Uncertainty, financial development, and FDI inflows: Global evidence

Abstract

We analyze uncertainty and financial development effects on foreign direct investment (FDI) inflows using a global sample of 116 countries over 1996 - 2017. Our main findings are that countries with a higher level of economic policy uncertainty receive lower FDI inflows. Moreover, although countries with a higher level of financial market development attract more FDI inflows, domestic uncertainty, even in the presence of more developed financial markets, remains a drag and hence discourages FDI inflows. To further support our results, we analyze three subsamples: low- and lower-middle income, upper-middle income, and high-income countries. For these sub-samples, we show that as uncertainty increases, FDI inflows allocate away from lower-income economies to more stable higher income countries, reflecting the so-called safe haven effect where foreign investors avoid unstable and risky countries. Our findings contribute to better understanding of the interplay among uncertainty (“risk”), FDI, and the host country's level of financial development.