Abstract
This study attempts to prove that emerging markets could partially improve institutional quality in a specific area and benefit the local economy despite the rest of the area having poor institutions. Interestingly, we observed that despite the presence of institutions of comparative disadvantage, emerging economies continue to constantly attract significant foreign direct investment. Hence, this study focuses on a type of place-based policy in China that provides a standard favorable institutional environment in a specific area. Using data from China’s Annual Survey of Industrial Firms and combining official lists of Chinese special economic zones (SEZs), we obtained a dataset of 2660 SEZs from 1998 to 2018, and a sample of 37,251 from 1998 to 2013. Then, we empirically examined the impact and mechanism of SEZs on foreign investment by using time-varying difference-in-difference specification. After a sequence of validity and robustness checks, we found that the establishment of SEZs significantly enhances foreign entry. We also found that partial institutional quality improvement of SEZs is a key mechanism in the location of foreign investment. We conclude that it is beneficial for the government to impose place-based policies such as SEZs that improve partial institutional quality efficiently and promote the local economy.
Highlights
China’s foreign direct investment (FDI) has grown rapidly since the turn of the 20th century
The coefficient of the DID regressor is positive and statistically significant at 1%, which is in accordance with our hypothesis, proving that the establishment of special economic zones (SEZs) promotes the entry of foreign enterprises
By regarding SEZs as a special institution leading to institutional quality that varies with different regions, we provide an explanation as to why emerging economies may attract a large number of FDIs under institutions of comparative disadvantage
Summary
China’s foreign direct investment (FDI) has grown rapidly since the turn of the 20th century. Other scholars have been more concerned about the motivations and driving forces of FDI from institutional perspectives [15,16,17], network [18], dynamic capabilities of firms [19,20], and resources [21,22,23,24]. As an important institutional force for policy-making, the home country’s government support can encourage FDI by introducing special treatments such as subsidies and tax benefits and providing resources such as raw materials [28,29]. Researchers have found that a similar institutional profile facilitates FDI, since firms can better manage within similar environments
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