The mediation effects of import on FDI and GDP in Sub-Sahara African countries

Table of content

1. Introduction

2. Literature Review

3. Methodology

4. Research Results
4.1. Descriptive statistics
4.2. Mediation Analysis Result

5. Result discussion and conclusion
5.1. Result discussion
5.2. Conclusion

6. Reference

Abstract

This study contributes to the empirical literature by investigating the mediation effects of import (IMP) in the linkages between inflows of foreign direct investment (FDI), and gross domestic product (GDP) for Sub-Sahara African Countries (SSA). The purpose of this study is to investigate how FDI contributes directly and indirectly to gross domestic product (GDP) through IMP. The FDI- IMP –GDP nexus has been neglected by researchers and policymakers. Commonly used methods in various publications analyzed the relationship among two variables without considering mediator variable. The study uses Baron and Kenny method, Bootstrap procedure, Sobel test to perform mediation analysis, and test the significance of the indirect effect respectively. Using data for annual 2018 for 39 SSA countries, the study finds a partial mediation of import in the relationship between FDI and GDP. The study demonstrates that effect of FDI on GDP is carried by increasing IMP. It is therefore recommended that SSA countries should stimulate FDI to bring new technology needed to increase exports, and gross domestic product through international trade. However, imports should be controlled to give priority in use of domestic goods and services.

Key Words: Foreign Direct Investment Inflows, Import, Gross Domestic Product, Mediation, Sub-Sahara African countries.

1. Introduction

The linkage between FDI-IMP-GDP did not get much attention in the literature. Little is still known about how FDI increases imports and imports in return increase GDP. Not analysis the FDI-IMP-GDP nexus leads to misunderstanding of the mechanism by which FDI contributes. The paper contributes to the existing literature by conducting a quantitative research in contrast of the hypothesis of Moolio and Guech Heang (2013) indicating that indirect impact of FDI on GDP is analyzed in qualitative approach, but not in quantitative approach. Many researchers focused on analyzing direct contribution that FDI may have on GDP/economic growth without focusing on indirect effects produced by FDI. Even though researchers confirmed the existence of indirect effects of FDI, they did neither evaluate them nor investigate to what extent those indirect effects contribute in the process of economic growth. This constitutes a limitation of the existence literature on the impact of FDI on GDP. Analyzing direct effect without evaluating indirect effects, and the way they affect economic growth constitutes an underestimation of the FDI’s real contribution in receiving country.

Despite the fact that less attention was paid to quantitative analysis of indirect effects produced by FDI, researchers do not deny the existence of such indirect effects. For instance, Argiro (2003) indicated that FDI has direct, and indirect positive effect on the growth rate of European Union economies through trade reinforcement. According to the author, FDI may raise the productivity in the receiving country and exports. This increase in productivity in turn, may indirectly affect exports. Casi and Resmini (2011) indicated that the indirect effects of FDI are able to potentially affect all variables included in the production function, and that increases the impact of FDI. Selma (2013) indicated that FDI has both direct and indirect effects on employment. However, he did not show how those indirect effects increase GDP. Behname (2012), indicated that in addition to externalities, technology spillovers, human capital training, efficiency, and productivity are among factors that indirectly increase GDP in the economic growth of receiving country.

A country’s economy may be considered as a compound of variables where a change in one variable may affect other variables. For instance, a company created by a foreign investor will lead in hiring employees; the hired employees will get salaries and wages. The increase in the employees’ income will increase the demand in goods and services. The increase in the demand of goods and services will increases the production of suppliers. Increasing demand may lead to recruitment of new employees and new investment by the suppliers. Without forgetting that, the created company will pay tax on revenue, on wages, and on salaries. All those spillovers may have an impact on GDP. An increase in household consumption will increase the GDP.

Besides the existing literature about the direct effects on FDI on GDP, mediation analysis of IMP in the relation between GDP and FDI has not been established as yet in SSA. As result, this study examines the mediation effects of IMP in SSA. The exiting literature focused on developing countries, with little interest to investigate the mechanism by which FDI has effect on GDP for the Sub-Saharan Africa (SSA) countries. The studies related to indirect effects of FDI did not connect those effects to GDP. Additionally, the contradictory findings related to the impact of FDI on GDP justify the need for further research on the relationship between the variables to enhance understanding of such relationship.

The findings of previous researchers supported the economic theory that FDI contributes to economic growth. For instance, Joseph (2015) used correlation and regression analysis to investigate relationship between GDP per capita and FDI in Rwanda. Data used covered 2008 to 2012. He found a strong positive relationship between the FDI inflows, and the GDP per capita.

Sayef and Mohamed (2017) analyzed the relationship between exports, imports, and economic growth in Panama. They used data covering 1980 to 2015. The result of Johansen co-integration analysis of Vector Auto Regression Model and the Granger-Causality tests revealed exports and imports constitute the source of economic growth. Nevertheless, Pam (2017) analyzed 42 SSA countries using data from 1980 to 2012. He concluded there may be a trade threshold below which greater trade openness has beneficial effects on economic growth, and beyond which the effect on growth declines. Additionally, He found no evidence supporting linear relation between trade openness and economic growth in for SSA. Mamingi and Martin (2018) that the direct effect of FDI on GDP is small when FDI is considered individually, with indirect effect which is more significant than direct effect. According to these authors, there is a gap of knowledge on how spillovers of FDI affect GDP.

The purpose of this study is to investigate how FDI contributes directly and indirectly to GDP through IMP. The mediation effects of IMP in the relationship between FDI and GDP in 39 SSA countries are analyzed. The main question to be answered is: to what extent FDI contribute directly and indirectly to GDP through IMP?

2. Literature Review

The Kravis theory of relative availability of natural resource developed in 1956 indicated that a country can import goods that are not available in domestic market, and should export goods that are more available than national needs. Natural resources, technology, favorable legal environment, product differentiation, scare natural resources, technical knowledge available, etc. constitute the determinant of availability (Lars, 1989). Based on this theory, SSA should identity the needs, and regulates imports, as excessive imports have negative impact on economic growth. The negative impact of import has been identified by researchers. Patrick, Emmanuel, and Edmond (2013) investigated the effect of foreign trade on economic growth in Ghana by using a Johansen cointegration analysis. The result revealed that in the long run, export had a positive effect on real gross domestic product. Additionally, IMP and FDI had a negative effect on real gross domestic product. Nevertheless, Pam (2017) analyzed 42 SSA countries using data from 1980 to 2012. He concluded there may be a trade threshold below which greater trade openness has beneficial effects on economic growth, and beyond which the effect on growth declines. Based on the equation of GDP calculation (GDP= private consumption+ Government expenditures +investment+ (export –import)), when export is less than import, the net export will affect negatively the GDP. The following figures show the evolution of GDP, FDI and IMP in SSA since 1980 to 2018.

Figure1. Gross domestic product evolution in SSA (1980-2018)

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Figure 1: Gross Domestic Product Evolution in SSA since 1980-2018 (source: Author’s computation)

The analysis of the GDP evolution in SSA shows an increasing trend.Comparatively, the two figures of FDI and IMP they seem to have same trend. The intuition is that they may be correlation between the two variables.

Figure 2: Analysis of foreign direct investment in SSA 1980-2018

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Figure 2: Foreign direct investment inflows in SSA since 1980 -2018 (source: Author’s computation)

The analysis of FDI shows a high variability in trend since 1980 to 2018.However, there is high variability.

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Figure 3: Import evolution 1980-2018

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Figure 3: Imports of goods and services in SSA since 1980-2018 (source: Author’s computation)

The analysis of the trend of import shows an increasing trend with high variability. The variance in trend of IMP and FDI seems to follow same trend. This may indicate high correlation between IMP and FDI.

3. Methodology

This study follows the mediation analysis approach proposed by Baron and Kenny (1986). This method has not only been the most widely used method in the last years to demonstrate mediation in social and health sciences, but it is also very possibly the most used method to test mediation (Pardo & Román, 2013). According to Baron and Kenny (1986), a variable acts as a mediator when it meets the following conditions: (a) variations in levels of the independent variable significantly account for variations in the presumed mediator ( Path a), (b) variations in the mediator significantly account for variations in the dependent variable ( Path b), and (c) when paths a and b are controlled, a previously significant relation between the independent and dependent variables is no longer significant, with the strongest demonstration of mediation occurring when path c is zero. When Path c is reduced to zero, there is strong evidence for a single, dominant mediator. If the residual Path c is not zero, this implies the operation of multiple mediating factors.

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