Using a panel data set containing information on FDI flows from home to host countries, thispaper examines the impact of changes in the quality of government regulatory effectiveness andgovernance practices upon the direction of outward FDI flows between five ASEAN economies ofIndonesia, Malaysia, Philippines, Singapore, and Thailand. The results show that a deterioration inthe effectiveness and enforcement of investment regulations (such as price controls and excessiveregulation in foreign trade and business development) have an adverse effect upon intraASEANFDI, and are significant factors in explaining the recent downward trend in ASEAN FDI flows.These results are robust to changes in a number of controlling variables for various economicconditions that the extant FDI literature consider. Also, these results have several significantimplications for future policy makers in recommending means to revitalize intraASEAN investment.r2006 Elsevier Ltd. All rights reserved.
ARTICLE IN PRESS international business review International Business Review 15 (2006) 401–414 www.elsevier.com/locate/ibusrev The impact of regulatory quality on intra-foreign direct investment flows in the ASEAN markets Hussain Gulzar RammalÃ, Ralf Zurbruegg The University of Adelaide, School of Commerce, 233 North Terrace, Adelaide 5005, Australia Received June 2005; received in revised form 17 December 2005; accepted May 2006 Abstract Using a panel data set containing information on FDI flows from home to host countries, this paper examines the impact of changes in the quality of government regulatory effectiveness and governance practices upon the direction of outward FDI flows between five ASEAN economies of Indonesia, Malaysia, Philippines, Singapore, and Thailand The results show that a deterioration in the effectiveness and enforcement of investment regulations (such as price controls and excessive regulation in foreign trade and business development) have an adverse effect upon intra-ASEAN FDI, and are significant factors in explaining the recent downward trend in ASEAN FDI flows These results are robust to changes in a number of controlling variables for various economic conditions that the extant FDI literature consider Also, these results have several significant implications for future policy makers in recommending means to revitalize intra-ASEAN investment r 2006 Elsevier Ltd All rights reserved Keywords: Foreign direct investment policy; Investment incentives; Intra-ASEAN FDI Introduction The Asian financial crisis in 1997 was viewed by many as an opportunity for the Asian nations to initiate and implement regulatory and institutional reforms that would increase investor confidence, resulting in increased FDI activity (Bremner, Thornton, Prasso, & Foust, 1997; Hornick, 1997; Magnusson, 1997) But recent statistics have revealed that outward FDI from ASEAN markets to other ASEAN neighbors has stagnated Several commentators have inferred that this may be due to under-developed regulatory and ÃCorresponding author 0969-5931/$ - see front matter r 2006 Elsevier Ltd All rights reserved doi:10.1016/j.ibusrev.2006.05.001 ARTICLE IN PRESS 402 H.G Rammal, R Zurbruegg / International Business Review 15 (2006) 401–414 corporate governance practices that have not been strengthened since the 1997 crisis Huang, Morck, and Yeung (2004), in particularly, argue that poor institutional environments within some of the ASEAN nations can expose them to further external shocks that may divert FDI away from these countries Given the reliance of some of these ASEAN countries on FDI, especially from China and Japan, the economic consequences can be quite dramatic Moreover, with the growth of more economic trading blocks, such as FTAA in the Americas and EU expansion into central and Eastern Europe, the competition for FDI will inevitably increase within these ASEAN markets Separate to the issue of diminishing FDI from non-ASEAN countries, is the drop in outward FDI from ASEAN countries to its fellow member states Despite geographic proximity, in many ASEAN countries outward FDI to member states has not returned to pre-1997 levels (ASEAN, 2004) Although this may in part be due to several economic factors, where some states have not fully recovered from the effects of the 1997 crisis, it may also be in part due to the slow pace of governance reform that has taken place since 1997 With emerging markets in other areas of the world opening up potentially more profitable opportunities, ASEAN FDI within its own borders may have been dampened by lack of reforming institutional commercial practices that would encourage intra-FDI flows This paper considers whether governance reforms implemented via regulations influence outward FDI between five ASEAN markets of Indonesia, Malaysia, Philippines, Singapore, and Thailand Sections and provide an overview of the existing literature, followed by a discussion of the data used and model utilized to examine the significance of regulatory governance upon outward FDI flows This is accompanied, in Section 4, with the empirical results before a conclusion and policy implications are presented in Section Literature review The 1990s witnessed a change in the geographical patterns of FDI outflows Europe and North America maintained their position as the largest source of FDI flows in the world (Pangarkar & Lim, 2003) However, from 1998, Asia’s share of total FDI fell due to the declining role of Japan as a FDI supplier Inward FDI into the Asian economies was also affected, post-Asian crisis Also, within the East-Asian economies, Malaysia, Thailand, and Philippines were no longer the favored FDI destinations of MNCs (Brooks & Hill, 2004) To reverse this trend, governments of ASEAN nations started focusing on macroeconomic reforms (Soesastro, 1998) that would again promote investment and FDI in their own countries For example, Singapore’s response to the Asian crisis involved undertaking a range of internal reforms and restructuring aimed at improving international competitiveness (Chia, 1998) Malaysia’s response was aimed at reforming its banking systems (Athukorala 1998), while Thailand and Indonesia focused on implementing political, institutional, and regulatory reforms (Chowdhury, 1999; Thompson & Poon, 2000) Despite these changes, FDI statistics indicate that these reforms have failed to improve FDI levels in the ASEAN region (ASEAN, 2004) This brings into question the effectiveness of these reforms to begin with, specifically if they were directly dealing with means to promote overseas investment In particular, were corporate governance and regulatory frameworks adequately improved to restore lost investor confidence after the 1997 Asian financial crisis? For ASEAN, this is a particularly pertinent question In particular, growth of intra-FDI trade cannot be ignored, as in part it signals ARTICLE IN PRESS H.G Rammal, R Zurbruegg / International Business Review 15 (2006) 401–414 403 the effectiveness of an economic trading block and is one of the main purpose of ASEAN’s existence (Severino, 2000) Without growth in trade within its own borders, the economic value of actually being an ASEAN member diminishes The extant literature on the impact of the political and legal environment upon the economy has shown, repeatedly, that good corporate governance leads to increased economic growth Laporta, Lopez-de-Silanes, Shleifer, and Vishny (1997, 1998, 2000) examine the importance of national legal origin on creditor and shareholder rights, along with the implications of creditor and shareholder rights, and legal enforcement on external finance Levine (1998, 1999), Beck, Levine, and Loayza (2000) and Levine, Loayza, and Beck (2000) extend this research to examine the importance of legal systems for economic growth and financial development An important conclusion is that countries with poor legal rules and law enforcement have narrower debt and equity markets (LaPorta et al., 1997), and that a well-defined and enforced legal system facilitates greater financial intermediation, and thereby economic growth (see Levine et al., 2000) To focus more closely on FDI research, work by authors such as Carstensen and Toubal (2004), Nonnenberg and Mendonca (2004) and Janicki and Wunnana (2004) have all highlighted the significance of country risk as a determining factor for encouraging FDI in developing countries Moreover, research by Hellman, Jones, and Kaufmann (2003) show that in fact FDI inflows can also help improve standards of governance in transition economies, implying that there is a two-way causality effect between governance standards and FDI As an economic trading zone, FDI also takes on a significant meaning in signaling not only the economic, but also political ties ASEAN members will have with each other The literature to date, however, on FDI flows within and between ASEAN countries is comparatively restricted, despite the growing economic importance of the South-East Asian region To partially rectify this lack of research, this paper examines a particular component of ASEAN trade, that of examining whether intra-ASEAN FDI is also significantly affected by institutional factors relating to regulatory quality (RQ) and effectiveness that influences the ease by which FDI can enter a country Given the close proximity of each of the ASEAN nations, in terms of both cultural and geopolitical factors, the importance of regulatory effectiveness and governance standards cannot be ignored for MNC’s choice of direct foreign investment within these countries In fact, it would further highlight the need for ASEAN to address not only economic, but also legal and political institutional matters if it is to grow further as a trading zone Data and research method The dataset used to determine the importance of regulatory matters upon intra-ASEAN FDI flows originates from several different sources The data for the primary variable of this paper, that being outward bound FDI flows from ASEAN countries, was obtained from the ASEAN Finance and Macroeconomic Surveillance Unit (FMSU) database (ASEAN, 2005) Annual figures were obtained for the five countries between 1996 and 2002 Only five of the ASEAN states had a complete set of results for this time period and therefore precluded the addition of further countries to this study Along with data for the above dependent variable, a number of explanatory variables need also to be considered in order to determine their importance in influencing FDI flows There are, in fact, a host of potential explanatory variables that could be collated and used ARTICLE IN PRESS 404 H.G Rammal, R Zurbruegg / International Business Review 15 (2006) 401–414 to determine FDI movements In particular, the literature covered in the previous section highlighted the potential importance of country risk and the possibility of institutional political and legal factors in this context The impact of regulation, for example, on FDI is demonstrated by the United Nations Conference on Trade and Development (UNCTAD) (1998) World Investment Report, which concluded that in developing countries policy changes aimed at creating more favorable conditions for FDI had not only led to more liberal trade and investment policies, but also improved general economic conditions, making these countries a more conducive and accommodating environment for FDI inflow (Fan & Dickie, 2000) Sethi, Guisinger, Ford Jr., and Phelan (2002) refer to these regulations as ‘Pull’ factors (institutional factors) In this study, a specific measure for RQ and effectiveness is used The data was obtained from earlier work conducted by Kaufmann, Kraay, and Mastruzzi (2004) as part of a World Bank project The Kaufmann, Kraay, and Mastruzzi (2004) study measured the perception of governance using various tools, with the data being drawn from 25 separate sources and constructed by 18 different organizations across a wide range of countries One of the variables they created was RQ, referring to the incidence of market-unfriendly policies such as price controls or inadequate financial supervision, as well as perceptions of the burdens imposed by excessive regulation in areas such as foreign trade and business development Overall, it provides a measure for a specific aspect of corporate governance that would have a significant bearing on the ease by which foreign firms could directly invest in a host market It is for this reason that RQ is chosen as the principal tool to determine whether RQ and effectiveness significantly influences intra-ASEAN FDI trade The RQ indicator is measured in units ranging from about À2.5 to 2.5, with higher values corresponding to better governance outcomes Apart from using RQ as a means to determine the significance of RQ and effectiveness in influencing FDI flows, it is also necessary to incorporate a number of controlling variables into the model This would allow for the model to account for such issues as the impact of adverse economic conditions upon general foreign investment into a country Kyrkilis and Pantelidis (2003) argue that macroeconomic characteristics such as income, exchange rate, technology, human capital, and openness of the economy all have a significant impact on outward FDI positions for countries For this study, a selection of control variables that are regularly used in the FDI literature is applied Specifically, four macroeconomic variables were also extracted from the FMSU database (ASEAN, 2005) These include a measure of economic activity (annual GDP per capita), economic growth (change in GDP year on year), annual inflation rates (measured as a function of the local consumer price index), and an annual measure of the risk-free rate of return (interest on 3-month time deposits) The first two measures relate directly to the size and health of an economy, and one would expect a positive relationship to emerge between them and increasing FDI The relationship that exists between inflation rates plus interest rates with FDI is not so clear cut, though it would generally be argued that higher inflation and interest rates would be a disincentive to invest in a country As the relative cost of borrowing and those costs associated with operating in an inflationary environment would diminish the opportunity costs from investing in the economy Along with the above macroeconomic variables, a selection of more finance-based factors were also collected from the World Bank’s (2005) financial development and structure database As a means of providing a basic robustness test for the empirical results ARTICLE IN PRESS H.G Rammal, R Zurbruegg / International Business Review 15 (2006) 401–414 405 that will be presented, two separate sets of control variables are utilized Doing so will provide a means to determine whether any results that indicate the significance and importance of RQ in influencing outbound FDI is not wholly sensitive to the choice of control variables accompanying the model The extra variables chosen are total stock turnover (ST) and liabilities (L) ST is a ratio of the value of total shares traded over average real market capitalization for any particular year As a ratio, it provides a measure for how active the financial market is in a host country It can provide an indirect measure for the activity within the economy, which may encourage FDI The second variable, L, is a ratio measuring liquid L to GDP The greater amount of liquid L within a market, the more constrained it may be to grow However, it could also represent willingness to accumulate debt as a means to invest Therefore, it could also be interpreted as a positive signal to investors The relationship it would therefore share with FDI flows would also be dependent on the level of interest rates within an economy, where higher interest rates would imply a greater cost on the economy for having a significant amount of L outstanding Its importance in influencing FDI flows, however, cannot be ignored as a basic measure of debt within the economy To provide the robustness test in determining the impact of RQ upon outbound FDI, two separate series of regressions were run for each country A total of ten regressions are presented in the empirical section, where each country’s FDI to the other four countries in the sample were regressed against a set of control variables plus RQ As there are four series (countries) of outward FDI for each regression, a panel dataset was created With regard to the particular econometric model applied, the majority of quantitative research that have previously examined the determinants of FDI utilize either a crosscountry or pooled data approach to modeling Although cross-country analysis is useful for providing averages across a large cross-section of countries, this paper adopted the latter method Given that there is only limited data for intra-FDI flows within ASEAN it is important to make use of the temporal dimension of the dataset to increase the degrees of freedom within the model Also, panel data modeling can explicitly account for withincountry variability across time (see Islam (1995) and Folster and Henrekson (2001)), which is an important factor for this particular dataset, given the changes to trade openness and the impact of the 1997 financial crisis has had on the ASEAN countries Therefore, the two sets of empirical results presented in the following section follow a standard panel model specification, given as yi;t ẳ bxi;t ỵ vi;t ; i ẳ 1; N; t ¼ 1; ; T, (1) where y is the dependent variable, FDI, and x being a set of explanatory variables over time, t, and between countries, i The term vi,t captures the stochastic component of the data with vi;t ẳ ỵ ui;t where represents the country effect for which $ð0; s2 Þ and ui,t is a a stochastic disturbance such that ui;t $ð0; s2 Þ The model is estimated using generalized u least squares Given the restrictive nature of the data (in terms of degrees of freedom), only results obtained from a fixed-effects model is presented This implies there is an assumption that there is within-group variation, where the differences among countries are captured by allowing for a different intercept, ai, for each country included within the regression The alternative to this is to run with a random effects model, implying country effects are randomly distributed and unobservable The latter option is not very common, but in this study’s case it is also not possible to feasibly examine, as it requires a larger cross-section of ARTICLE IN PRESS 406 H.G Rammal, R Zurbruegg / International Business Review 15 (2006) 401–414 countries than is available In fact, there needs to be a greater number of countries in the sample than independent variables, which is not the case for the model presented in this paper One of the limitations of this study is the lack of usable data To an extent, it in fact precluded previous econometric research in this area, as a sufficient time series for a minimal number of countries was simply not available Empirical results Focusing the attention on the descriptive statistics presented in Table 1, a number of stylized facts emerge First, they show that there exists a huge gap in the GDP per capita among the ASEAN nations that are in the sample Singapore’s GDP per capita for the period studied was US $22,873.43 In comparison, the other four ASEAN nations had a far lower GDP Malaysia’s per capita GDP was $4,060.71, Thailand’s was $2383.71, Philippines’ was $1034.71, and Indonesia’s GDP per capita was $851.71 The economic growth rate has been low for the five ASEAN nations over the sample period compared to growth achieved in the early to mid-1990s Singapore’s growth rate is the highest at 5.15%, followed by Malaysia (4.97%), Philippines (4.02%), Indonesia (2.27%), and Thailand (1.54%) The results in Table also show that Indonesia has the highest inflation and interest rates In comparison, the other four nations seem to have these economic variables under control Malaysia has the highest L ratio, followed by Singapore, Thailand, Philippines, and Indonesia The result for ST shows that Malaysia has the highest ratio, followed by Singapore, Philippines, Thailand, and Indonesia The RQ scores reveal that Indonesia is the only country with an overall negative score Singapore has the highest score for RQ, while Malaysia, Philippines, and Thailand have very similar scores Focusing a little more on the two primary variables of interest, FDI and RQ, Table shows their scores prior to, and post the 1997 Asian crisis This provides a basic picture for how the performances of these two variables have behaved over the course of the sample period Scores reveal that with the exception of the Philippines and Thailand, which have Table Descriptive statistics for the control parameters and regulation quality Indonesia Malaysia Mean Std dev Mean Economic activity ($US) 851.71 264.87 Economic growth 2.27 7.19 Inflation rate 18.20 26.35 Interest rate 22.27 13.79 Liabilities 0.51 0.04 Stock turnover 0.20 0.10 Regulation quality À0.06 0.24 Philippines Std dev Mean 4060.71 629.65 4.97 6.34 2.81 1.36 5.35 2.44 1.20 0.11 1.79 0.56 0.48 0.20 Singapore Std dev Mean 1034.71 111.39 4.02 2.18 6.69 2.11 10.26 2.05 0.60 0.05 0.59 0.15 0.44 0.19 Thailand Std dev Mean 22873.43 2210.89 5.15 4.73 0.97 1.45 2.29 1.18 1.13 0.04 1.49 0.21 1.79 0.38 Std dev 2383.71 544.75 1.54 5.87 3.49 2.59 5.83 3.52 1.00 0.16 0.43 0.22 0.41 0.15 The sample consists of annual data extending from 1996 to 2002 Economic activity is measured as GDP in $US Economic growth, the inflation rate and interest rates are measured in percentage terms, with economic growth being expressed as a logarithmic growth rate of the underlying annual change in GDP The inflation rate is the annual change in the consumer price index and interest rates are taken from 3-month treasury deposit notes ARTICLE IN PRESS H.G Rammal, R Zurbruegg / International Business Review 15 (2006) 401–414 407 Table Change in the regulation quality index and outward FDI prior to and after the 1997 Asian economic crisis RQ index Indonesia Malaysia 1996–1997 1998–2001 0.17 À0.18 0.67 0.39 Outward FDI 1996–1997 1998–2001 68.42 26.42 Philippines 101.90 10.04 Singapore Thailand 0.44 0.44 1.88 1.75 0.35 0.44 10.88 5.46 538.72 240.70 72.83 À0.47 Figures represent average annual figures Outward FDI represents the total US$ value of all FDI originating for one particular country to the other four countries in the sample Table Panel regression results for determining outward FDI Indonesia Host country economic activity Host country inflation rate Host country regulation quality Home country economic activity Home country inflation rate Home country regulation quality F-statistic Adjusted R2 Malaysia Philippines Singapore Thailand À15.1303 (35.4193) À0.4444 (0.8329) 38.4591c (12.2372) 24.5490 (26.5768) 0.1700 (0.1135) 17.3086a (9.5804) 2.1415a 0.4333 À532.4027 (350.5989) À3.6217b (1.6418) 16.7268 (101.8816) 725.2806b (365.0416) 29.6635 (30.3218) 172.7273 (269.8804) 2.9444b 0.5007 72.8967 (84.9931) 0.5206 (0.6128) 70.0155a (36.5156) À129.5480 (150.3433) 1.4800 (4.7884) À63.4494 (44.8762) 2.3262a 0.5139 À1566.8590 (1218.6420) À9.8833 (10.8755) 1207.3591b (585.9297) 2731.2314 (2936.7828) 93.4541 (177.2969) À611.0538 (438.5181) 2.9493b 0.5129 138.3981a (80.7362) 0.2584 (0.6227) 139.5873b (58.3517) 130.6264 (194.9942) 2.0240 (4.8675) 12.9934 (60.9409) 15.3439c 0.6993 All coefficient estimates are from a fixed-effects panel regression of outward FDI from the specified country to the remaining four countries in the sample Each regression is run from a balanced panel dataset consisting of 24 observations over four cross-sections (countries) Economic activity is measured as the logarithm of GDP in $US Weighted cross-sections are utilized and figures in brackets are White heteroscedastic-corrected standard errors a Represents significance at the 10% critical level b Represents significance at the 5% critical level c Represents significance at the 1% critical level shown a slight improvement, the other three nations have actually shown deterioration in the quality of regulations in the post-Asian crisis period The Asian crisis also affected the level of outward FDI within the five ASEAN nations Table shows that the amount of FDI has in fact dramatically decreased, with Malaysia and Thailand the worst hit The negative score for Thailand indicates disinvestments, postAsian crisis The principle results for the panel data models are presented in Tables and They both tabulate results for individual regressions on each country’s level of outbound FDI flows to the other four countries in the sample Both Tables and also include the level of foreign RQ as an explanatory variable, measuring RQ and effectiveness in the market that ARTICLE IN PRESS 408 H.G Rammal, R Zurbruegg / International Business Review 15 (2006) 401–414 Table Alternative panel regression results for determining outward FDI Indonesia Host country Liabilities Host country stock turnover Host country Regulation quality Host country interest Rate Host country Economic growth F-statistic Adjusted R2 Malaysia Philippines Singapore Thailand 32.3377a (14.7015) 3.0945 (4.0262) 37.3771b (6.6949) 3.2215b (0.6823) 0.3243c (0.1845) 3.8384a 0.5058 À63.2806 (163.5082) À121.1778 (158.5455) 29.0687 (35.5620) 2.5888a (1.1690) 4.8885c (2.7882) 1.5938 0.2982 À92.4535 (89.6580) À21.1862 (28.3477) 63.2648a (30.0718) À0.7813 (1.4129) À0.2329 (1.4775) 1.8495 0.3813 1335.4690 (1916.8550) 318.8258 (350.7438) 235.5398a (94.9261) 18.2052b (5.9848) 28.9248a (11.6965) 5.7714b 0.6061 À450.8577 (423.0489) À129.0381 (99.7615) 90.7115a (36.0515) 1.9889 (1.4493) 6.0538a (2.9628) 3.0401a 0.4833 All coefficient estimates are from a fixed-effects panel regression of outward FDI from the specified country to the remaining four countries in the sample Each regression is run from a balanced panel dataset consisting of 24 observations over four cross-sections (countries) Economic activity is measured as the logarithm of GDP in $US Weighted cross-sections are utilized and figures in brackets are White heteroscedastic-corrected standard errors a Represents significance at the 5% critical level b Represents significance at the 1% critical level c Represents significance at the 10% critical level the FDI is flowing to The tables differ, however, in the set of control variables utilized within each of the regressions To start with, in Table the model incorporates both home and host country RQ, plus both home and host inflation rates, and level of economic activity (measured as the logarithm of GDP) The reason for the inclusion of both home and host values for inflation, GDP and RQ is to consider the possibility that a multinational enterprise’s decision to invest abroad is partially determined by the difference in opportunity cost of investing in their home market, as opposed to a host market This may also lead to a situation whereby a company would prefer to invest in a neighboring country because its home market’s level of corporate governance processes and RQ makes doing business in its own market too difficult relative to outside investment Therefore, to account for this fact, the role of both home and host economic and regulatory factors are considered in this context of determining whether only the host and/or source country plays a role in determining a company’s decision to invest abroad The results for Table are intriguing The first noticeable point is that there is not a consistent macroeconomic factor determining outward FDI for any of the five countries examined Partly, this may be due to the use of a small sample (there are 24 observations for each regression), potentially limiting the ability of the model to pick up significant economic relationships However, one would still expect the most predominant economic variables showing a degree of significance It could very well be that due to the diverse reactions the different countries took to handling the 1997 crisis, the economic variables that are examined have all had a different impact on FDI flows between the countries leading to no single factor being significant in all the markets The level of host economic activity in determining the level of FDI is only significant (at the 5% critical level) for one country, Thailand The value of examining local GDP is also ARTICLE IN PRESS H.G Rammal, R Zurbruegg / International Business Review 15 (2006) 401–414 409 only significant in one country, Malaysia The importance of the host inflation rate as a determinant of outward FDI is also not strongly supported, with it only being significant for one country, Malaysia The negative relationship shows that an increase in the inflation rate lessens FDI in that country For the home inflation rate, none of the results are significant Overall, these results are not particularly strong in outlining any particular macroeconomic factor that drives outbound FDI for this period of study Finally, with regard to regulation quality, RQ, it is by far the most representative significant variable within Table The quality of host regulation guides and assessment is a significant factor in determining FDI for three of the five countries Only for Malaysia and Thailand is no significant relationship found In fact, it is only for Malaysia that neither home nor host RQ is significant in influencing the level and direction of outbound FDI This may be partially due to the fact that Malaysia, after the October currency crisis that threatened to significantly devalue the Ringgit, set strict capital controls limiting the movement of its currency abroad This would lead to a dramatic shift in the ability for local firms to directly invest abroad This is also noticeable in the statistics presented in Table With the exception of Thailand, Malaysia experienced the greatest percentage drop of outbound FDI, having diminished to less than 90% of its original value To a large extent, it would also lead to the importance from examining RQ in both its own and host markets to be of a lesser concern in determining outward FDI, relative to the ability to deal with capital controls imposed on the market when trying to invest abroad Table shows results for a second set of regressions where an alternative collection of control variables is used L, ST, interest rates, and economic growth are now included for the host country L and ST provide measures of how well the financial markets are performing in the host country, while interest rates and economic growth measure the general investment climate within each country Only host country factors are now examined, primarily to limit the number of independent variables within the model It is very interesting to note that as with Table 3, the most consistent variable for being significant is that of RQ RQ is significant, to at least the 5% critical level, in all countries with the exception of Malaysia As with Table 3, the results for Malaysia not being significant may be primarily due to the capital control restrictions imposed on the market The overall results, particularly for the significance of RQ in determining outbound FDI, therefore compliment the figures in Table 3, showing the benefit from examining RQ as a determinant of outward FDI In particular, the results indicate that multinational enterprises place a significant emphasis on the quality, effectiveness, and enforcement of the host county’s trade and investment regulations when determining where to directly invest RQ, as a factor in influencing FDI is at least as important as the macroeconomic environment of a host country These results are consistent with the findings of Buckley and Casson (1985) and Nunnenkamp (2004) Of the remaining variables tabulated in Table 4, only short-term interest rates and economic growth are significant for more than one country Economic growth, in fact, seems to be a very effective parameter, being significant to at least the 10% critical level in all the regressions, with the exception of the Philippines Interest rates as a determinant of outbound FDI is significant in three of the countries, all showing a positive relationship This is a bit surprising, as one would expect a higher interest rate environment to discourage investment However, it may be that during the period under investigation, the high interest environment most countries were operating in led to an advantage for host firms to capitalize in the market if they could borrow in their home market at rates lower ARTICLE IN PRESS 410 H.G Rammal, R Zurbruegg / International Business Review 15 (2006) 401–414 than in the host country High borrowing rates for local firms may have led to a distinct advantage for foreign firms that did not require borrowing money in the market This view can be supported with the work of Desai, Foley, and Hines Jr (2004) who found that in the case of American affiliates, the decision to borrow capital from the home or host nation is a response to local inflation and political risks, and is more costly in countries with underdeveloped capital markets and those providing weak legal protections for creditors Finally, and as a supplement to the above analysis, Tables and re-examine the models in the context of only measuring intra-ASEAN outward FDI within the five countries of analysis Instead of examining the level of outward FDI from the home to host country, the dependent variable is now measured as the proportion of outward FDI to a host country over the total outward FDI from the home country to all other countries in the sample Doing so will account for the fact that in recent years, a large outflow of capital has occurred from ASEAN nation states to other growth areas, in particular China China’s ability to attract FDI has allegedly made it more difficult for other emerging markets to attract FDI The then Prime Minister of Malaysia, Mahathir Mohammad, explained his country’s fall in foreign direct investment from RM 19 billion in 2001 to RM billion in the first half of 2002 by stating: ‘‘Everyone is feeling the pinch because the amount of FDIs has shrunk and then, a lot of that is going to China’’ (cited in McKibbin & Woo, 2003) While the number of FDI source countries in China is quite large, only a handful of countries account for the sums invested Hong Kong is the largest single investor and the newly industrialized economies (NIEs) have been the largest investors as a group Four ASEAN countries (Indonesia, Malaysia, Philippines, and Thailand) have substantially increased their presence in China since the early 1990s Also, the overseas Chinese network in Singapore has made her the largest investor in China from the ASEAN region, accounting for more than twice the combined investment of the other four ASEAN countries up to 1998 (see Table 5) Since, 1998, this has been further pronounced (Wong & Chan, 2002) Nevertheless, although China has dominated FDI inflows in Asia, the growth has not necessarily been at the expense of ASEAN Some commentators suggest other reasons for the lack of FDI flows to ASEAN nations in recent times Wu, Siaw, Sia, and Keong (2002), for example, state that FDI flows to the five ASEAN nations plunged as a result of the Asian financial crisis in 1997–1998, and have remained subdued due to an unfavorable investment climate The results from the panel regressions in Tables and which use proportional data, however, re-affirm the previous results in Tables and When outward FDI is Table Accumulated FDI stock in China by ASEAN-5 countries (US$ million, %) Source area 1983–1990 1991–1995 1996–1998 1983–1998 Amount ASEAN-4 Singapore Share Amount Share Amount Share Amount Share 110 266 0.45 1.08 2207 3788 1.87 3.21 2418 7819 1.92 6.20 4735 11873 1.76 4.42 Note: The ASEAN-4 countries include Thailand, Philippines, Malaysia and Indonesia Source: FDI statistics, MOFTEC ARTICLE IN PRESS H.G Rammal, R Zurbruegg / International Business Review 15 (2006) 401–414 411 Table Determining proportional outward FDI Indonesia Host country Economic activity Host country inflation Rate Host country Regulation quality Home country Economic activity Home country Inflation rate Home country Regulation quality F-statistic Adjusted R2 Malaysia Philippines Singapore Thailand 0.1025 (0.4530) 0.0050 (0.0226) 0.3646a (0.1480) À0.0634 (0.4203) À0.0001 (0.003) 0.0596 (0.1327) À1.7757 (1.2326) À0.0135 (0.0105) 0.0711 (0.4019) 2.4563 (1.5414) 0.1482 (0.1366) 0.2849 (1.1576) À0.0790 (0.1007) À0.0019 (0.0014) 0.2081 (0.17001) 0.4209c (0.2325) 0.0327 (0.0314) À0.3929 (0.7406) 0.6455 (0.4696) À0.0056 (0.0039) 0.7579a (0.3624) 1.8909c (1.0310) À0.0308 (0.0417) À0.1407 (0.0996) 0.2962 (0.2801) À0.0039a (0.0019) 0.8954b (0.2284) 0.0975 (0.1501) 0.0057 (0.0188) 0.0977 (0.3278) 0.7239 0.3175 3.0334a 0.4809 3.3863a 0.4829 3.9624a 0.5593 4.0986b 0.6070 All coefficient estimates are from a fixed-effects panel regression of outward FDI from the specified country to the remaining four countries in the sample The dependent variable is measured as the proportion of outward FDI to a host country over the total outward FDI from the home country to all other countries in the sample Each regression is run from a balanced panel dataset consisting of 24 observations over four cross-sections (countries) Economic activity is measured as the logarithm of GDP in $US Weighted cross-sections are utilized and figures in brackets are White heteroscedastic-corrected standard errors a Represents significance at the 5% critical level b Represents significance at the 1% critical level c Represents significance at the 10% critical level Table Alternative results for determining proportional outward FDI Indonesia Host country Liabilities Host country stock turnover Host country Regulation quality Host country interest Rate Host country Economic growth F-statistic Adjusted R2 Malaysia Philippines Singapore Thailand 0.098 (0.1300) 0.0901 (0.0593) 0.4438a (0.0615) 0.0096 (0.0084) 0.0080b (0.0039) 0.4069 (0.6700) À0.6944 (0.7268) 0.0412 (0.1079) 0.0183a (0.0056) 0.0325b (0.0133) À2.476 (2.2512) À0.6548 (0.7726) 1.4530a (0.4357) 0.0041 (0.0097) 0.0063 (0.0166) 0.9575 (0.6241) 0.6826a (0.2097) 0.4491b (0.2180) À0.0034 (0.0076) À0.0128 (0.0097) 0.7376 (1.2393) À0.3209 (0.1992) 1.1107a (0.1506) À0.0057 (0.0050) 0.0168c (0.0087) 9.6747a 0.7592 2.364c 0.4349 0.2837 0.3189 6.7955a 0.6684 6.5978a 0.6807 All coefficient estimates are from a fixed-effects panel regression of outward FDI from the specified country to the remaining four countries in the sample The dependent variable is measured as the proportion of outward FDI to a host country over the total outward FDI from the home country to all other countries in the sample Each regression is run from a balanced panel dataset consisting of 24 observations over four cross-sections (countries) Economic activity is measured as the logarithm of GDP in $US Weighted cross-sections are utilized and figures in brackets are White heteroscedastic-corrected standard errors a Represents significance at the 1% critical level b Represents significance at the 5% critical level c Represents significance at the 10% critical level ARTICLE IN PRESS 412 H.G Rammal, R Zurbruegg / International Business Review 15 (2006) 401–414 measured as a proportion of only intra-ASEAN FDI, RQ still is prevalently significant for the majority of the regressions, and is definitely the most common significant parameter when compared to the control variables As what would be expected, after regulation quality, economic activity and economic growth tend also to be significant factors The control variables are not, however, as significant as with the original regressions in Tables and In some cases, such as in Table for Malaysia, none of the parameters are significant and the model as a whole fails to be significant In this particular case, and as previously mentioned, the failure of the model may have more to with the restrictive capital constraints imposed on foreign investment since the 1997 Asian crisis Overall, the results from both Tables and are, however, in alignment with the original results This further supports the fact that even if FDI is only measured within and between the ASEAN countries, regulation quality is a significant determining factor for outward FDI within ASEAN Conclusion This paper explores what impact regulatory factors can have on outward FDI from ASEAN countries to fellow member states once various economic conditions are taken into account The results indicate that there is a relatively strong, positive relationship between the quality and effectiveness of trade and investment regulations employed within the host country, and the amount of FDI received by the host country Extant literature on MNC strategy states that the decision to invest in a host market is influenced by the presence of strong economic fundamentals, such as in the host economies (see Dunning, 2000) Kokko and Gustavsson (2004) state that the most important of these economic fundamentals are market size and the level of real income, with skill levels in the host economy, the availability of infrastructure and other resources that facilitate efficient specialization of production, trade policies, and political and macroeconomic stability as other central determinants However, the emergence of regional trading blocs has resulted in deep integration where many of these determinants not distinguish effectively among the nations within a region (Kokko & Gustavsson, 2004) What are then the cross-country differences that explain the variation in the amount of FDI flow between the ASEAN nations? The findings of this paper reveal that within the ASEAN region, the MNCs decision to invest in a nation is influenced by the quality of the regulations in the host economy Regulations that are aimed at encouraging market-openness provide host nations a competitive advantage that is used to encourage inward FDI Some researchers believe that openness to the global economy is a necessary condition for sustained growth According to Kobrin (2004), developing nations have increasingly recognized that FDI provides a stable form of capital investment, and are therefore attempting to follow the developed nations in attracting flows of FDI through both liberalizing regulations and providing incentives to investors RQ and effectiveness has become more relevant to the ASEAN host nations in the aftermath of the Asian financial crisis Thompson and Poon (2000) found that foreign MNCs had anticipated, and hoped that the Asian crisis would help to bring about governmental and institutional reforms throughout ASEAN countries, making the region more attractive and stable for FDI The findings of this study suggests that if regulatory reforms aimed at encouraging inward FDI are not instituted and fully implemented by ARTICLE IN PRESS H.G Rammal, R Zurbruegg / International Business Review 15 (2006) 401–414 413 regional governments, the ASEAN region may well prove to be a less attractive place for MNCs Moreover, the importance of a regulatory framework that encourages trade seems to be a more dominant factor in explaining intra-ASEAN trade than some more commonly examined macroeconomic conditions This paper presents mixed evidence of the importance of various economic factors Although economic growth, as expected, shows to be a significant determinant, the importance of other macroeconomic variables is not consistently significant across the five countries examined Although this may be in part due to the limitations prevalent from using a small sample set, it is also likely due to the fact that the various East Asian nations reacted very differently to the 1997 Asian crisis, potentially leading to the information content contained in examining various economic variables not necessarily being homogenous in nature This would also suggest that future research should also take care to treat analyses of FDI flows on a country-by-country basis, rather than assuming that the factors influencing one market are likely to be the same in other countries References ASEAN (2004) ASEAN statistical yearbook 2004 Indonesia: ASEAN Secretariat ASEAN (2005) ASEAN Finance and Macroeconomic Surveillance Unit (FMSU) database, Jakarta http:// www.aseansec.org/macroeconomic/; Online accessed 10 February 2005 Athukorala, P (1998) Swimming against the tide: Crisis management in Malaysia ASEAN Economic Bulletin, 15(3) Beck, T., Levine, R., & Loayza, N (2000) Finance and the sources of growth Journal of Financial Economics, 58(1), 261–300 Bremner, B., Thornton, E., Prasso, S., & Foust, D (1997) Why failures make sense: They lead to the creation of a Sounder Asian economy Business Week, December Brooks, D., & Hill, H (2004) Divergent Asian views on foreign direct investment and its governance ASEAN Development Review, 21(1), 1–36 Buckley, P J., & Casson, M C (1985) The economic theory of the multinational enterprise New York: Martin Press Carstensen, K., & Toubal, F (2004) Foreign direct investment in central and eastern European countries: A dynamic panel analysis Journal of Comparative Economics, 32(1), 3–22 Chia, S.Y (1998) The Asian financial crisis: Singapore’s experience and response ASEAN Economic Bulletin, 15(3) Chowdhury, A (1999) Villain of the Asian crisis: Thailand or the IMF? 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Economic Survey of Singapore, third quarter (pp 96–115) ... (365. 041 6) 29.6635 (30.3218) 172.7273 (269.88 04) 2. 944 4b 0.5007 72.8967 ( 84. 9931) 0.5206 (0.6128) 70. 0155 a (36. 5156 ) À129. 548 0 (150 . 343 3) 1 .48 00 (4. 78 84) À63 .44 94 (44 .8762) 2.3262a 0.5139 ? ?156 6.8590... (0. 0 105 ) 0.0711 (0 .40 19) 2 .45 63 (1. 541 4) 0. 148 2 (0.1366) 0.2 849 (1 .157 6) À0.0790 (0 .100 7) À0 .0019 (0.00 14) 0.2081 (0.1 7001) 0 .42 09c (0.2325) 0.0327 (0.03 14) À0.3929 (0. 740 6) 0. 645 5 (0 .46 96) À0. 0056 ... R Zurbruegg / International Business Review 15 (2006) 40 1? ?41 4 40 7 Table Change in the regulation quality index and outward FDI prior to and after the 1997 Asian economic crisis RQ index Indonesia