Tim Büthe
Current and Recent Research on Foreign Direct Investment (FDI)

One of my overarching theoretical interests has long been how institutions shape the international political economy and specifically business/investor expectations.  My research on foreign direct investment allows me to bring this interest to bear on a topic of great current policy relevance, as many policymakers in developing countries seek to boost the inflow of FDI.  Two papers have been published from this project.  The first examines the effect of bilateral investment treaties (BITs) on FDI flows into developing countries; the second focuses on the impact of international trade agreements (GATT/WTO and preferential trade agreements among smaller groups of countries).  The empirical analyses use a combination of quantitative and qualitative methods.

"Bilateral Investment Treaties and Foreign Direct Invest:  A Political Analysis" (co-authored with Helen Milner)  In The Effect of Treaties on Foreign Direct Investment: Bilateral Investment Treaties, Double Taxation Treaties, and Investment Flows, edited by Karl P. Sauvant and Lisa E. Sachs. New York: Oxford University Press, 2009: 171-224.

Developing countries (LDCs) have signed more than two thousand bilateral investment treaties (BITs).  Through these legal instruments, LDC governments promise foreign investors to treat them as well or better than domestic investors and to refrain from taking any actions that diminish the value or profitability of foreign investments.  But empirical analyses by social scientists and legal scholars have yielded mixed results: some find that BITs boost FDI flows into the LDCs that sign them; many others find no statistically significant effect.  We present a theoretical and epistemological argument that focuses on the political dimension of these legal instruments.  Our argument explains the mixed findings of prior research and provides a better understanding of the effect of BITs on FDI:  A genuinely political understanding of the process of negotiating BITs suggest that they constitute a commitment to economically liberal policies across a broad range of issues.  BITs generate ex ante information about LDC governments' commitments to such policies and ex post information about violations of the commitments. Moreover, these international institutions facilitate imposing political and/or economic costs on governments that violate their policy commitments by setting up or legitimizing intergovernmental or private enforcement.  BITs consequently allow LDC governments to make their commitment to liberal economic policies more credible, which alleviates the key substantive concern of foreign direct investors about political risks in developing countries. And because these benefits accrue to a broad range of foreign investors with often multiple economic nationalities, and because bilateral FDI data often mis-record the real source of the invested capital, aggregate inward FDI rather than bilateral FDI should be the dependent variable for analyzing the effect of BITs on FDI.  Statistical analyses of inward FDI flows into more than 120 developing countries from 1970 through 2000 provide strong support for our argument, which is robust to the inclusion of numerous control variables and the use of several alternative estimation methods.  Moreover, we show—based on qualitative interviews, internal documents from firms and governments, and secondary sources—that the hypothesized causal mechanism is indeed driving the strong correlation between BITs and FDI flows into developing countries.

"The Politics of Foreign Direct Investment into Developing Countries:  Increasing FDI through International Trade Agreements?" (co-authored with Helen Milner)  American Journal of Political Science vol.52 no.4 (October 2008): 741-762.

The flow of foreign direct investment into developing countries varies greatly across countries and over time.  The political factors that affect these flows are not well understood.  Building on our analysis of BITs but focusing here on the relationship between trade and investment, we argue that international trade agreements—GATT/WTO and preferential trade agreements(PTAs)—provide mechanisms for making commitments to foreign investors about the treatment of their assets, thus reassuring investors and increasing investment.  These international commitments are more credible than domestic policy choices, because reneging on them is more costly.  Statistical analyses for 122 developing countries since the early 1970s support this argument.  Developing countries that belong to the WTO and participate in more PTAs experience greater FDI inflows than otherwise, controlling for many factors and taking into account possible endogenity.  Joining international trade agreements allows developing countries to attract more FDI and thus increase economic growth.
Earlier versions of this paper were presented at APSA 2005 and at Washington University (St. Louis), UC San Diego, NYU School of Law, and Duke University.

A third paper, still work in progress, examines more closely the causal mechanism stipulated in our AJPS article by differentiating between trade agreements that have merely been signed (which are essentially promises by a country's executive) and trade agreements that have entered into force (and thus constitute commitments that are binding under international law), as well as examining the effect of specific provisions entailed in those preferential trade agreements (PTAs), focusing on investment clauses and dispute settlement provisions.  In this paper, we also extend the empirical analysis through 2007, thus increasing the number of observations by more than 30%, and we use error correction models (in addition to the multiple estimation methods used in our AJPS paper).  We confirm that trade agreements boost FDI, i.e. our main finding holds even for this much larger sample including more recent years, irrespective of the estimation method used.  And we find strong support for several specific hypotheses that the credibility-enhancing elements of economic (policy) commitments in PTAs are what makes them attractive to foreign direct investors.

"Institutional Diversity in Trade Agreements and [Its Effect on] Foreign Direct Invest:  Credibility, Commitment, and Economic Flows in the Developing World, 1971-2007." (co-authored with Helen Milner)  version 2.2.  Paper presented at the American Political Science Association Annual Meeting, Seattle, September 2011.

International trade agreements can help developing countries attract foreign direct investment.  We ask whether differences in the specific provisions included in trade agreements can have differential effects on FDI.  Can trade agreements with more credible commitments to protect investment induce more FDI than other agreements?  We explore four institutional differences, focusing on preferential trade agreements (PTAs).  We first examine whether those that have entered into force (and thus been ratified domestically) are more credible and therefore lead to greater FDI than PTAs that have merely been negotiated and signed.  Second, do trade agreements that have investment clauses differ from those that do not in their impact on FDI?  Third, we examine the impact of dispute settlement mechanisms in PTAs.  Turning to multilateral agreements, we differentiate the GATT from the WTO, since the latter allows member states to commit more credibly to more comprehensive obligations.  Statistical analyses of FDI flows into 125 developing countries from 1971 to 2007, using error correction models to estimate both short-term and long-run dynamic effects, show:  In all of these cases, more FDI is induced by trade agreements that include stronger mechanisms for credible commitment.  Institutional diversity in international agreements matters.

I am also currently completing a comprehensive dataset of all BITs signings and ratifications to extend our analyses through the late 2000s.  We are also working on a paper in which we systematically analyze the relationship between domestic political instituitons and the international political institutions considered in our previous work (BITs and international trade agreements).




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