Foreign Direct Investment and Business Cycle Co-movement: Evidence from Asian Countries

Abstract

Regardless of the stage of development of economy, foreign direct investment and trade are prominent channels of business cycle co-movements. In view of sustainability concerns, carbon emissions have been in focus for shaping international policy on trade and FDI. We analyze the linkages between FDI, trade and carbon emissions relative to the business cycle co-movements using a panel comprising of 25 pairs of Asian economies. Adopting econometric techniques such as the three-stage least squares and Bayesian inferences, the results indicate that both FDI and trade are important channels of international business cycle transmission. It emerges that correlation of manufacturing sector emission between countries is negatively related to business cycle co-movement and trade, but positively related to FDI. Therefore, FDI is horizontal and tends to complement trade. We conclude reduction in CO2 emissions from manufacturing sector acts as the stabilizing agent on the business cycle co-movement, while FDI induces pollution in these economies.