ON THE CAUSALITY BETWEEN FOREIGN DIRECT INVESTMENT AND OUTPUT: A COMPARATIVE STUDY

This article examines the effect of foreign direct investment (FDI) on output and total factor productivity (TFP) growth in the host economy. FDI-led growth hypothesis is investigated for Denmark, Finland, Norway, and Sweden by constructing a vector autoregression (VAR) model. On the basis of the new Granger non-causality procedure developed by Toda and Yamamoto (1995) and Yamada and Toda (1998), the results show that FDI and output are causally related in the long run for Norway and Sweden. Granger-causality is bi-directional in Sweden and uni-directional, running from FDI growth to economic growth, in Norway. Our findings could not offer support for the causality link for Finland and Denmark. The established bi-directional causality between variables reveals two policy implications. First, by stimulating economic growth, the recipient countries can encourage inflows of FDI. Second, FDI exerts a major influence on economic growth.