Foreign Direct Investment and Economic Growth: A Time-Series Approach

Research has often focused on how foreign direct investment (FDI) transfers technology from developed economies to less developed economies. Most FDI occurs between developed economies, however, and the country receiving the greatest inflow of FDI is the United States. This paper examines whether such FDI inflows have stimulated growth of the U.S. economy. We apply time-series data to a simultaneous-equation model (SEM) that explicitly captures the bi-directional relationship between FDI and U.S. economic growth. FDI is found to have a significant, positive, and economically important impact on U.S. growth. Also, our SEM estimates reveal that FDI growth is income inelastic. These results imply that: (1) even a technologically advanced country such as the U.S. benefits from FDI, (2) the gains from FDI are very substantial in the long run, and (3) the sustainability of the U.S. current account deficit is enhanced by FDI's positive effect on productivity but undermined by the income inelasticity of FDI. Overall, the results suggest that U.S. policies should focus on keeping the country attractive to foreign direct investors.