impact of government policies and investment agreements on fdi ...

III
Theoretical Framework <strong>and</strong> Model Specification:
The emergence <strong>of</strong> FDI has been extensively explained in the literature by
corresponding streams <strong>of</strong> thoughts. Early studies on FDI traced its roots to the
international trade theory <strong>and</strong> identified comparative advantage <strong>of</strong> the host countries as
the most important determinant <strong>of</strong> FDI. This view successfully explained “resourceseeking”
FDI. However, since 1960s <strong>and</strong> 1970s the relative importance <strong>of</strong> this approach
declined as it was unable to explain why countries chose FDI <strong>and</strong> not trade?
Alternatively, market access was put forward as an explanation for FDI. The market
imperfection hypothesis postulated that FDI is the direct result <strong>of</strong> an imperfect global
market environment (Hymer 1976). This view successfully explained the “tariffjumping”
FDI, which was most prevalent in the import-substituting industrialisation
wave <strong>of</strong> 1970s. However, with the rising integration <strong>of</strong> the world markets in the 1980s
<strong>and</strong> 1990s there rose the need to explain FDI that occurred even with greater access to
integrated markets. An alternative explanation came forth in the corresponding stream <strong>of</strong>
thought that proposed internalisation theory (Rugman 1986). This theory explained FDI
in terms <strong>of</strong> a need to internalise transaction costs so as to improve pr<strong>of</strong>itability <strong>and</strong>
explained the emergence <strong>of</strong> “efficiency-seeking” FDI.
However, the above theories were not able to explain why FDI chose to exploit
relevant assets in some countries but not in others. In this regard, Dunning’s eclectic
approach to international production gave locational issues explicit importance by
combining them with firm-specific advantages <strong>and</strong> transaction costs elements (Dunning,
1993). FDI according to Dunning emerges due to ownership, internalisation <strong>and</strong> locatonal
advantages3. For our analysis <strong>of</strong> the cross-country pattern <strong>of</strong> FDI in Asian developing
countries, we adopt Dunning’s eclectic paradigm that emphasises the locational
advantages in terms <strong>of</strong> economic conditions or fundamentals <strong>of</strong> the host countries relative
to other countries as determinants <strong>of</strong> cross-country pattern <strong>of</strong> FDI.
3
The development in different theories <strong>of</strong> FDI has been surveyed by Dunning (1999).
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