Foreign direct investment and economic growth in Vietnam

Abstract

Foreign Direct Investment (FDI) is expected to benefit developing countries through raising domestic investment, creating jobs, transferring of technology, enhancing domestic competition and producing positive externalities. However, each developing country has different initial conditions and distinctive institutional setups. Heterogeneity in each country implies that the benefit of FDI may vary from country to country. The purpose of this paper is to examine the role of FDI in the process of technology diffusion and economic growth in Vietnam using time series data over the period 1986-2006. The period includes the 1990s, when Vietnam launched economic reform – Doi Moi and the financial liberalization process. We construct an endogenous growth model in which the rate of technological progress is the primary determinant of long term growth rate of income. Cointegration technique is utilized to verify the adoption of endogenous growth model for Vietnam. The result indicates that there exists a long-run relationship between FDI and economic growth. Employing the Error Correction Model (ECM), we examine the speed of adjustment toward the long run equilibrium. Our finding shows that both FDI and human capital have positive effects on economic growth. Domestic investment is stimulated by FDI. Nevertheless, the interaction between FDI and human capital may slowdown economic growth. The finding has shed light on the causes of current macroeconomic instability in Vietnam.