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Does Doing Business matter for foreign direct investment?

Authors: John Anderson and Adrian Gonzalez
Published: October 23, 2012
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Many people who use Doing Business data—particularly in policy-making circles and in the private sector—associate better performance on the Doing Business indicators with greater inflows of foreign direct investment (FDI). The methodology is not explicitly designed for this purpose; the case studies underpinning the Doing Business indicators focus on small to medium-size domestic firms, so the laws, regulations and practices tracked by the project are not necessarily relevant to larger foreign-owned firms. But the Doing Business indicators may be a useful signal to foreign investors of the overall quality of the business environment. And some laws may indeed affect foreign-owned firms in the same way that they affect domestic firms.

Given the interest of so many governments in attracting more foreign investment, this raises an important question: does Doing Business actually matter for FDI? If so, does this suggest that Doing Business indicators reflect the quality of the investment climate at a broader level? This case study examines these questions, providing empirical evidence about the relation between the Doing Business indicators, FDI inflows, and the overall business regulatory environment.

Main Findings

  • Cross-country correlations show that FDI inflows are higher for economies performing better on Doing Business indicators, even when taking into account differences across economies in other factors considered important for FDI.
  • Results suggest that on average across economies, a difference of 1 percentage point in regulatory quality as measured by Doing Business distance to frontier scores is associated with a difference in annual FDI inflows of $250–500 million.
  • Although this correlation does not imply causation, the evidence suggests that Doing Business reflects more about the overall investment climate than what matters only to small and medium size domestic firms. In particular, these findings support the claim that economies that provide a good regulatory environment for domestic firms tend to also provide a good one for foreign firms.