Determinants of Foreign Direct Investnment

7/31/2019 Determinants of Foreign Direct Investnment

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DETERMINANTS OF FOREIGN DIRECT INVESTNMENT

& ITS IMPACT ON ECONOMY OF PAKISTAN

By

FARMAN ALI

Roll. No. 454

Thesis submitted in partial fulfillment of

The requirements for the degree of

BS (BANKING & FINANCE)

DEPARTMENT OF BANKING AND FINANCE

GC UNIVERSITY, FAISALABAD.

JUNE 2011

`Determinants of FDI and its impact on economic growth Page 1


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Dedication

Dedicated to my worthy Father and Mother.A pioneer for my

better future whose mature, valuable guidance, enable me to perceive

and pursue higher ideas in life. Last but not least I want to thanks

my cousin Sarfraz Alam (MTO NBP) whose guidance is always

with me and without his financial support I cannot able to

complete my degree.



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Certificate by the Research Supervisor

I certify that the contents and form of thesis submitted by Mr.

Farman Ali, Roll No: 454, Reg No: 2007-GCUF-2740-614 has

been found satisfactory and according to the prescribed format. I

recommend it be processed for evaluation by the External Examiner

for the award of degree.

Signature..

Name.

Stamp

Chairperson Dean,

Faculty of Science and Technology,

GC University, Faisalabad.



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Acknowledgement:

With pen in hand, I pause to think what do justice to express my gratitude to

Almighty Allah for his unlimited graciousness because words are scare,

knowledge is limited and time is short to express his majesty. I have the

purls of my eyes to admire the blessings of the compassionate, omnipotent,

the omnipresent, the merciful and the beneficent Allah who is the entire

source of all knowledge and wisdom. Due to His bounteous bless, I became

able to contribute this research report to wards the deep ocean of knowledge

already existing.

I deem it great honors to offer my heartiest gratitude to my venerable

supervisor SIR SAIF, for his cooperation, valuable suggestions, inspiring

guidance, affectionate supervision and consistent encouragement through

out this period. I also wants to thanks to my vulnerable teacher sir Imran

(Lecturer Economics depatmetnt) for his guidance and help. I cannot ask for

more from my mother, Firdous Bano, as she is simply perfect. I have no

suitable words that can fully describe her everlasting love to me. , I

remembered her continuous support when I encountered difficulties.



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Mother, I Love you. I feel proud of my Brothers & sisters; they have always

been my best counselors.

Finally, I acknowledged my gratitude to all my friends, my roomates for

being the surrogate family during four years, I stayed here in Faisalabad. I

am really thankful to them for their kind Moral support.

Allah the Almighty bless my parents and my well wishes with good health

and prosperous long lives and be source of prayers for me.

` FARMAN ALI

BBA (B&F)

8TH



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Table of Contents

Table of Contents ....................................................................................6

Chapter 01 ...............................................................................................8

1.INTRODUCTION ............................................................ 8

1.2 OBJECTIVEOFTHE STUDY: ........................................................................14

1.3 HYPOTHESIS............................................................................................16

1.4 SIGNIFICANCEOF STUDY............................................................................17

Chapter 02 .............................................................................................19

2. Literature Review ..............................................................................19

Chapter 03 .............................................................................................25

3. Methodology ......................................................................................25

3.1. IDENTIFICATIONOF VARIABLES....................................................................25

3.1.5 THEORETICALL FRAMEWORKDIAGRAM................................... 31

3.3 MODEL..................................................................................................32

CHAPTER 04 ................................................................. 34

4.RESULTSAND DISCUSIONS..................................................... 34

CHAPTER 05 ..................................................................... 42

CONCLUSION ..................................................................... 42

REFERENCES...................................................................... 44



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List of Abbreviations

FDI Foreign Direct Investment

GOP Government of Pakistan

BOI Board of Investment

GDP Gross Domestic Product

SSA Sub Saharan African Countries

LC Cost of Labor

FOREX Exchange Rate

TO Trade openness

SBP State Bank of Pakistan



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CHAPTER 01

1.INTRODUCTION

1.1 Foreign Direct Investment

Foreign direct investment (FDI) is defined as "investment made to attain

lasting interest in enterprises working outside of the economy of the

investor. United Nations defines FDI as the control in this case as owning

10% or more of the ordinary shares or voting power of an incorporated firm

or its corresponding for an unincorporated firm. "The FDI relationship

comprises of a parent enterprise and a foreign associate which together form

a universal corporation (Transnational Corporations). In order to meet the

criteria as FDI the investment must afford the parent enterprise control over

its foreign affiliate.

A foreign direct investor may be classified in any sector of the economy and

could be done by of an individual, a group of related individuals, an

incorporated or entity, apublic companyor company, a group of related

enterprises, a government body, and anyestate (law), trust or other societal

organization or any combination of the above.

FDI is playing a key role in the international busienes.It provides a new

markets, access to new technology, enhancement of skills, and cheaper

http://en.wikipedia.org/wiki/Public_companyhttp://en.wikipedia.org/wiki/Public_companyhttp://en.wikipedia.org/wiki/Estate_(law)http://en.wikipedia.org/wiki/Estate_(law)http://en.wikipedia.org/wiki/Trust_(law)http://en.wikipedia.org/wiki/Estate_(law)http://en.wikipedia.org/wiki/Trust_(law)http://en.wikipedia.org/wiki/Public_company


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production facilities to the firms. In this period of globalization, FDI

inflows are increasing at a greater rate then ever. It is been founded that the

rate of growth of world FDI is ten times greater than the growth rate of

GDP over the period of 1960 to 1990(yang et al 2000).Due to this

globalization factor FDI also posses its own increasing importance and it is

now becoming a prime concern for a policy makers to make effective

foreign direct investment policies.FDI has its many facets, but exacting

aspect that policy makers in capital starved countries are disturbed with the

basic and key determinants of FDI inflows.

Today the ongoing process of amalgamation of whole world economy and

liberalization in many developing countries had led to a severe competition

of flow of FDI. Mostly the countries of Asia are in great competition with

each other to better attract foreign direct investment to its country, Most of

countries are providing its level best to improve fundamentals of economy

and infrastructure of country by attracting more foreign direct

investment .Most of developing countries used to change many of its

policies and relax many measures like taxation matters, attitude, and by

Better control over macroeconomic variables

Pakistan is also considered as a developing country and its in race with

other Asian countries to attract some handsome inflow of FDI to country.

As Pakistan has its own important geographical location ,it is considered as



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a gateway of Asia and it possesses the remarkable attractive conditions for

foreign direct investment especially in the sectors like Telecommunication,

Agriculture, Power and services sectors. Apart from these sectors Pakistan

commodity sector has more attraction for better inflow of FDI because

government of Pakistan is offering 100% equity investment in commodity

sector.

Table 1. FDI inflows into Pakistan

Year FDI (Millions) Annual GrowthRate

FDI AS % ofGDP

1999-2000 469.9 - 0.51 0.55

2000-2001 322.5 - 31.37 0.82

2001-2002 484.7 50.29 1.17

2002-2003 798.0 64.64 0.98

2003-2004 949.4 18.97 0.99

2004-2005 1524.0 60.52 1.38

2005-2006 3521.0 131.04 2.77

2006-2007 5139.6 45.97 3.57

2007-2008 512.8 0.26 3.20

Source Board of investment

By making overview over some past years like in 1980s government of

Pakistan has taken market economic reform policies and after that

government has used to gradually liberalize its policies of trade and

investment by providing many monetary and fiscal incentives to foreign

investors like concession in taxation policies, tariff reduction , welcoming

attitude Khan(1999).Then gradually government of Pakistan used to make



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further liberalization in 1990s and give birth to many other sectors like

Telecommunication, Agriculture, and insurance to FDI. But unfortunately

because of immediate political changes and inconsistency in policies of

government leads to decline in the FDI and it is considered to be quite low

as compared to other developing Asian countries like China and Malaysia.

By viewing the overall statistics of FDI inflow in Pakistan it is $5409.8

Million during the period of FY 2007 to 2008 which is considered as 5.27%

higher than FY 2006 to 2007 and 53.65% more than FY 2005 to 2006 the

overall inflow from 1999 to 2010 are as mentioned in table 1.Recently

government of Pakistan has relaxed its policies regarding investment and

opened almost all the sectors of economy to attract handsome FDI in

Pakistan.GOP is offering tax relaxations and may other investment

incentives to foreign investors which enables them to achieve 100%

possession for investment in many sectors of country .Meanwhile in this

new policy of investment government of Pakistan has provided the equal

opportunities of investment for both domestic and international investors.

In current scenario no any country wishes to make investment in Pakistan

because of the conditions which are going worst and worst day by day So

my this study is basically based on tracing the key determinants of FDI and

how it influences the overall economy of Pakistan .



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The body of literature recommends that FDI is directly links with economic

environment of host country. Most of studies suggest that the factors which

influence FDI are mostly of cost related, macro economic factors and the

overall the development strategy of a host country. Some of studies suggest

that economic conditions or fundamental policies of the recipient countries

are considered as a determinant of flow of FDI.. This literature is in line

with Dunnings eclectic paradigm (1993), which suggests that it is the

locational advantages of the host countries e.g., market size and income

levels, skills, infrastructure and political and macroeconomic stability that

determines cross country pattern of FDI. Following this approach Nishat

and Anjum (1998), have estimated that political stability, peaceful law and

order situation, level of technical labor force and mineral resources and

liberal policies of the government attracted foreign investors in Pakistan.

However, it has been argued that the location specific advantages required

by foreign investors are changing in the globalised more open economies of

today. Accordingly, in his path breaking work Dunning (2002) finds out

that FDI from more advanced industrialized countries depends on

government policies, transparent governance and supportive infrastructure

of the host country. However, very few studies exist that have empirically

estimated the impact of selective government policies aimed at FDI



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The present study which I am going to carry out is aiming at identifying the

basic and significant determinants of FDI in Pakistan which influences

foreign investors decision to make investment in Pakistan over the period

of 1999 to 2009. By reviewing literature the most of determinants of FDI in

different countries are same but the results are quite different because of

different techniques used by different researchers My study is basically

comprises of two dependent variables namely Foreign Direct Investment

and Economic growth while independent variables are trade openness. ,

Gross domestic Product, Exchange Rate , Labor Cost, and Trade

openess,.One of the key advantage of this study is that it also provides

information about how FDI influences economic growth of country and the

interaction among them. During the study I am going to use regression

analysis to find out relationship between each variable of study.



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1.2 Objective of the Study:

There is a substantial body of literature is available that analyzed the effect

of determinants of FDI .These determinants are approximately same in

every country but the results of every researcher is different. My present

study is not only based on analyzing the determinants of FDI only, it also

investigates its role and effect on economic growth of Pakistan. This study

is also helps policy makers to attract handsome FDI into country by

controlling the factors which discourages FDI.

The earlier literature in this connection is essential but hardly substantive or

realistic to understand the determinants of FDI and recent rise in FDI, no

study has been conducted to study the factors responsible for recent changes

in FDI, the earlier studies are either superficial or theoretical and mainly

focusing the socio-political and economic constraints for low level of FDI

and its reasons. No quantification model or simple OLS regression has been

applied to generate the nature of relationship among the set of variables. A

lot has been changed since, the accelerated economic reforms or recent

stability specially after 9/11, or nuclear tests of 1998 and resultant economic



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sanctions and the nature and working of the key macro economic variables

etc, Other than this the interrelationship of different factors, forecasting and

the causality direction with respect to social and political risk index

measurement still missing in earlier studies, which requires the further

investigation. Consequently, this study is designed to understand the

number of factors determining the recent changes in foreign investment in

the country.

Objectives in short are:

To investigate the key Determinants of FDI in Pakistan.

To access the affect of FDI on economic growth

To study the changes of FDI in Pakistan



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1.3 Hypothesis

Hypothesis 1:

H1: Labor cost has negative impact on foreign direct investment.

Hypothesis 2:

H2: The higher value of host currency, higher the level of FDI inflows in

host country.

Hypothesis 3:

H3: Better gross domestic product, higher the rate of FDI into country.

Hypothesis 4:

H4: Trade openes has positive relationship with FDI

Hypothesis 5:

H5: Higher the foreign direct investment, higher the Economic growth.



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1.4 Significance of Study

This study is conducted to analyze important dimensions of foreign direct

investment in Pakistan in light of different studies conducted by a variety of

different researchers from all over the world .This study also investigates

the impact of FDI on the economic growth of country.

Pakistan being developing country has not being a large recipient of FDI

.Since government of Pakistan is making many facilitating steps to attract

FDI inflows in Pakistan. The one and only basic reason behind attracting

FDI is to stabilize itself economically and overcome the increasing rate of

unemployment but from couple of years the rate of FDI is continuously

decreasing because of variety of reason like infrastructure, country

condition, and politically instability .So this study also has its own

importance because study itself identifies the key determinants of FDI

.Apart from the above mention benefits this study also beneficial for a

foreign investor who wants to make investment in Pakistan because it

provides him all the necessary information regarding determinants of FDI

and what is the basic reason behind the continuous downfall in FDI in

Pakistan.



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To highlight the importance of macro-economic factors and their role in

foreign investment, so that it provide benefit to government and public by

increasing employment this leads to economic development. Last but not

least this study helps in studying government policies on FDI and to aware

the policy makers from the importance of FDI, so that they can make

policies accordingly which provide benefit to our country and attract foreign

direct investment.



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CHAPTER 02

2. LITERATURE REVIEW

There is substantial body of literature is available on Determinants of

Foreign direct investment some the important contributions of different

researchers are as under

Usha et al (1999 -Revised 2000), used a mixed fixed and random (MFR)

panel data estimation method to allow for cross-country heterogeneity in the

fundamental relationship between FDI and growth, found that the

relationship between investments, both foreign and domestic, and economic

growth in developing countries is highly heterogeneous and that estimation

methods, which assume homogeneity across countries, can yield misleading

results. The results suggest that there is some evidence that the efficacy of

FDI in raising future growth rates, although heterogeneous across countries,

is higher in more open economies.

(Asiedu, 2002) discuses the determinants of FDI to developing countries.

This papers aims at whether the factors which influences the FDI in

developing countries would affect the sub Saharan countries differently,

simply means if Africa is different. The factors like Real GDP



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infrastructure, Labor cost, Openness, Taxes and Tariff, Political stability are

used as independent variables while that of FDI is considered as dependent

variable of the study. The results of study indicate that increase in

investment and development in infrastructure produces a positive impact on

inflows of FDI in none SSA countries while but fails to produce a positive

impact on countries of SSA.The other factors like openness promotes FDI

inflows to SSA countries and also for non SSA countries. This paper

suggests that African government should develop a method to increase

reliability of the reform policies. Second thing is that those policies which

are very much successful in other countries should not be implemented

directly to the Africa or replication of these policies in Africa is not

beneficial because these policies lead to different impact.

(Shah & Masood, 2003) conducted an empirical investigation regarding the

Determinants of FDI in Pakistan perspective.FDI inflows in Pakistan are

considered as a dependent variable during the study while the variables like

Cost factors, political factors, social factors, Cost of capital and market size

are considered as a independent variables. During the study they used

regression and cointergration techniques to find impact of independent on

dependent variable. They concluded that there is no exception for Pakistan

to keep itself apart of this internationalization process. Instead the size,



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resources and perceptions are advocating for fruitful and fast growing

investment opportunities. Resource gap, can only be achieved by reducing

public burden and by the encouragement of private business activities in the

country. FDI is a potential source of filling this multidimensional gap.

(Bevan & Estrinb, 2004) carried out research on Determinants of FDI in

case of European transitional economies. This objective of the study aims at

determining the key determinants of FDI from western countries, primarily

in the European transitional economies. The factors like labor cost, gravity

factors, market size, Trade factors GDP are used as independent variables

for the study. After this study they found that factors like market size, unit

labor cost and some gravity factors are considered as key determinants of

FDI while the country risk of host is not a significant determinant. They

also founded that there is a positive relationship between host country and

source country GDP, while it is inversely related to the distance among

countries and unit cost of labor. This paper suggests that integration with

European Union is very much important for FDI in transitional economies.

(Moosa & Cardak, 2005) they examined the some of eight determinants of

FDI through extreme bond analysis to a cross sectional sample which

composed of some 138 countries over the period of 1998 to 2000. During

their study they used GDP, Growth rate of GDP, Exports as percentage of



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GDP, Commercial energy used per capital, Country risk and Tertiary

Education and students while FDI as percentage of GDP is considered as

dependent Variable of study. Results of study clearly stated that three

variables namely export as percentage of GDP, Risk of country, and

Telephone lines per 1000 of population are considered as robust variables

which highly influences dependent variable. At the end they concluded that

countries which are economically developed are successful to attract FDI

inflows to its country. They also explored that consumption of energy, rate

of growth, and real GDP insignificantly increases the inflows of FDI.

(Ali & Guo1, 2005) this study empirically focuses on the determinants of

FDI in china, This study is based on the analyses of responses from 22 basic

operating firms in china by sharing views about what are the basic

motivations for firms to accept FDI.Cost of capital, geographical distances,

cost of labor, polices of government, and cultural differences are considered

as the basic factors which attract FDI in china. During their study they

found that there is huge potential market size exists in china and one of the

key finding is that global integration is one of the key factor for those firms

which are going to invest in china. Further they concluded that foreign firms

dont come to china by aiming of taking advantage of any one single factor



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(Ang, 2007) examines the basic determinants of FDI in Malaysia over the

period of 1960 to 2005.During his study he used GDP, Growth Rate,

Infrastructure, Trade openness, Exchange rate, Tax rate, as independent

variables while FDI is dependent variable. By utilization of annual time

series data he concluded that increase in level of level of infrastructure,

Openness in trade related policies, Financial Development, leads to

development in FDI inflows. While policies like increase in taxation,

appreciation in rate of exchange, Closeness in policies of trade ultimately

leads to decrease in level of FDI or normally discourages FDI

inflows.Meanwhlie he suggests that strong economic growth is very much

necessary and need to b focused for the better attraction and encouragement

of FDI into Malaysia.

(Nawaz, 2010) Work mutually to investigate the determinants of FDI in

Pakistan. During their study they used OLS model and analyses some of

variables like GDP and its growth rate, exports price index, imports, and

volume of exports. The results of paper suggest that by utilization of

regression it is confirmed that their exists a positive relationship between

increase in GDP and FDI and one of important finding is that export

demand that is shown by bulk of exports is a key determinant of FDI in

Pakistan. They concluded that there is need of change in policy of

investment in Pakistan to attract FDI at greater extent and it should focus on



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export oriented industries instead of encouraging FDI for domestic

consumption.

(Awan, Khan1, & Zaman, 2011) studied a nexus between foreign direct

investment and Pakistan economy by using co integration and Error

correction Approach during the period of 1971-2008 .This paper comprises

of FDI as a dependent variable while trade openness, current account

balance , Gross fixed capital formation, Inflation rate , GDP at factor cost as

independent variable.

From the results of model used it shows that there is a positive association

between FDI and the independent variables. This study concluded that by

focusing on these determinants Pakistan can enhance its economic situation

and growth as well and they recommend that government of Pakistan

should always open its door policy to attract enough FDI inflow into

Pakistan

(Cuyvers, Soeng, Plasmans, & DenBulcke, 2011) conducted research on

determinants of FDI in Cambodia. The basic aim of this paper is to analyze

the key determinants of factors which might influences the FDI inflows in

Cambodia during the period of 1995 - 2005.One of the essential element of

this study is that it includes geographical and economical, and political

characteristics of Cambodia This research paper is comprises of dependent



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variable as FDI while market size, Labor cost, Borrowing costs, Exchange

Rates, Country Risk and Geographical Distance. During the study panel

data sets were used for both approved and realized FDI.Results of the study

suggest that the determinants of both realized FDI and approved FDI are

very much similar to each other. The variable like country GDP, Rate of

exchange and Trade with different host countries have produce positive

impact on FDI inflows while the factors like geography of Cambodia

negatively affects the inflows of FDI.

CHAPTER 03

3. METHODOLOGY

3.1. Identification of Variables

This study is going to be conducted on two dependent variables and some of

four independent variables

3.1.1 Dependent Variables



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Dependent variables which I am going to study are as under

3.1.2 Foreign Direct Investment

Foreign direct investment (FDI) is defined as "investment made to attain

lasting interest in enterprises working outside of the economy of the

investor."The FDI relationship comprises of a parent enterprise and a

foreign associate which together form a universal corporation (TNC). In

order to meet the criteria as FDI the investment must afford the parent

enterprise control over its foreign affiliate. The UN defines control in this

case as owning 10% or more of the ordinary shares or voting power of an

incorporated firm or its corresponding for an unincorporated firm.

A foreign direct investor may be classified in any sector of the economy and

could be any one of the following

An individual

A group of related individuals

An incorporated orunincorporated entity

Apublic company orprivate company

A group of related enterprises

A government body

Anestate (law),trust or other societal organization or any combination of

the above.

http://en.wikipedia.org/wiki/Unincorporated_entityhttp://en.wikipedia.org/wiki/Unincorporated_entityhttp://en.wikipedia.org/wiki/Public_companyhttp://en.wikipedia.org/wiki/Public_companyhttp://en.wikipedia.org/wiki/Private_companyhttp://en.wikipedia.org/wiki/Private_companyhttp://en.wikipedia.org/wiki/Estate_(law)http://en.wikipedia.org/wiki/Estate_(law)http://en.wikipedia.org/wiki/Trust_(law)http://en.wikipedia.org/wiki/Trust_(law)http://en.wikipedia.org/wiki/Unincorporated_entityhttp://en.wikipedia.org/wiki/Public_companyhttp://en.wikipedia.org/wiki/Private_companyhttp://en.wikipedia.org/wiki/Estate_(law)http://en.wikipedia.org/wiki/Trust_(law)


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The total inflows of FDI from the period of 1999 to 2009 are shown in table

1.The data is taken mostly from websites of board of investment ,

Statistical Bureau and State bank of Pakistan

3.1.3 Economic Growth

Most Of economist agree that inflows of FDI results in increase in

economic gtowth of economy(Blonigen,2005).The major characteristic of

FDI in economic growh are advancement in technology ,and globilazation

factor.In other words enhancement in inflows of FDI leads to help to narrow

the gap between domestic saving ratio and level of investment.From

literature the relationship between growth and FDI provides a mix form of

empericical evidences like ,De Mello (1999) founded that whether FDI

contributes to the growth of eciniomy depends upon the characteristics of

recipient country.However Johnson (2006) founded that inflows of FDI

boosted economic growth in countries which are on track of development.

My present study seeks to contribute to the empricial literature on

relationship between economic growth and Foreign Direct Investment.In

this study I am taking Gross Domestic product form 1999 2009 and

relationship between Foreign direct investment and economic growth is

shown thourgh covariance .



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3.1.4 Independent Variables

Those variables which serve as independent variables of study are as under.

(a).Exchange Rate (FOREX)

Foreign exchange is used evaluate the position of foreign exchange reserves in

order to determine the stability in exchange market and the overall

macroeconomic policies of GOP. Thus appreciation in the value of home

currency leads to positive results on FDI while there are also some evidences

which reveals the negative relationship between FOREX and FDI inflows

(Dewente, 1995 and Kiyotaand Urata,2004) .Forex plays a key role in stability

of economy of any country.Apreciation in value of home currency leads to

increase in the FDI and it becomes very much cheaper to hire labor at low rate.

The massive FDI inflows and remittances from workers have significantly

cherished the real equilibrium exchange rate of Pakistan. (Hafeez ur rehman and

Atif Ali).In this study I am going to take yearly rates by taking average of all

twelve months of one year and so on respectively. The basic data I will take in

Pak rupees and collected from various sources like State bank etc

(b).Labor Cost (LC)

Low cost of labor is the essential element in attracting FDI inflows into

country (Jun and Sing, 1996).There exist positive relationship between FDI



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and labor cost but some empirical studies like (Bevan and Estris, 2004, Wei

and Liu, 2004)suggests the negative relationship. However Meyer (1995)

concluded that multinational organizations in Eastern and Central Europe

are not necessarily motivated by low labor cost. In this study I go with the

negative relationship of Labor cost with FDI and I am taking wages rate

from 1999 2009 which is being fixed in annual budget of Pakistan .I take

this data from budgets of respective years.

(c).Trade openness (TO)

Trade openness is the ratio of imports and export to GDP; this usually

measures the openness of economy. The impact of openness on FDI is

totally dependent on the investment type. Many researches concluded with

the positive relationship of FDI to trade openness like Chakraborti (2001),

Asiedu and Fedderke (2006).In this study I also make a hypothesis of a



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positive relationship between FDI and trade openness. Here I am going to

take imports as percentage of GDP.

(d). Gross Domestic Product (GDP)

Gross domestic Product is defined as the sum of market prices of all the

goods and services produced in Pakistan. Some of the studies like

(Muhmmad Zahid Awan ,Bakhtiar Khan, 2010) founded that GDP is 5 %

significant which shows that high growth in different sectors will leads to

maximum attraction of foreign direct investment in Pakistan. Here in this

study I also make a positive relationship of GDP to FDI and the I will get

data from sources like State bank of Pakistan and federal bureau of

statistics.



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3.1.5 Theoreticall Framework Diagram



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3.2 Data used in Study

The study is based on time series data over the period of

1999 to 2009 which is obtained from various sources like

Board investment ,Federal Bureau of statistics, State bank of

Pakistan, budget of various years, and economic survey of

Pakistan.

List of Explanatory Variables

S.NO Variable Definition Reason for Including

01 GDP Real Gdp Captures demand for goods and services

and Provides a representation of the

marketsize hypothesis

02 To Value of

imports of

counrty

Indicates the degree of international

exposure .A measure of openness of the

economy

03 Lc Wages rates It captures the capabilities and skills of domestic labor

04 Forex Average of

montly rates

in year

It is core factor while considering

investment by foreign investors

3.3 Model



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Here I have examined different case studies .which was conducted by many

well-known researchers like moosa and carsdak. My study is basically

based on the impact of some four necessary independent variables like

Trade openness, Exchange Rate, Gross domestic Product, and labor cost on

foreign direct investment. I am going to apply statistical tools like

regression analysis to find relationship among determinants and FDI the

relationship between FDI and economic growth is being calculated by

correlation while the model is taken as suggested by Muhammad and

Bakkthiar khan (2011). But the variables of the study are somehow bit

different. So the relationship is as under

FDI=

Where

FDI = Foreign Direct Investment

LC = Labor Cost

FOREX = Exchange Rate

TO = Trade openness

GDP = Gross Domestic Product

t = Error term



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Table 3.1 Variables and their expected Sign

S.no Variables Expected Sign

01 Exchange Rate >1

02 Trade Openess >1

03 Labour Cost 1

The above table shows that the variable which is less than has negative

relationship with Foreign direct investment while those variables which are

greater then one is significant and have positive relationhip with Foreign

direct investment.

CHAPTER 04

4.Results and Discusions



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Descriptive statistics on the dependent and independent variables of my study is presented

in table 4.1.1. This table explains the summary statistics for the variables used in the

model. The table shows the results about determinants of FDI In Pakistan for the period

of 1999-2009.

Table 4.1.1 Descriptive Statistics (Determinants of FDI)

Mean Std. Deviation N

FDI 1767.509 1961.6557 11

FOREX 62.943775 9.4824768 11Trade Openess .004196 .0016707 11

Labour Cost 3645.45 1404.538 11

Gross Domestic Product 4569508.09 794619.737 11

The standard deviationof various variables presents the extent to which

variables may deviate from their average value. The mean value of Forex

is 6.2% that shows 62% foreign exchange rate is reported during this study

period. Standard deviation is 9.482 It shows that the value of forex can

deviate from average(mean) to both sides by 948.2%.

The mean value of Trade openness is 0.004196 while its standard deviation

is 0.0016707 which shows that value of trade openness can deviate from

mean by 1.67%.

The mean value of Labor cost is 3645.45 while its standard deviation is

1404.538 this means that labour cost may deviate from mean by



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1371.462.There exists a greater chance of deviation of labour cost from its

mean value.

Gross domestic product posses a mean value of 4569508.09 while its

standard deviation is 794619.737 which means that GDP can deviate from

its mean by 794619.737.As standard deviation is less from mean which

depicts that there is less chance of deviation of GDP from its mean value.

Table 4.1.2

Regression Results on Determinants of FDI

Coefficient T Statistics

Intercept 11915.777 2.516Forex -225.719 -3.340*Trade Openess 2001697.065 4.158**



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Labour Cost .832 1.074GDP -.002 -1.512*

R Square .946Adjusted R Square .824

*Significant at 90%

**Significant at 95%

Table 4.1.2 presents regression results obtained by using statistical

tools . The table shows estimated coefficients and their t statistics. The

value of R square is 0.949 that show that 0.949 variation in the FDI.

T value for Forex is -3.340, which shows that the relationship

between exchange rate and foreign direct investment is insignificant .The

coefficients value is found to be -225.719. It shows that with one unit

change in value of FOREX ,FDI changes by -225.719.

These results are also same as Scott- Green (1999) who shows that

appreciation in the value of home currency leads to increase in the inflows

of FDI at a greater extent because it become easy to hire more and more

skilled labour and other resources at cheaper rate in recipient country .There

exists a several reasons in how increase in value of home currency can

increases FDI ,Firstly depreciation in value of dollar can increases the

confidence of home investors ,secondly the depreciation in value of dollar



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makes assets much cheaper in Pakistan which becomes a easy for foreign

investors to buy Pakistani assets and thirdly a depreciation of US dollar will

make goods produced in pakistan relatively cheapere as compared to goods

produced in home country .Thus results shows a positivee relationship

between foreign direct investment and exchange rate.This means that if the

currency value of home country is goes on increases day by day then its

leads to enhancement in confidence of foreign investors to invest in

Pakistan.

T value for trade openness is 4.158 which shows that the relationship

between FDI and trade openness ins significant at 95% and if there is one

unit increase in trade opness would generate about a 2001697.065 increase

in foreign Direct Investment.The findings of study are in line with

that of Fedderke (2006) and Chakraborti and Romm(2006)

who also shows a positive relationship between trade

openness and foreign direct investment.Hence ,the results

suggests that increase in liberalization of trade setor may be

codusive to inflows of FDI at larger extent.

T value fo GDP is -1.512* this shows that GDP is significant at 90 % and

its value of coeeficient is -.002.This means that with one unit increase in



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value of GDP then FDI changes to -.002. This shows a positive relationship

between FDI and GDP .Investors in any country are attracted due to higher

GDP growth rate of its economy.This evidence suggests that economic

growth is very much necessary for Pakistan to attract FDI inflows .These

results are very much similar with general finding of literature like Wang

and Swain (1995) , Choi and Bollington(1999) which have consistently

found a positive role of GDP growth rate in attracting FDI and fouded that

GDP growth is very much necessary for foreign direct investment.In

Pakistan perspective these results are in line with study of Muhammad

Zahid, Bakhtiar Khan (2010) who shows that foreign investors will

encourage in making investment in Commodity- Producing sector of

Pakistan due to high GDP rate.Hence results implies that GDP growth is

very much necessary to bring inflows of foreign direct investment into

Pakistan .

T value for Labor cost is 1.074 which shows that the relationship between

FDI and trade openness ins significant at 90%. The coefficients value of

labor cost is found to be 0.832 which means that one unit increase in labor

cost will leads to 0.832 change in value of foreign direct investment.The

result of study are also same with (Jun & Singh, 1996) who shows that

lower labour costs make countries with abundant skilled and/or unskilled



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workers more competitive and attractive, andare likely to encourage FDI

inflows .Hence from results it is concluded that skilled labor is very much

beneficial for attracting Foreign direct investment

The whole summary of model is shown as under in the table 4.1.3

Table 4.1.3 Model Summary

Model R R Square

Adjusted R

Square

Std. Error of the

Estimate

1 .946a .894 .824 824.0872

a. Predictors: (Constant), LC, Forex, GDP, TO

In the above table value of R square is 0.949 which means that there is

94.9 % variation in Foreign direct investment is explained by independent

variables.



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Table 4.1.4 Coefficient Correlationsa

Model GDP Forex TO LC

1 Correlations GDP 1.000 .405 -.545 -.557

Forex .405 1.000 -.116 -.737

TO -.545 -.116 1.000 -.231

LC -.557 -.737 -.231 1.000

Covariances GDP 1.140E-6 .029 -279.929 .000

Forex .029 4566.715 -3760834.136 -38.583

TO -279.929 -3760834.136 2.318E11 -86139.516

LC .000 -38.583 -86139.516 .600

a. Dependent Variable: fdi

correlation is used in this study for data to find out the degree of association

between variables.

From above table it is concluded that Gross domestic product is it is

negatively correlated with trade openness and labour cost which means that

increase in value of GDP leads to decrease in values of skilled labour and

the it is easy to get labour while the values of trade openness also get

decrease in such a way that our imports becomes less and exports

greater.GDP shows positive correlation with exchange rate which depicts

that increase in GDP leads to betterment in value of exchange rate..

Forex shows negative correlation with variables like Labour cost and trade

openness which means that increase in the value of exchange rate then value



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of trade openness and labour cost get decreases.The value of imports of

country goes up and labour becomes expensive within a country .

Labor cost in negatively correlated with other variables like GDP, forex and

trade Openness while it is positively correlated with itself which means that

with the increase in the value of labor cost leads to decrease in value of

foreign exchange ,Gross domestic product and trade openness

Trade openness shows negative correlation with all variables which means

that increase in value of imports of country produces negative impact on

gross domestic product , labor cost and exchange rate .

Chapter 05

Conclusion



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Foreign direct investment is considerd to a most important element of

Globilization .Over the last few years there is a sharp growth in FDI inflows

into developing countries and developed countries.FDI is playing key role

in economic development of developing countries including

Pakistan.Pakistan is one of the most ideal location for foreign investment

.There is lot of oppurtunities for foreign investors in sectors like power and

energy ,telecomuincation and fertilizers sector.

The basic purpose of this study is to examined the determinants of foreign

direct investment into Pakistan over the period of 1999 2009.To examined

the impact of variables regreesion technique is being used .From results of

study it is explored that some of the independent variables are insignificant

while some of variables are significant toward foreign direct investment.

The variable like gross domestic product ,labor cost and trade openesss are

significant and possess a positive relationship with foreign direct investment

.This means that for better foreign direct investment there is need of

openness in trade ,skiled labor and strong GDP.while the variable like forex

shows insignificance with FDI.

Apart from the above variable there is need of analyzing the current

condition of Pakistan .Nowadays Pakistan is in cage of too much energy

shortages, terrorism and other security problems and in these circumstances



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no any contry or individual investor wishes to make investment in Pakistan.

Now this is a major responsibility of government of Pakistan and policy

makers to think about these core issues and make some advance measures to

regain the confidence of foreign investors because foreign investment

contributes positively to our economy.

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Determinants of Foreign Direct Investnment

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