Foreign Direct Investment, Real Exchange Rate Misalignment, and Export Performance of Lao PDR

Abstract

It is widely recognized that foreign direct investment (FDI) has its paradoxical aspects. On one hand, it contributes to economic development; on the other hand, the surge of foreign capital inflows might cause adverse effects, especially the appreciation of real exchange rate that might hamper the economic performance of the recipient countries. In this paper, we investigate the net impact of FDI on the export performance of Lao PDR, during the period 1981-2008. A single equation of the equilibrium real exchange rate model is adopted and is estimated using cointegration techniques. We then compute a misalignment index using the information of actual and equilibrium real exchange rate. The net contribution of FDI on export is calculated by comparing the magnitude of FDI and the misalignment coefficients obtained from the regression of the export function. The analysis indicates that although FDI is a source of real exchange rate misalignment – the factor that deteriorates the export performance – its direct contribution on export performance is positively significant and higher than that of the real exchange rate misalignment. Our finding indicates that FDI has a net positive effect on the export performance of Lao PDR.