Determinants of OFDI: An Empirical Analysis of OECD Source Countries using Gravity Model

• Published in: Indian economic review 2015-01, Vol.50 (2), p.243-271
• Main Authors: MORRIS, SEBASTIAN, JAIN, PALAKH
• Format: Article
• Language: English
• Subjects: Bilateralism; Countries; Economic theory; Foreign direct investments; Gravity models; Gross domestic product; Host country; International trade; Natural resources; Population growth rate
• ISSN: 0019-4670

This study analyzes the relationship between outward foreign direct investment (OFDI) stocks pertaining to thirty four OECD source and one hundred sixty destination countries (i.e. bilateral stocks) and other various variables such as size, distance, common language etc. using augmented gravity model. Our principal findings are as follows: (i). the variables of the gravity model (population size, per capita income and distance) explain nearly 50 per cent of the variation in the OFDI stock. The coefficients are not only significant but are significantly close to the expected values, (ii). Common language and colonial linkages explain further variations in OFDI stock, over the gravity model (iii). Index of revealed comparative advantage of natural resources for source country bears positive relation with OFDI (iv). Common currency (Euro, in this study) between source and destination country lowers transaction costs and reduces risk in transactions between the source and destination countries to increase OFDI level. Overall, the gravity related variables have very large significance, and even if other variables are included their coefficients are unlikely to change.