The Effect of Corruption on FDI Inflow: Empirical Evidence from Panel Data of East Asian Economies

The Effect of Corruption on FDI Inflow: Empirical Evidence from Panel Data of East Asian Economies

Aye Mengistu Alemu (Ph.D)Assistant Professor, SolBridge International School of Business, 151-13 Samsung 1-dong, Dong-gu, Daejeon 300-814, Korea; E-Mail: ayem2011@solbridge.ac.kr; Tel: +82-109818-2327

AbstractThis study has made fresh insights and investigates the effects of corruption on FDI inflow for a panel of 16 Asian economies from 1995-2009. The empirical result suggests a one unit increase in the level of corruption triggers a decrease in FDI inflow by approximately 3.4 percentage points. Thus, some of the arguments that corruption does not keep FDI out of those corrupt countries were either flawed or invalid. In fact it is reasonable to claim that some of the countries that are characterized by high level of corruption but also with a remarkable FDI inflow could even double their inward FDI if they manage to reduce the present pervasive level of corruption.

Key Words: Corruption; FDI Inflow; Panel Data; REM, FGLS; Economic Growth; Openness; Human Capital

IntroductionUntil recently, there was a strong consensus in the literature that multinational corporations (MNCs) invest in specific locations mainly because of strong economic fundamentals in the host countries for example, large market size, stable macroeconomic environment, availability of skilled labor, infrastructure etc and thereby influence the attractiveness of the country to FDI inflows (Dunning 1993, Globerman and Shapiro 1999, Shapiro and Globerman 2001). However, the host countrys economic fundamentals may not be sufficient for inward FDI. Therefore it now becomes important to study afresh what determines inflow of FDI. In this regard, one of the most damaging risks that TNCs must consider in entering emerging market economies is the threat of corruption, which undermines economic reform and, ultimately, national economic stability. Moreover, corruption raises the cost of doing business, distorts the allocation of resources and the price of goods and services for consumers, and discourages foreign direct investment (Zhao, Kim, and Du, 2003). For instance, Surveys of private firms in Latin America found that corruption negatively affects sales, investment, and employment growth, thereby reducing firm competitiveness without producing any positive effects (Gaviria, 2002). According to Myint (2000), corruption is defined as the use of public office for private gain, or in other words, use of official position, rank or status by an office bearer for his own personal benefit. Following from this definition, examples of corrupt behavior would include: (a) bribery, (b) extortion, (c) fraud, (d) embezzlement, (e) nepotism, (f) cronyism, (g) appropriation of public assets and property for private use, and (h) influence peddling. In this list of corrupt behavior, activities such as fraud and embezzlement can be undertaken by an official alone and without involvement of a second party. While others such as bribery, extortion and influence peddling involve two parties the giver and taker in a corrupt deal. Political corruption by public officials can assume many forms, including bribery, embezzlement, extortion, nepotism, and graft (where public officials either directly steal public funds or illegitimately benefit from public funds). This freedom index is an indicator of the degree to which an economy is free of such forms of corruption. Similarly, the World Bank focuses on the abuse of public power for private benefits in defining corruption (Tanzi, 1998). Similarly, Busse et al. (1996) define corruption as the use of power by government and quasi-government officials and agents to extract quasi rents from businesses for their own profit. Given this simple but broad definition, corruption is sometimes all inclusive, taking into account bribes, bureaucratic and institutional inefficiency, and political instability (Habib and Zurawicki, 2001). Corruption exists throughout the world, in developed and developing countries alike. In recent years there have been significant increases in the attention paid in corruption, in part due to (1) series of high level corruption cases in industrialized countries, (2) due to an increasing awareness of the costs of corruption throughout the world and, (3) due to the political and economic changes which many countries are undergoing (Lawal, 2007). Corruption is worse in countries where institutions, such as the legislature and the judiciary are weak, where rule of law and adherence to formal rules neither are nor rigorously observed, where political patronage is standard practice, where the independence and professionalism of the public sector has been eroded and where civil society lacks the means to bring public pressure to bear (Lawal, 2007). Generally speaking, corruption is a serious economic, social, political, and moral blight, especially in many emerging countries. It is a problem that affects companies in particular, especially in international commerce, finance, and technology transfer. And it is becoming an international phenomenon in scope, substance, and consequences (Argandona, 2007). Corruption, the abuse of public power for private gain, creates uncertainty regarding the costs of operation in the country. It acts as an irregular tax on business, increasing costs, and distorting incentives to invest (Shleifer and Vishny, 1993; Mauro, 1995; Wei, 2000a). Furthermore, it limits economic growth because it reduces the amount of public resources, discourages private investment and saving and impedes the efficient use of government revenue and development assistance funds.

The Linkage between Corruption and InvestmentThe effect of corruption on investment is still debatable. Many empirical studies provide support for the idea that corruption in the host country is negatively related to FDI (Wei, 2000a, Wei, 2000b, Habib and Zurawicki, 2001; Lambsdorff, 2003). However, some scholars argue that corruption can have a positive impact on investment by facilitating transactions in countries with excessive regulations (Huntington, 1968; Leff, 1989; Wheeler and Mody, 1992; Henisz, 2000). According to those researchers, some countries with high level of corruption, such as China, India, or Nigeria, are the recipients of a great deal of FDI and hence corruption doesnt keep FDI out of very corrupt countries. This fact begs the question of just how corruption affects FDI. Two broad presumptions can be made regarding the effect of corruption on the efficiency of investment. First, corruption distorts the sectoral allocation of investible resources by diverting resources from potentially productive sectors to unproductive sectors and thereby decreasing the overall output-generating capacity of the investment. A good example of the phenomenon in recent times has been the acquisition of large volumes of loans by many entrepreneurs in South-East Asian countries by colluding with bank officials. These resources, sometimes obtained by fraudulent means, were often invested in unproductive sectors or activities and which contributed to the increase in non-performing loans and the eventual contraction of GDP during the recent Asian economic crisis (Casserley and Gibb, 1999). Rose-Ackerman (1999) also notes that for business people in Eastern Europe and the Russian Federation playoffs are often necessary to obtain credit. Thus investments are made not on the basis of their rates of return but on the capacity of the entrepreneur to pay bribes. Second, bribes which are often the major part in any act of corruption increase the cost of production which ultimately gets reflected in a higher output price increase, reduction in demand and the eventual reduction in the incremental output capital ratio for the activity. If corruption is reduced, both the volume and productivity of investment will increase. Resources spent on this area can be expected to yield rich dividends in the form of enhanced economic performance. Hope (2000) argues that rent seeking activities tend to have the effect of inflating the cost of doing business. Hope points that kickbacks and illegal commissions which have to be paid to public officials are simply added to the final costs of contracts, equipment, supplies and so on. The immediate consequences of such a situation is that entrepreneurs and potential entrepreneurs withdraw from engaging in investment and the affected economy loses the multiplier benefits that would have been forthcoming with those investments (Hope, 2000). By the same token, corruption distorts the market by making regulatory controls ineffective and acting as an arbitrary tax on FDI (Tanzi, 1998). The unpredictability in the level of corruption adds to the arbitrariness and is especially problematic for foreign investment (Wei, 2000a). Under this circumstances, investors will prefer not to invest and will likely divert the money to a safer investment location. In the long run, the economy and its growth will suffer (Habib and Zurawicki, 2001). Corruption erodes economic freedom by introducing insecurity and uncertainty into economic relationshipsGenerally, corruption is a double edged sword; it reduces both the volume and efficiency of investment and thus economic growth (Sarkar and Hasan, 2001). Pervasive corruption increases MNCs operational costs and risks.According to Quah (1999), the consequences of corruption can be minimized if government has an effective anticorruption strategy and implements it impartially. Specifically, the more effective anticorruption measures are, the greater their impact on the society in terms of reducing the negative effects and the level of corruption. In doing so, Quah (1999) develops a matrix of anticorruption strategies can be used to analyze the anticorruption efforts of several Asian countries as shown in table 1 below.

Table 1: A Matrix of Anticorruption Strategies

Anticorruption Measures

AdequateInadequate

Commitment of political leadershipStrongEffective strategyIneffective strategy II

WeakIneffective strategy IHopeless strategy

Source: Quah (1982): 175

Table 1 shows four strategies for combating corruption, depending on the adequacy of the anticorruption measures employed and the strength of political leaders' commitment. The effectiveness of anti-corruption measures depends on two factors: (1) the adequacy of the measures in terms of the comprehensiveness of their scope and powers; and (2) the level of commitment of political leaders to the goal of minimizing corruption. In other words, for anticorruption measures to be effective, they must be properly designed (to attack the causes of corruption), and they must be sponsored and upheld sincerely by political leaders. In short, the most elaborate and well-designed anticorruption measures will be useless if they are not enforced by the political leadership (Quah, 1982, 174-175).Given the different corruption rates in Asian economies, Quah (1982) investigates the level of corruption in those countries by applying the above matrix (Table 1) and apparently confirms only Singapore and Hong Kong are the two least corrupt Asian city states that institutionalized both strong commitment of political leadership and adequate anticorruption measures, and ultimately managed to greatly minimize, if not eliminated, corruption. On the other hand, countries like Bangladesh, India, Indonesia, Nepal, Pakistan, the Philippines, and Vietnam have neither strong commitment of political leadership nor adequate anticorruption measures and as a result they fell in the category of the fourth cells of anticorruption strategies as shown in Table 1. Likewise, the second and third cells of the matrix of anticorruption strategies in table 1 represent two types of ineffective anticorruption strategies (strategies 1 and 2). Ineffective strategy 1 occurs when anticorruption measures are adequate but the political leadership's commitment is weak, thus resulting in the non enforcement of anticorruption measures. This lack of political will can be seen in the ineffective anticorruption strategies adopted in many of the South-East Asian economies. The third cell of ineffective strategy 2 is possible but unlikely in reality, as political leaders who are strongly committed to eradicating corruption will probably improve inadequate anticorruption measures, instead of being satisfied with inadequate anticorruption measures (Quah, 1982).

Other Important Factors Influencing FDI InflowIn addition to our variable of interest, i.e. level of corruption, the following important factors are also influencing FDI inflow and treated as control variables.(i) GDP Growth in a sustainable way in a given country is an indicative of a vibrant economy and hence a government that has generated impressive economic growth in the past is likely to attract more foreign investors to its country. Because, in countries with stable governments past policies are most useful in predicting the future. Moreover, the market size hypothesis argue that inward FDI is a function of the size of the host country market, usually measured either by its GDP or population growth. While a large market size generates scale economies, a growing market improves the prospects of market potential and thereby attracts FDI flows (Bhattacharya et al 1996, Chen and Khan 1997, Mbekeani 1997). We use Log of GDP and growth rate of GDP to capture the impact of this variable on FDI and expect this to have a positive impact on inward FDI. The positive impact of GDP growth on FDI inflow was also previously justified by Wheeler and Mody (1992), and Zhang and Markusen (1999). Thus, a significant and positive relationship is expected between performance in GDP growth and FDI inflow.ii. Human capital captures both education and health. The stock of educated labor in turn was proxied by the level of secondary school educational attainment. In line with this, the health dimension of human capital is proxied by life expectancy in a given country. Good health is an input to a healthy workforce necessary for economic growth as well as an intrinsic measure of human development. States that fail to ensure adequate health for their citizens are less likely to grow. Accordingly, the differences in the level of countries' human capital lead to differences in their capacity to attract FDI. In other words, enhanced human capital increases incoming FDI by making the investment climate attractive for foreign investors. Thus, both education and health (life expectancy) variables are assumed to be positively affecting FDI inflow.iii. Infrastructure:-Cross-country studies by Canning and Bennathan (2000) indicates that infrastructure; particularly telecommunications infrastructure significantly increases economic growth. Likewise, Wheeler and Mody (1992) proves that good infrastructure is a necessary condition for foreign investors to operate successfully. Thus, infrastructure is expected to directly contribute to FDI inflow. iv. Population size has two major implications in this study. First, it can be used as a good proxy for market size in a sense that the more the country has large domestic market size the more FDI inflow in that country. Because, foreign firms primarily target the domestic market, and then towards regional and international markets for their exports. Second, if a country has large population, it is expected to provide abundant and relatively cheap labor for MNCs that would decrease their production costs, compared to the country of origin. In both cases, therefore, population size matters for FDI inflow.v. Domestic Interest rate The impact of cost of capital (i.e. lending interest rates) on FDI inflows is found to be ambiguous in nature and statistically insignificant by many studies. On one hand, it can be argued that higher lending rates may have a positive impact on FDI inflows, i.e., higher the cost of capital in the host country the more capital is brought in by the foreign firms. Alternatively, it can be argued that host countrys cost of capital impacts directly on domestic consumption. Thus the lower the interest rates, the higher the domestic consumption and hence higher the FDI inflows (Bende Nende, et al, 2000). We do not hypothesis any particular relationship between the two.

Objective of the studyThe effect of corruption on FDI Inflow is still debatable such that on one hand, some empirical studies provide support for the idea that corruption in the host country may hinder FDI by weakening investors confidence in the market systems and on political institutions. On the other hand, there are still some scholars arguing that corruption can have a positive impact on investment by facilitating transactions in countries and reported a positive relationship between corruption and FDI. Therefore, the objective of this study is to verify the extent to which corruption will have an effect on FDI under the context of Asian economies. As a result, this study will contribute to create greater awareness and fresh insights into the problem and to suggest concrete ideas and approaches on possible measures to combat it.

The Data and Stylized FactsThis study has made an intensive empirical analysis for a panel of 16 Asian economies from 1995 to 2009. The year 1995 was chosen as our starting point because it is a year for which we have full, annual data coverage on the freedom from corruption (FFC) index which is derived from the annual reports of the Index of Economic Freedom which has been published by the Heritage Foundation, in partnership with the Wall Street Journal. The FFC index is measured on a scale from 0 to 100, where 100 represent the highest level of freedom from corruption/or the lowest level of corruption. However, the FFC index obtained from the Heritage Foundation has been derived using statistics from organizations like the World Bank, the International Monetary Fund and the Economist Intelligence Unit. List of countries included in this study as shown in table 2 below. These countries are selected mainly because of the availability of data throughout the years. Table 2: Countries included in the studyBangladesh, Cambodia, China, Hong Kong, India, Indonesia, Japan, Korea Republic, Malaysia, Nepal, Pakistan, Philippines, Singapore, Thailand, Vietnam, and Sri Lanka.

Moreover, the independent variables, which were discussed in the preceding section and their expected relationships with economic FDI inflow, are summarized in table 3 below.

Table 3:- Independent variables, their expected signs and data sourcesVariable +/-Data Sources

Freedom from Corruption (FFC)+Heritage Foundation

Economic Growth+WDI database

Population Size+WDI database

Education+WDI database

Health+WDI database

Infrastructure+WDI database

Interest rate+WDI database

Openness+WDI database

The Level of Corruption and FDI Inflow in Asian Economies: Descriptive StatisticsFrom figure 1 below, it is possible to note that China is the major FDI destination economy in Asia which receives an average FDI inflow of $60.6 billion every year. Meanwhile, Hong Kong, Singapore, and India followed China at a distance with an FDI inflow performance of $30.1 billion, $15.85 billion, and $11.1 billion, respectively. Major economies in Asia such as Japan and Korea republic have managed to attract only $ 7.5 billion and $ 5.3 billion FDI inflow, respectively. At the opposite extreme, Nepal, Cambodia, and Bangladesh achieved the lowest FDI inflow in the region with a record of $0.01 billion, $0.32 billion, and $0.53 billion, respectively. Ironically, countries such as Philippines and Pakistan with a high level of trained human capital and significant natural resources couldnt manage to attract significant amount of FDI. The reasons why economies like China, Hong Kong and Singapore achieved spectacular performance in FDI inflow while others achieved a modest and still others a low level of FDI inflow will be thoroughly investigated in the empirical analysis part of this study. Figure 1: Average FDI Inflow into Asian Economies (1995-2009)

Figure 2 below explains to what extent countries are free from corruption using an index which captures freedom from corruption (FFC) and measured on a scale from 0 to 100, where 100 represent the highest level of freedom from corruption/or the lowest level of corruption; while 0 represent the highest level of corruption. Accordingly, we can find Singapore, Honk Kong, and Japan as the top three countries which enhanced a better and relatively corruption-free economys. Particularly, Singapore and Hong Kong with an FFC index of 90 and 80 respectively are very good examples of how economies that promotes low level of corruption are also able to achieve high level of FDI inflow. In line with this, the level of corruption in some of the economies such as Japan, Malaysia, and Korea are modest and they exactly achieved a modest level of FDI inflow as it has been displayed in figure 1. Of course, there are some exceptions like China and India with a high level of corruption but among the top FDI recipients in Asia. However, those special cases do not change any of the assumptions that the more the country is free from corruption the more the ability of the country to build confidence among foreign investors and to be a major destination for FDI inflow. However, it can be argued that though China and India are performing very well in attracting remarkable FDI inflow into their respective economies, they are still performing well below-potential mainly because of the deep- rooted corruption associated with their economies. As Vittal (2001) notes if China manages to reduce red tape and corruption and enhance better rule of law and property protection, it could potentially double its FDI. Similarly, he argues that if corruption levels in India come down to those of Scandinavian countries, the GDP growth rate would increase by 1.5% and FDI will grow by 12%. It is clear from figure 2 again that those countries with a high level of corruption including Nepal, Bangladesh, Cambodia, Sri Lanka and the Philippines are also experiencing a very low level of FDI inflow.Figure 2: Average Index for Freedom from Corruption (FFC) in Asian Economies (1995-2009)

Generally, figure 1 and 2 provide preliminary but factual observations to note the direct association between level of corruption and FDI inflow in a given economy. However, this direct relationship between corruption and FDI inflow and whether the theory matches with the reality will be confirmed only by doing the appropriate econometrics analysis which is the main task of the following section.

The Correlation between FDI Inflow and the Independent VariablesBefore we move to the regression analysis, it is worth to examine the correlations that exist between FDI Inflow and the independent variables. In other words, the correlation coefficients of each variable determine the nature and strength of the relation between each factor including the level of corruption and FDI inflow. Accordingly, correlation analysis not only helps to clarify relations among variables but also often suggests directions for experimental research such as regression analysis. From table 4, it has become evident that the more the economy is free from corruption (having higher freedom from corruption index), the more the economy is able to attract inward FDI. Similarly, the correlation analysis also reveal that economic growth, human capital, physical infrastructure, interest rates and openness have been directly and significantly associated with FDI inflow in Asian economies. However, there was no evidence found for the population variable to be correlated with FDI inflow.

Table 4: Partial Correlation of FDI Inflow with other Independent VariablesVariableCorrelationSignificance

Freedom from Corruption (FFC)0.11020.093*

Economic Growth0.24920.000***

Population Growth0.13030.143

Education (secondary school enrollment ratio)0.28780.000***

Health (life expectancy)0.1350.047**

Infrastructure (telephone /100 people)0.1970.002***

Interest rate0.1320.044**

Openness0.6770.000***

Research MethodologyGiven the panel structure of the data in this study, the model to investigate the effects of corruption on FDI inflow was constructed for a balanced panel data of 16 Asian economies from 1995 to 2009 as follows: FDIit = 0 + 1 FFCit + j Zit +i + t + it (1)Where, index i refers to the unit of observation, t refers to the time period, FDI refers the ratio of FDI to GDP, FFC refers freedom from corruption index, Z refers other control variables, i refers individual specific unobserved factors, t refers time specific unobserved factors, and it are individual and time specific residuals. Since unobserved heterogeneity is the main problem of un-experimental research, panel data estimation techniques can allow us to control for individual unobserved heterogeneity. Furthermore, panel data give more informative data, more variability, less collinearity among variables, more degrees of freedom and more efficiency (Gujarati, 2003).In order to choose the most appropriate panel data estimation methods, first, the Hausman (1978) specification test provides information about the appropriateness of the RE model versus FE model, and the test confirms the suitability of random effect model instead of fixed effect model by accepting the null hypothesis that individual specific unobserved effects are distributed independently of the variables of interest Furthermore, a Lagrange Multiplier (LM) test for Random Effects was performed and the result has led to choose the random-effect model (REMO against the pooled OLS model . Thus, the Random Effect Model can be denoted as: FDIit = 0 + 1FFCit + j Zit + t + uit , where uit = i + it (2)In line with this, a Whites general test for heteroscedasticity was conducted and the result rejected the null hypothesis of homoscedasticity. Similarly, Wooldridges tests for autocorrelation in panel data were conducted and the null hypothesis that there is no first order autocorrelation was not rejected. This implies that heteroscedasticity, but no serial correlation detected. Furthermore, panel data unit root test was conducted using Levin-Lin-Chu test for FDI and the result confirms the data is stationary. According to Wooldridge (2002), if heteroscedasticity is detected but serial correlation is not, then the usual heteroscedasticity-robust standard errors and test statistics can be used using the appropriate estimation techniques, and in this case the random effect model (REM). In order to verify the consistency of the results from REM, this study also used other appropriate panel data analysis methods such as Feasible General Least Square Method (FGLS) and Regression with Panels Corrected Heteroskedastic Standard Errors (PCSE) for the reason that heteroskedastic models are usually fitted with feasible generalized least squares (EGLS or FGLS). Similarly, Panel-Corrected Standard Errors (PCSE) allow for panel-level heteroskedasticity and contemporaneous correlation of observations between the panels. Accordingly, the main empirical results using the above mentioned panel estimation methods are shown in table 5. Regression Results and Main FindingsThe correlation analysis in the preceding section only tells us whether or not individual attributing factors are associated with FDI inflow without identifying the particular factors that significantly affect FDI Inflow. Thus, this task can be accomplished using the appropriate model and estimation techniques and in this case using REM, FGLS, and PCSE. Accordingly, the empirical evidence from this study (table 5) has been found to be consistent with the theory and the assumptions which were hypothesized at the outset. More specifically, the empirical evidences based on the three panel estimation methods reveal that our variable of interest, freedom from corruption (FFC) is statistically significant at 1 % level and this provides a wake-up call for policymakers so as to give highest priority to curb corruption as one of the main preconditions to create conducive atmosphere for attracting inward FDI into their economies. For instance, based on the REM, it can be noted from table 5 that keeping other factors constant, a 1 percent increase in the FFC index in an economy may raise FDI inflow by 3.5 percentage points. This is equivalent to say that if a country is able to decrease the level of corruption by 1 percent, it may trigger inward FDI into the economy with an increase of 3.5 percentage points. Similarly, the empirical results derived from using FGLS and PCSE estimation methods also verify that keeping other factors constant, a 1 percent improvement in the FFC index may increase FDI inflow by 2.8 and 2.9 percentage points, respectively. This disproves some scholars argument that corruption doesnt keep FDI out of those corrupt countries is flawed and in fact it is reasonable to claim that some of the countries such as China and India that are characterized by high level of corruption but also with a remarkable FDI inflow could even double their inward FDI if they manage to reduce the present pervasive level of corruption in their respective countries. Therefore, the main implication of these findings is that there is a crucial need for curbing the current level of deep-rooted corruption in many of Asian economies by enhancing good governance and better economic institutions including strengthening the effectiveness and predictability of the judiciary, enforceable contracts and the rule of law, drying up the root causes of corruption and rent seeking, and developing an environment where fair and predictable rules form the basis for social and economic interactions. The regression results using the three estimation methods also confirm sustainable economic growth in a country is one of the main positive attributing factors to promote inward FDI, implying that an impressive growth record in the past may provide better confidence for foreign investors to invest their capital in countries with better economic growth record. Because, in countries with stable governments past policies are most useful in predicting the future. This phenomenon has been observed in many countries such as China and India. On the other hand, no evidence has been found for the population variable to affect FDI inflow in Asian economies. This implies that MNCs are less bothered about the population size/growth of the country, instead what it matters is the purchasing power of the population in the case of domestic market size. In line with this, MNCs are much concerned not on the population size as such, but they are more interested in the size of skilled and semi-skilled labor force. This study verified that the two components of human capital: education which is proxied by secondary school enrollment ration and health which is proxied by life expectancy are both found to be to be a positive and significant determinants of FDI inflow as shown in table 5. It is not surprising that one of the reasons for a relatively high movements of FDI into Asian economies is because of the quality of skilled and semi-skilled labor that are abundantly available in most of the countries. The strong statistical significance effect of education on FDI inflow was confirmed using all the three panel estimation techniques employed in this study. Likewise, the proposition that life expectancy affects FDI inflow was revealed from at least using the FGLS and PCSE models. This verifies again a healthy workforce is one of the necessary pull-factors for multinationals to be interested in investing their capital in host economies. To sum up, countries that fail to ensure adequate education and health for their citizens are less likely to attract significant FDI into their economies.By the same token, infrastructure was found to be significantly influencing inward FDI in Asian economies. This is in line with the findings of other previous researchers such as Wheeler and Mody (1992), and Canning and Bennathan (2000) that infrastructure; particularly telecommunications infrastructure is a necessary condition for foreign investors to operate successfully. Another important variable revealed to be a significant determinant of FDI inflow is the degree of openness of the economy. From table 5, it was evident that a 1 percent increase in openness may raise inward FDI by 4.4, 3.7, and 4.3 percentage points, respectively. This is because of the more the economy is open, the more substantial flows of intermediate inputs and goods in and out of the host country which are highly required by the MNCs. However, except using the PCRE estimation method, the evidence from REM and FGLS found no evidence for domestic interest rate to influence the rate of FDI inflow in Asian economies. This is perhaps because of on one hand; the higher the cost of capital in the host country the more capital is brought in by the foreign firms. On the other hand, the lower the interest rates, the higher the domestic consumption and hence higher the FDI inflows.

Table 5: The Effect of corruption and other control variables on FDI Inflow(Coefficient/ Corrected Standard Error)FDI InflowREMFGLSPCSE

Freedom from Corruption (FFC)0.0348***(.0134)0.02773***(0.0101)0.0290***(0.0146)

Economic Growth0.1772**(0.0789)0.1002***(.0231)0.2087***(.0578)

Population Growth-0.0991(0.5378)0.1375(0.2633)0.6308(0.4863)

Education(secondary school enrollment ratio)0.0535*(0.0304).0411***(0.0123).0909***(0.0174)

Health (life expectancy)0.1154(0.1113)0.1263**(.0646)0.1876***(.0732)

Infrastructure (telephone /100 people)0.0625*(0.0357)0.0375*(0.0144)0.0677***(0.0230)

Interest rate0.1036(0.0746)0.0380(0.0295)0.0996**(0.0433)

Openness0.0437***(0.0065)0.0369***(0.0037)0.0434***(0.0042)

Constant-6.9259(7.3243)-7.5366(3.9172)-9.1443(4.8015)

Number of Observations240240240

Number of Groups161616

Observation per group151515

Wald chi 2 (8)137.69205.8232.49

Prob > chi 20.00000.00000.0000

Conclusion On one hand, various empirical studies provide support for the idea that corruption in the host country may hinder FDI inflow by increasing economic uncertainty, and thereby weakening investors confidence in the market systems and on political institutions. On the other hand, some scholars argue that corruption can have a positive impact on investment by facilitating transactions in countries and reported a positive relationship between corruption and FDI. The empirical evidence in this study generally confirms that corruption remains a significant problem for inward FDI in Asian economies. This is equivalent to say that if a country is able to decrease the level of corruption by 1 percent, it may trigger inward FDI into the economy with an increase of 3.5 percentage points. Thus, some scholars argument that corruption doesnt keep FDI out of those corrupt countries is either flawed or invalid. In fact it is reasonable to claim that some of the countries such as China and India that are characterized by high level of corruption but also with a remarkable FDI inflow could even double their inward FDI if they manage to reduce the present pervasive level of corruption in their respective countries. The level of corruption in Asian economies and its main causes vary from one country to the next. The main contributing factors for corruption in any country includes policies, programs and activities that are poorly conceived and managed, failing institutions, poverty, income disparities, and inadequate civil servants remuneration, lack of accountability and lack of transparency. Ultimately, all parts of society must share the responsibility for containing corruption because all are willing or unwilling participants. Each corrupt transaction requires a buyer and a seller. The government is responsible for dealing with civil servants who engage in extortion and bribery but it is businesses and individuals who offer bribes to civil servants to obtain certain advantages. Thus, on one hand, governments need to introduce appropriate legislation to reduce corruption and provide whatever means are necessary to ensure that appropriate steps are taken to build systems of integrity and rule of law. On the other hand, educating and involving the public in building integrity is the key to preventing corruption and thereby the key challenge and the keystone of this holistic integrated strategy. By the same token, the Singapore and Hong Kongs experience demonstrate that whilst corruption cannot be eradicated overnight, governments should have the obligation to take the appropriate measures and at least to minimize the various forms of corruption through strengthening effective economic and political institutions and good governance infrastructure. To institute accountability and transparency in government and at least to minimize corruption, there is a strong need for a combination of political will from the top and public pressure from the base. According to Quah (1995), both Singapore and Hong Kong (China) have institutionalized adequate anticorruption measures (Prevention of Corruption Act and the Corrupt Practices Investigation Bureau in Singapore, and the Prevention of Bribery Ordinance and the Independent Commission against Corruption in Hong Kong); both are blessed with political leaders who are determined to remove the problem of corruption in their countries. Hence, it is possible to minimize corruption if there is strong political will. 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