The FDI impact of IIAs - Can econometric studies help understand the relationship?

Over the years, numerous empirical studies have assessed the impact of IIAs, including BITs, on FDI – with mixed results. A policy debate is now underway to reappraise previous findings and unsolved questions.

An important consideration for the policy debate is the ultimate function of IIAs with respect to countries' overall development strategies. Attracting FDI is neither the prime - nor the only - role of IIAs.

The point of departure for present research and policy analysis is that IIAs are one of several determinants of FDI, and their importance is likely to be contingent on other variables. Other host-country policy areas are also significant, and so are business facilitation initiatives and economic determinants. Since IIAs play a complementary role among several determinants, they cannot substitute for sound domestic policies, regulatory and institutional frameworks.

Existing empirical studies of IIAs' impact on FDI provide heterogeneous results and have some limitations because of, among others, data and methodological challenges. The majority of studies conclude that IIAs have a positive impact on FDI. An empirical correlation does not necessarily imply causation. Recent studies that address the so-called endogeneity problem have tried to establish a positive causal relationship between IIAs and FDI. More nuanced recent research finds that the content of IIAs matters: the FDI impact of IIAs is dependent on the presence of certain substantive treaty provisions. On the other hand, some empirical studies find no effect of IIAs on FDI flows.

Across the board, empirical studies point to the importance of host country conditions. The quality of institutions, the level of political risk, or the development of the financial sector all influence companies’ investment decisions.

Properly understanding the potential impact of IIAs on FDI is important for defining their role in countries' investment policies and overall development strategies. Econometric studies can help, but also have limitations. Moreover, prominent counterfactuals (i.e. investment relationships that exist without being covered by IIAs) suggest that legal instruments' influence on economic matters are limited and that other determinants, in particular the economic ones, are more important. Still, the question of whether an IIA would improve such an investment relationship remains open.

Finally, the role of IIAs has to be put into the broader context of countries’ efforts to attract and benefit from FDI, with the ultimate objective to promote sustainable development. It is therefore important to consider the challenges that IIAs can give rise to, including with respect to potential constraints on policy space or exposure to investment litigation.

What matters is the creation of a new generation of investment policies that places inclusive growth and sustainable development at the heart of efforts to attract and benefit from investment. UNCTAD's Investment Policy Framework for Sustainable Development (IPFSD) can assist policy makers in doing so.

Lending itself to a multi-disciplinary approach to research and policymaking on investment and development issues and calling for further research across a wide range of methodologies, your comments to the working draft for an IIA Issues Note, underlying this featured discussion, will also feed into the Multi-disciplinary Academic Conference that will take place during the forthcoming World Investment Forum (WIF), 13-16 October in Geneva. "Investing in sustainable development", the WIF's overall guiding motto, is the background against which this online peer-review process is taking place.

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A very useful overview of the limitations of the current literature. All pointing to the need for more case studies. There was a recent conference at the Federal Reserve of Dallas on NAFTA at 20, which looked in some interesting detail on the much-cited Mexican maquiladoras case (http://www.dallasfed.org/research/events/2014/14nafta.cfm). Also, I have been told that the Canadian government is beginning a study of the Canadian investment abroad and the role of FIPA (Canadian BITs) using firm level data. So we might have some interesting examples in the near future.

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A very useful overview of key contributions to the literature, which shows that "IIAs cannot substitute for sound domestic policies, regulatory and institutional frameworks." We should not forget, that even if little or no effects of IIAs on FDI are shown in some econometric studies, IIAs serve as important political instruments. Yet, in the past “as the density of BITs among peer countries increased, more countries signed them in order to gain legitimacy and acceptance without a full understanding of their costs and competencies.” (Jandhyala et al., 2011, p. 1047). Initiatives like the IPFSD cannot be enough congratulated, as a leading instrument to guide governments in this respect - after all, improving the institutional environment is the real task of host country governments. The empirical literature's virtue is therefore to complement the IPFSD in pointing at the quantitative importance the key policy determinants of FDI.

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