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Trade and Foreign Direct Investment nexus in West Africa: Does export categories matter? Chukwuka Onyekwenaa, Idris Ademuyiwaa and Eberechukwu Unezeab aCentre for the Study of the Economies of Africa (CSEA), Nigeria. bBaze University, Abuja, Nigeria Trade and FDI relationship • The relationship between trade and FDI has been debated • Both Economic and international business theories show that FDI and trade are substitutes, particularly when FDI is horizontal; but when FDI is vertical, trade and FDI can coexist. • Multi-product firms also allow for the coexistence of trade and FDI – alternate between foreign investment and trade for different goods. FDI for good A; trade for good B. Trade and FDI relationship contd. • Third party effect: FDI from a particular country to a host country, promotes or debars trade between that host country and other countries. This can yield a combination of complementary and substitution relationship between them. • Available data on FDI and trade not sufficient to capture the complex interplay – empirical results differ across literature • The lack of consensus points to the need for evidence to support policies on trade and FDI promotion Contribution • Literature has been focused on the effect of outward FDI on home country’s export of intermediate goods or host country’s export of final goods, with little attention given to the effect of inward FDI on host country’s exports – this study fills the void. • The present study presents the “commodity-proximity” model which explains how multinational’s presence in upstream production in resource-abundant countries can stimulate the extraction or processing of raw materials into intermediate goods for onward exporting to source countries for downstream production. • Specifically, the present study investigates the effect of inward FDI on ECOWAS exports to the EU – first to investigate FDITrade relationship in natural resource rich countries. Stylized facts – ECOWAS-EU trade • 90 percent of trade in the ECOWAS region is with partners outside. BRICS, EU-28, and FTAA constitutes 70% of the ECOWAS total exports. • EU accounts for over 30% of the regions exports, as at 2013, a decline from 43% in 1995. Decline attributable to the Euro crisis and the emergence of new competitors in global trade – BRICS. • The share of BRICS in ECOWAS’s exports rose from less than 10% in 1995 to about 25% in 2013. Stylized facts – ECOWAS-EU trade contd. • Broad Economic Categories (BEC) show ECOWAS trade across different export categories. • Within ECOWAS, primary goods export remain dominant, albeit declining from 86% in 2000 to 66% in 2010. • Within the same period, the share of intermediate goods exports increased from 10% to 30%, while final goods export remain steady at 5%. Fig 1: Shares of Economic Groups in ECOWAS’ Exports, 1995 to 2013 Percentages 50 45 40 35 30 25 20 15 10 5 0 BRICS FTAA* 1995 EU-28 Rest of Africa* 2005 Rest of the World 2013 Fig 2: ECOWAS Exports to selected EU countries in terms of BEC 79.9 77.1 75.7 70.5 25.3 8.0 12.1 15.6 8.6 2000 11.0 4.2 2001 Shares of Final Gds. 12.0 Shares of Intermediate Gds. 2007 2011 Shares of Primary Gds. Theoretical foundations • • • Earlier trade and FDI models elaborate the substitutability argument - Mundel (1957), Kindleberger, 1969. International business theories also support substitutability of FDI and trade - Dunning (1977) shows the motives for serving a foreign market in the OLI eclectic theory. New trade theory led to the adjustment of the theory of multinational corporations: Markusen (1984) – Horizontal FDI; Helpman (1984) – Vertical FDI Theoretical foundations contd. • Categorization of FDI into vertical and horizontal is key to explaining the coexistence of FDI and trade. • Markusen (1997, 2002) vertical model show that the parent firm in a skilled labour abundant country exports intermediate goods and intangible assets to affiliates in the host country. The intermediate goods usually consist of parts and components which utilizes high-skill labour in the upstream, while the assembly of final goods is based in the lowskill host country. • The present study presents the “commodity-proximity” model – an entirely different configuration – major departure from previous models – abundance of natural resources plays a key role – “reverse” Markusentype vertical FDI and trade model – Upstream production in the host country – involves primary goods extraction and mild processing – fits into the West African FDI and export pattern Fig 3: Vertical specialization (Markusen 1997, 2002) Home Abroad Export of intermediate goods MNC parent – MNC affiliate - downstream upstream Export of final goods to source country Sale of final goods in host country Fig 4: Commodity proximity Vertical FDI – Reverse “Markusen- Type” Home (EU) Abroad (ECOWAS) Transfer of knowledge based assets MNC parent – downstream MNC affiliate – upstream (skilled labour abundant) (unskilled labour abundant) Export of primary/ semi processed intermediate goods Commodity proximity model Two scenarios are plausible: • • First case: Resource-seeking multinationals engage mainly in the extraction of resources and export them to the source country where other stages of production takes place. The upstream production is generally capital intensive, and the labour component is usually lower skilled than the downstream Second case – multinational presence in upstream production can drive both extraction and subsequent processing into intermediate goods, which are exported for further processing in the downstream of the source country – product design, marketing, and distribution Empirical model • Aim – to investigate the relationship between inward FDI into ECOWAS countries and the bilateral trade with EU countries • Gravity model is appropriate empirical model (Clausing, 2000; Amiti and Wakeline, 2003; Mullen and William 2011) • The present study augments the conventional Gravity model to control for multilateral trade resistance. Empirical model contd. • Following Anderson and Van Wincoop (2003) and Balwin and Tagioni (2006, 2011): 𝑙𝑛 𝐸𝑋𝑃𝑂𝑅𝑇𝑖𝑗𝑡 = 𝛼0 + 𝛼1 𝑙𝑛 𝐺𝐷𝑃𝑖𝑡 + 𝛼2 𝑙𝑛 𝐺𝐷𝑃𝑗𝑡 + 𝛼3 𝑙𝑛 𝐷𝑖𝑠𝑡𝑖𝑗 + 𝛼4 𝐿𝐴𝑁𝐺𝑖𝑗 + 𝛼5 𝑙𝑛 𝐷𝑃𝐶𝐼𝑖𝑗𝑡 + 𝛼6 𝑙𝑛 𝐹𝐷𝐼𝑖𝑡 + 𝜌𝑡 + 𝛾𝑗𝑡 + 𝜀𝑖𝑗𝑡 … … … 3 • Employed least square variable technique (LSDV) estimation technique. Equation (3) is estimated for the three categories of exports: primary, intermediate, and final exports Table 1: Variable Description Variable/Symbol Description A-priori expectation EXPORT total exports positive GDP Source and partner countries nominal GDP positive Dist Bilateral distance between the two partners (distance between the major port cities) negative LANG dummy variable that capture the sharing of common language positive DPC differences in per capita income between the two trading partners – proxy for differences in relative factor endowments positive FDI Inward Foreign Direct investment in the host country Complementary – Positive ; Substitutes – Negative 𝛾 Nations dummies for all trade flows involving a particular nation – to control for multilateral resistance 𝜌 Year dummies to control for the correlation that may exist between the resistance term and the included variables Table 2 Data Description Data Source Bilateral exports from 10 ECOWAS members to 7 EU countries for the period 2000-2010, based on Broad Economic Classification s (BEC) UN Comtrade Database Data on bilateral distances and common language CEPII Database Nominal GDP and per capita income World Development Indicators (WDI) Database FDI UNCTAD Statistics Database Table 3: Empirical Results – Year and country effects Independent Variables lnDist Primary Exports Intermediate Exports Final Exports -0.725 -1.121 -1.498** -0.949 -1.587 0.699 0.592*** 0.546*** 0.800*** 0.094 0.162 0.071 -1.510 -1.320 -2.99*** -1.075 -1.863 0.818 0.586** -1.431*** 0.001 0.229 0.390 -0.168 Constant 5.840 -3.107 0.751 -5.209 -0.048 -2.277 Adjusted R2 N 0.60 0.35 0.57 649 770 718 LANG lnDPCI lnFDI Conclusion • • • Results from the gravity model show that while increased inflow of FDI promotes the export of primary goods from ECOWAS to the EU, it is associated with a reduction in the exports of intermediate goods and has no significant effect on final goods exports. One plausible explanation for this persistent observation is that FDI into the ECOWAS remain resource-seeking We recommend that in order to achieve export diversification and commodity based industrialization, ECOWAS members should align their investment promotion priorities with their industrialization policies Thank You