available regarding FDI and shows its