Stop Firing the Guns!: Conflict Mitigates the Positive Effect of FDI on Economic Growth.

Abstract

This paper reexamines the relationship between FDI and economic growth in SSA. For the first time in this area of study, the paper examines this relationship after sifting out the effect of wars. We examine the empirical relations using a Two-Step SGMM estimator with orthogonal deviations, small sample size adjustments and robust standard errors. We find that in the full sample FDI does not exert any influence on economic growth. However, when we drop countries that have been affected by conflict, we see clearly in accordance with economic theory, that FDI has a positive influence on growth. In addition, alternative approaches using dummy variables to represent countries that have been plagued by conflict suggest that the effect of FDI on growth is lower in conflict affected countries. Finally, we find empirical support for what we term the ‘good boy’ hypothesis. Countries that have entered into war only once, exited war and never returned to war for a minimum of six years do not produce a negative interaction with FDI. These countries are now able to benefit from FDI. In essence, these countries have been ‘purged’ from the war tag. First, these results reveal the shortfalls of the many studies that have found a negative or no impact of FDI on growth. If countries want to grow and benefit from FDI, then they must strive to avoid violent conflicts! For countries that have already entered into war, avoiding a recurrence also pays significant dividends.