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International Journal of Research Publications

Infrastructure development and its impact on FDI inflows:

a
MF. Mohamed Marsooka*
Eastern University, Sri Lanka, Vantharumoolai, Chenkalady.

Abstract

The purpose of this study is to investigate the role of investment in both economic and social infrastructures
on to inflow of Foreign Direct Investment (FDI) to Sri Lanka. Sri Lanka is one of the developing country and
which has first nation adopted open economic policy in South Asia Region. Sri Lanka explores the ways to
attract FDI to have many benefits including supplementary to domestic capital. In this study, test is based on
secondary data of Investment in Economic and Social Infrastructures (EI and SI) and Foreign Direct
Investment Inflows from 1990 to 2017. This study used four econometric models such as Linear- Linear
Model, Linear – Log model, Log –Log model and log- linear models of dependent variable, FDI inflows
and independent variables of Investment in Economic Infrastructure and Social Infrastructure in order to
identify dynamic long run co integration between Inflow of Foreign Direct Investment and its independent
variables. The test found out that there is significant relationship between investment in both economic and
social infrastructures and Inflow of FDI to Sri Lanka. Policies are suggested to increase local or foreign
investment in both Economic and Social Infrastructures in the country along with other favourable
determinants in order to attract FDI in future.

Keywords; Economic, Social, Infrastructure, FDI, Sri Lanka, Linear, Log Model, EI, SI

1. Introduction

This study focuses on the analysis of the impact on infrastructure Development with the foreign direct
investment (FDI). FDIs in a foreign countries are located in two categories as: “horizontal” which included
the economies of transportation costs, tariffs for utilities and opportunities to access new markets and the
“vertical” which mostly aims to minimize the production costs and maximize the profitability of the firm
(Shatz and Venables 2000).
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Foreign Direct investments (FDI) are not new to Sri Lanka. In British Colony, many British companies
directly invested in plantation sectors in Sri Lanka. After the Independent, FDI inflows into Sri Lanka had
been gradually increased but not significant up to 1977. Sri Lanka was a first South Asian country which
liberalized its economy in 1978. Sri Lanka opened its economy for private sectors to invest in some sectors of
the business such as Garments, Banking and Manufacturing. During the period, the government of Sri Lanka
introduced many strategies like tax incentives, buildings free trade zone, and reduction in tariff for foreign
investors who bringing advanced technology machineries in order to attract more foreign direct investments
inflows (Central bank of Sri Lanka 2017) .
Improvements in infrastructure along with other favourable macroeconomic policies such as relaxation on
labour law, encouraging private investment in some public enterprises, adopting moderate exchange rate,
managing moderate interest rate and free trade agreements are the vital elements to attract Foreign Direct
Investments (Pravakar Sahoo 2006) and those infrastructures should extend to local and multinational
enterprises publicity to achieve maximum efficiency (Erenberg 1993).

Infrastructure development on the developed and developing countries are having different impacts and has a
significant attractiveness for the inflows of FDI in the developing economies (Asiedu 2006) and there is long
run relationship between real per capita GDP, Foreign Direct Investment and the level of the infrastructure
and empirical result further confirmed that the unidirectional causality from level of infrastructure to FDI
(Thilakaeera 2007). In case of Pakistan, a strong positive impact of infrastructure in attracting foreign direct
investment in short and long run (Abdul Rehman et al. 2011).

In recent studies on infrastructure with communication, transportation, roadways, and ports, mainly on
transport infrastructure along with some other variables of FDI and evidenced the positive significant
contribution of infrastructure in captivating FDI (Khadaroo and Seetanah 2010).

The present study contributes to the existing literature by empirically examining the impacts of FDI mainly to
infrastructure development in Sri Lanka. This work also serves the objective to investigate the relationship
between investments in infrastructures (Economic and Social) and FDI inflows into Sri Lanka through the
secondary data of last 28 years (from 1990 to 2017) by statistical technique like MINITAB and exploring an
opportunity to develop an economic policy to attract FDI inflows into Sri Lanka by means of increasing
investment opportunities in Infrastructures.

2. Materials and Methodologies

The secondary data of FDI inflows, Economic Infrastructures development and Social Infrastructures
developments are being used in this study. The Data have been collected from Central Bank of Sri Lanka and
Board of Investments from various annual reports and website of Board of Investments respectively for the
period 1990 to 2017. Four econometric models such as Linear- Linear Model, Linear – Log model, Log –Log
model and log- linear models of dependent variable of FDI and independent variables of Economic
Infrastructure Development and Social Infrastructure Development were used to determine the contribution of
independent variables on Foreign Direct Investment inflows to Sri Lanka and by using multiple independent
variable Regression line analysis through a statistical package like MINITAB.

1.1. Hypothesis
The Hypothesis is the fast developing infrastructures in economics and social sector have positive impact on
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Foreign Direct Investments Inflows to Sri Lanka.

3. Results and Discussions

According to the study, it reveals that how government investment in both economic and social infrastructure
development contributes to attract foreign direct investments into Sri Lanka. Macro-economic variables such
as Foreign Direct Investments inflow (FDI), Economic Infrastructure Development (EI) and Social
Infrastructure Development (SI) during the period from 1990 to 2017 were used to analyse the correlation
among the variables.
Investments in EI mean that investment of government of Sri Lanka made during the period from 1990 to
2017 in the sectors such as road development, road passenger transportation, rail transportation, civil aviation,
port services, water supply and irrigation, energy sector and electricity sector.
Investments in SI mean that investment of government of Sri Lanka made during the period from 1990 to
2017 in the sector such as health, education, housing and urban development, poverty alleviation and safety
nets and environment.
FDI mean that investments made by the foreign companies through Board of Investment of Sri Lanka taken as
whole every year from 1990 to 2017.
Collected data has been analysed by Multiple Regression Model and the coefficient between independent
variables (EI & SI) and dependent variable (FDI) was measured by “Minitab” package. Linear Regression
Model, FDIt = β0 +β1EI+ β2SI + εt is used to find out the correlation between the variables. In addition to
this, other three models such as Linear & Log Model, Log & Log Model, Log and Linear Model were used
for more accurate result.

Table 1. Correlation between the variables

MODELS P F DW R-SQ(ADJ)
FDIT = Β0 +Β1EIT+ Β2SIT + ΕT 0.000 106.02 1.23708 89.7%
FDIT = Β0 +Β1 LOG EIT+ Β2 LOGSIT + ΕT 0.000 40.22 0.791585 76.6%
LOG FDIT = Β0 +Β1 LOG EIT+ Β2 LOGSIT + ΕT 0.000 46.62 1.77186 79.2%
LOGFDIT = Β0 +Β1 EIT+ Β2 SIT + ΕT 0.000 44.65 1.72876 78.4%

Table 1 containing four models used to select suitable model to find correlation between FDI and (EI & SI).
All models were tested with 1% significant (P≤0.01).

Having considered the determinant [R-Sq. (adj.)], the value of [R-Sq. (adj.)] in linear – linear model has
comparatively high at the same time F value also is high. Therefore, as per the statistics tested here, the
model of Linear – Linear is selected as the best one among other models. According to the statistics of the
selected model, R2 Adj.) is 89.7%. High value (89.7%) of R2 (Adj.) means that dependent variables highly
influence on independent variable. That is, Government Investment in both economic and social infrastructure
development has a significant impact on Foreign Direct Investment inflows to Sri Lanka (Table 1).
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Table 2.Result of Regression analyse by Linear –Linear Model (1990-2017)

VARIABLES CO EFFICIENT OF REG. T VALUE PROBABILITY (P)

Β0 ( INTERCEPT) - 66.0 -1.38 0.183

EI 1.93 3.34 0.003

SI 8.30 3.54 0.002

R- SQ (ADJ) = 89.7%

The value of adjusted R2 is equal to 89.7% in Linear – Linear Model and it means that independent variable
such as Economic Infrastructure Development and Social Infrastructure Development impacts on dependent
variable by 89.7%. Other factors influence on FDI only by 10.3%. Based on analysing, 1% increase in
investing Economic Infrastructure Development increase in receiving Foreign Direct Investment inflow by
1.93% and it has a positive relationship between Economic Infrastructure Development and Foreign Direct
Investment inflows to Sri Lanka. Like that, 1% increase in investing Social Infrastructure Development
increase in FDI inflows by 8.30% and it has significant positive relationship between FDI inflows and Social
Infrastructure Development.
As probability of both economic and social infrastructure development is less than 0.1 and they have positive
impact on FDI inflows, it is considered that government investment in both economic and social infrastructure
development has a positive impact on FDI inflows to Sri Lanka during the period from 1990 to 2017 based on
the result of the statistical tests. Hence, alternative hypothesis, “Investment in infrastructures has not
positively impacted on Inflows of FDIs to Sri Lanka” is rejected.

4. Suggestions
This research was made only in the variable of Infrastructure Development (Economical & Social) and tried
to find the correlation between investment (Economical & Social) in Infrastructure Developments in Sri
Lanka and its impact on Foreign Direct Investment inflows to Sri Lanka. But, it would be better to include all
other determinants such as Market size, Openness, Friendly legislation, freedom in authority of Board of
Investment of Sri Lanka, getting GSP Plus quotas of Europe Unions to Sri Lanka, Tax incentives, Wages of
Labour Force, Free Trade Agreements, Permission to re-invest retained profit and Gross Domestic Product
that impact on attracting FDI inflows to Sri Lanka for the accurate results in developing correct economic
policy. Time to time, Policy Makers find new strategy to attract more and more FDIs to Sri Lanka. Presently,
it is said that third party like politician’s involvement in Board of Investment (BOI) should be avoid to bring
confidence among the investors who are ready to invest in Sri Lanka. So, there is gap in the research to find
out new ingredients that attract on FDIs in future.

5. Conclusion

Investments in fast growing quality infrastructures with other positive determinants will bring more and more
FDI inflows to the country. Therefore, Government of Sri Lanka will have to focus on local or foreign
investments in suitable infrastructures to bring more FDIs to Sri Lanka.
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References

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Asiedu, E. (2006). Foreign direct investment in Africa: the role of government policy, institutions and political instability. World
Economy, 29(1), 63-77. Erenberg, S. J. (1993). The real effects of public investment on private investment. Applied Economics, 23, 831-
837.
Khadaroo, A. J., & Seetanah, B. (2010). Transport infrastructure and foreign direct investment. Journal of International Development, 22,
103–123.
Pravakar Sahoo (2006). Foreign Direct Investment in South Asia : Policy, Trends, impact and determinants.

Shatz, H., & Venables, A.J. (2000). The Geography of International Investment. “World Bank Policy Research Working Paper”. pp.
2338.

Thilakaweera, B.H.P.K. (2006). Economic Impact of Foreign Direct Investment in Sri Lanka.