Foreign Direct Investment as an economic indicator in Malaysia

1.1 Introduction

Foreign direct investing ( FDI ) has been recognised as the cardinal index of economic growing in Malaysia for the past 30 old ages. As a underdeveloped state, Malaysia has worked manus in manus with private sectors to speed up the gait of industrialization taging successful economic development. Among the ASEAN ( Association of Southeast Asian Nations ) states, Malaysia has been on a regular basis listed among the 20 five top finishs for foreign investing. The existent mechanism driving Malaysia ‘s determination to welcome foreign investors and trust on FDI is entirely market power. Malaysia is non the first in this part to welcome foreign investors and has applied the scheme merely after witnessing successful execution of this policy in neighboring states.

Policy reform has contributed to the success narrative of rapid economic development in Malaysia get downing with the debut of Investment Incentives Policy 1968, followed by the free trade zones in the early 70s and following, the proviso of export inducements together with the debut of unfastened policy in the 80s. The one-year mean FDI in Malaysia between 1985 and 1995 was close to $ 3 billion numbering to an norm of 14.5 % of the state ‘s one-year gross capital fixed capital formation and in 1996, the FDI achieved was above $ 7 billion ( UNCTAD 2002 ) . However, the one-year norm FDI recorded was $ 2.7 billion ( UNCTAD 2002 ) falling over 57 % from 1997. This is chiefly due to the disinvestment during the Asiatic Financial Crisis. Malaysia ‘s recovery was crisp and in 1999, the one-year norm FDI recorded was $ 3.8 billion. The world-wide contraction of foreign investing in 2001 has caused one-year mean FDI fell to $ 554 million. The chief investing beginnings in Malaysia are the United States, Japan, Germany, Taiwan, Singapore and Korea.

1.2 Problem statement

In this globalisation age, FDI influx becomes one of the major cardinal solutions to cut down development spreads among the states. Most of ASEAN states have focused their economic growing on planetary economic system. Changes in ASEAN economic system system have brought to international capital flows and minutess in goods and services and besides transportation of the engineerings. The increasing in FDI influx in ASEAN economic system can be seems through their states ‘ gross domestic production ( GDP ) .

However, Khine ( 2008 ) province that, FDI inflows into developing states show a diminishing tendency after the Asiatic fiscal crisis in twelvemonth 1997, the economic lag in US and Europe and the recession in Japan. The FDI influx into South-East Asia decreased from US $ 34,307 million in twelvemonth 1997 to US $ 22,276 million in twelvemonth 1998. Although there was an addition in twelvemonth 1999 ( US $ 28,766 million ) , FDI inflows into ASEAN part was decreased once more to US $ 18,024 million in twelvemonth 2002, ( Beginnings: ASEAN Statistical Yearbook, 2006 ) . These crises had weakened the ASEAN states pecuniary system and leads to immense capital escape in ASEAN. These immense capital escape and the hapless pecuniary system lead the currency weakening, diminishing in the export and import that besides affect the decreasing and insufficient of the production.

Many investors pulled out their investing in ASEAN all of a sudden due to these crises and had caused many transnational endeavors in the ASEAN states belly-up and increased the unemployment rate because they largely depended on FDI influxs beginnings states. Economic growing in ASEAN states particularly in Malaysia was affected. This is because FDI is the chief stimulator in these states economic growing. Decreasing in FDI will besides diminish their gross domestic merchandise ( GDP ) and weakened these states economic growing.

Therefore, the relentless diminution in FDI together with the inability to prolong sensible FDI influxs in Malaysia has become a major concern among Malayan economic expert. The apprehension of what determines FDI in Malaysia is missing therefore it is important to look into the cardinal forces that stimulates FDI influxs in Malaysia.

1.3 Objective of the survey

By and large, this survey aims to find the important determiners of foreign direct investing ( FDI ) inflow into Malaysia. FDI inflows play an of import function to the strong and faster growing for Malayan economic system. The specific aims for this survey are:

To find whether there be a long tally relationship among the FDI, market size, openness to merchandise, involvement rate and exchange rate.

To analyze the causal relationship between FDI influxs and the explanatory variables in Malaysia whether it is unidirectional or bi-directional.

1.4 Significant of survey

Evidence from the past surveies suggests that FDI influx is really of import to a developing state such as Malaysia. It can assist the state to accomplish the globalisation and liberalisation of its economic system. It besides can assist to cut down the production costs such as gain the different accomplishment degrees of labour, primary trade goods, intermediate goods or entree to the outwardnesss of cognition spillovers, ( Shatz and Venables, 2000 ) .

Harmonizing to Lim ( 2001 ) , there is a turning position in recent twelvemonth that FDI influx is positively correlated with growing. This position has been supported by the recent development in growing theory which had highlighted the importance of betterments in engineering, efficiency and productiveness in actuating the growing. Through FDI influx, it will increase the transferring of advanced engineering from developed states. This shows that it is of import to place the important determiner which will act upon FDI influxs into Malaysia.

It is believed that this survey will enable Malaysia ‘s policy shapers to find the important determiner which will act upon the ( FDI ) inflows every bit good as easing the FDI influxs. Hence, policy that promotes or promote FDI can be introduced. In add-on, this survey will besides assist to make consciousness on the importance of foreign direct investing to a state and to avoid and forestall the deficit or decreasing of FDI influxs when fiscal crises occur in Malaysia.

1.5 Scope of survey

This survey will concentrate on Malaysia merely. Malaysia is categorized as upper-middle income within ASEAN part state with $ 3848 GDP per capita in twelvemonth 2000, ( Fukase and Winters, 2003 ) . The independent variables in this survey are market size ; openness to merchandise, exchange rate and involvement rate while the dependent variable is FDI influxs into Malaysia. This survey will spread out the John Dunning Eclectic theory ( OLI Paradigm ) which is different from the research by Ang ( 2008 ) which used the equal kineticss theoretical account. The secondary informations from twelvemonth 1976 to 2009 will be used to run the ADF Unit Root Test, Johansen-Juselius Co-integration trial and Granger Causality Test. Besides that, Vector Error Correction Method ( VECM ) besides will include in the trial. All the facts and informations are from the economic diary ‘s web site such as Emerald Database and ASEAN Economic Bulletin, universe Investment study, UNCTAD and International Monetary Fund.

Chapter 2: Literature Reappraisal

2.1 Determinants of FDI Inflows

Many states are actively seeking ways to pull FDI due to the attractive consequence on income coevals from capital influxs, engineering sweetening, direction accomplishments and market know how. FDI has become an of import component in planetary economic development and every economic expert has been invariably look intoing of import determiners and factors of FDI based on the theories of international investing. By and large, there are many determiners of the foreign direct investing ( FDI ) . Harmonizing to Dunning ( 1981 ) survey on the factors to pull FDI influxs revealed that the determiners of FDI influx are ownership advantage, internalisation advantage and the location advantage. He was the first individual to supply more comprehensive analysis based on ownership, location, and the advantages of internalisation. A house or a state can merely prosecute in FDI with these advantages.

Another analysis undertaken by Singh and Jun ( 1995 ) on developing states indicated that political hazard, concern operation conditions and exports are besides the important determiners act upon a place state to have high FDI. The research on United Stated ( US ) by Brainard ( 1997 ) had determined the determiner of FDI influxs such as the transit costs ; tariff barrier in host states, GDP per capita ; trade measuring and openness of the market in FDI influxs. Harmonizing to research done by Gastanaga et Al. ( 1998 ) , utilizing Pooled cross-section and time-series informations for 49 less-developed states ( LDCs ) shows that host state policies can act upon FDI influxs largely through their influence on the advantages of location in the host state.

Bendea?’Nabende ( 2002 ) used the Johansen-Juselius Co integrating analysis, vector auto-regression, Granger causality trial and unit roots showed that most dominant long tally determiners of FDI influxs in Sub Sahara Africa are market growing, export orientation policy and FDI liberalisation. These are followed by existent exchange rates, market size and openness. From the survey, the consequences for existent pay rates and human capital are unsure. In a survey by Yusof and Ismail ( 2002 ) on the human capital and FDI inflow in ASEAN, they have divided the determiners of FDI influx into three facets which are economic factors, host states policies and multinational corporate schemes. For economic factors there are three factors viz. market, resources and competition. In host states authorities policies, there are macro policies, private sector, industry and trade, and FDI policies. In multinational corporate schemes, there are hazards perceptual experiences and integrating of location and resources.

2.1.1 Market size

Hypothetically, FDI degree is positively related to the absolute size of a foreign market, ( Dunning, 1993 ) and both market size together with growing variables have important positive effects on FDI with the market size weight more, ( Clegg, 1999 ) . Numerous research have been undertaken to analyze the market size as one of important determiner of FDI influxs. Bevan ( 2004 ) had examined the determiners of FDI from western state peculiarly the European Union utilizing a panel information set of bilateral flows of FDI from 1994 to 2000. The consequences of the survey are found to be consistent with dealing cost analysis of FDI where influxs are attracted between comparatively big economic systems. The findings show that investing has been both market and efficiency oriented.

In a hypothesis proving to the factor influence the influxs of FDI in United States ( US ) by Scaperlanda and Mauer ( 1969 ) and Barrel and Pain ( 1996 ) besides show that FDI inflows has positive feedback to the market size and it will take to the economic graduated table and will hold the efficiency in utilizing the resources. Harmonizing to Barrel and Pain ( 1996 ) , 1 % addition in GNP will take to increase of 0.83 % in existent investing stock market in US. Bende-Nabende et Al. ( 2001 ) besides found that market size is the factor influence most in FDI influx in ASEAN states. Erdal and Tatoglu, ( 2002 ) based on Turkey by utilizing Co-integration analysis and clip series analysis besides show that host state market size had a positive consequence to act upon the FDI influxs. Bigger market size will pull more FDI inflows for a state to able support the high demand of the goods and services.

A more recent survey undertaken by Gast ( 2008 ) besides reports similar findings. The writers aimed to place the determiners which led to the addition in world-wide FDI during the 1990s every bit good as look intoing whether these factors influenced exports otherwise by utilizing panel informations from the 22 OECD states over a period of 11 old ages ( 1991-2001 ) , simple arrested developments such as random effects specification and cross subdivision appraisal were carried out. The writers highlighted that a alteration in market size is an of import factor that leads to both FDI and exports in the same way.

Agiomirgianakis, et Al. ( 2006 ) examines panel informations grounds refering empirical relevancy between FDI attractive force and its deciding effects. The sample informations used are from 20 OECD states over a period of 23 old ages ( 1975-1977 ) . The paper focused on measuring the comparative significance of the factors that may pull FDI utilizing panel informations arrested development analysis on the sample informations. The consequences of the survey shows that the degree of development and market size along with openness to merchandise are of import to heighten the attraction of the host states as it represents extra growing moral force.

Another research done by Tiwari et Al. ( 2003 ) refering the form of Nipponese fabrication industry in ASEAN states, the factors influence the most FDI influxs is the market size. A state which has a bigger population or higher degree of income per capita will hold more FDI influx. Tsen ( 2005 ) studied on the determiners of FDI influxs in ASEAN from twelvemonth 1972 to 2002 found that the market size is the factors which give the positive consequence to the FDI influxs in Indonesia, Malaysia and Singapore.

At the Malaysian context, Ang ( 2008 ) examines the determiners of FDI for Malaysia to inform analytical and policy arguments. The writer used one-year clip series informations for the period 1960-2005 and simple arrested development methodological analysis was undertaken. The paper suggests that increased size of domestic market attracts more FDI influxs due to the benefits of economic graduated table. Evidence from old surveies suggests that market size is one of the of import variables to act upon FDI influxs.

2.1.2 Openness of trade

Trade Openness is an of import explanatory factor in FDI influx. Trade Openness will pull more FDI influx and led to economic growing, ( Albert, et. Al, 2004 ) . Londan Economics ( 2009 ) by utilizing panel informations analysis has determined that Trade Openness and market Capitalization have statistically important impact on FDI influx to EU-27 ( 27 Member States of the European Union ) . In Nigeria instance, Olusegun et. Al. ( 2009 ) research to find the empirical econometric grounds of both causal & A ; long run interrelatedness among FDI, trade openness and economic system ‘s growing in the period 1970-2006 by utilizing clip series informations found that foreign direct investing and trade openness are positively important in explicating the end product growing. The writers concluded that more trade openness will hold more influx of FDI for end product growing in Nigeria.

Recent survey undertaken by Nicholas et Al. ( 2006 ) found dynamic nature of the possible causal consequence between FDI and domestic investing in 30 states America, Europe, Asia ( Australia and New Zealand ) and Africa between old ages 1992-2002. Agim ( 2007 ) survey on 10 passage economic systems used the panel informations between periods 1990-2001 showed that FDI varies straight with the degree of state ‘s openness. Volume of trade will straight associate with government of revenue enhancements and duty adopted in the state. He besides suggest that trade liberalisation is of import in order to pull FDI, by the ground less limitation on export goods will cut down the cost of traveling portion from place state to a host state.

Sader ( 1993 ) in his econometric analysis utilizing transverse sectional informations mean value toward 21 developing economic system from 1988-1992 indicate that the grade of openness of trade or economic system is a important factor for the influx of FDI per capita. Chung-Suk and Jung-Soo ( 1998 ) in their research on the factors influence FDI influxs in ASEAN and China besides found that the openness of economic system system is an of import factor to act upon the FDI influxs. Openness of trade will expose the state ‘s economic system more to the international trade such as import and export.

In Lord ( 1999 ) survey, Southeast Asia has been changed to export orientated industries commenced with Singapore at the terminal of twelvemonth 1960s and followed by Malaya at twelvemonth 1970s. Export oriented industries will spread out the states economics market and promote the addition of FDI influxs through engineering transportation. Increasing in FDI influxs will increase the international trade and capital will besides spread out highly particularly for Malaysia.

However, although there are many old survey found the trade openness have positive relationship with FDI, in Micah and Thula ( 2009 ) survey on Swaziland used clip series analysis in the period 1980-2001 found that dressed ore merely in trade openness is non sufficient to pull foreign investor. They argue that better substructure was of import in order to pull FDI.

2.1.3 Interest rate and Exchange rate

Interest rate and exchange rate plays an of import function in the determination doing for houses in their international activities such as investing. Both of variables are the measuring to the investing costs and benefit. A higher involvement rate will take to higher costs in borrowing and increasing in exchange rate will besides diminish the influx of FDI. The relation between FDI inflows with involvement rate and exchange rate is expected to be negative. High involvement rate and exchange rate will take to low adoption and investing and frailty versa.

Harmonizing to Larrain and Vergara ( 1993 ) in their research on Korea, Singapore, Thailand and Malaysia, they found that high involvement rate will increase the costs of the production and lessening in investing. Borrowing of money for investing will besides diminish due to high involvement rate because it will increase the cost for borrowing. Peoples would prefer to increase their salvaging to derive the involvement rate. High financial shortage will increase the involvement rate to the private sector and accordingly this will diminish the private investing. In order to spread out private investing, authorities should diminish the financial shortage, ( Kuehlwein and Samalapa, 1999 ) .

Exchange rate is of import in the determination devising for the houses in the international activities. Love and Lage-Hidalgo ( 2000 ) in their analysis of the determiners of US direct investing in Mexico indicated that the exchange rate motions will impact the investing determination. In a research on exchange rate and FDI inflows done by Froot and Stein ( 1991 ) , FDI influx will increase if the existent value of the domestic money is low because the worsening in the domestic money monetary value will lift up net income for foreign investing. On the other manus, lifting in the currency of place state will diminish the FDI influx. Lucas ( 1993 ) which investigated the factors influence FDI influxs in seven Asiatic states from 1961-1987 has shows the of import of exchange rate in the economic system and fiscal stabilisation. Investors will non put in the states which have unstable exchange rate. Unstable exchange rate has high negative correlativity relation with the FDI influx to certain states.

The survey on the relationships among trade, influxs of FDI and the existent exchange rate by Goldberg and Klein ( 1997 ) besides stated that FDI is significantly affected by bilateral existent exchange rates. Relationship between the existent exchange rate and FDI influxs ; and FDI influxs and trade had supported that the existent exchange rate will impact trade. Decreasing in currency will promote more FDI influx. Harmonizing to past researches, transnational houses consider the alterations of exchange rate as exogenic. Unstable exchange rate will lift up or diminish the FDI influxs ( Russ, 2004 ) .

Economic growing and Political status

Mottaleb ( 2007 ) through empirical observation demonstrates the relationship between economic growing and FDI influxs and had found that the states with larger GDP and high GDP growing rate and maintain concern friendly environment with abundant modern infrastructural installations can successfully pull FDI influxs. Khaliq and Noy ( 2007 ) survey on the impact of FDI influxs on economic growing in Indonesia with different economic sectors found a positive consequence of influx of FDI on economic growing in aggregative degree.

A state policies and growing will act upon the FDI influx, ( Aqeel and Nishat, 2004 ) . Their survey shows that different variables or indexs reflecting trade, financial and fiscal sector liberalisation has different attractive force of FDI influxs. Mansor, et Al. ( 2008 ) in their panel informations analysis to place how Nipponese transnational corporations ( MNCs ) allocate their investings found that there is a important relationship between Nipponese FDI and political status in the place states. The influxs of Nipponese investing have negative relationship with the political hazard. It means that Nipponese MNCs tend to apportion more investings into the states with better political status.