Regional Free Trade Institutions and Foreign Capital Investment: The Multilateral Advantage

Abstract

Preferential trade institutions (PTIs) are the primary subject of the three empirical chapters. The first two chapters consider the relationship between the multi-state market formed when bordering states share membership in a PTI and foreign direct investment (FDI). The first focuses on the relationship between these institutions and FDI inflows, while the second considers the effect these institutions have on multinational profitability. The final empirical model examines the relationship between democratic institutions and PTI membership.Regional PTIs increase the local market size and attract higher FDI inflows. The New Economic Geography (NEG) provides the theoretical framework for evaluating the spatial distribution of foreign capital within a multi-state market. A fixed-effects crosssectional time series regression examines one hundred nine states from 1980 to 2005. Multilateral PTIs are more likely to attract FDI inflows than a series of bilateral agreements. These spatial benefits are highly concentrated in states with the strongest regional economy.Regional PTIs improve multinational investment return for companies located in the multi-state market by increasing the local market size. The NEG provides the theoretical paradigm to assess the relationship between U.S. FDI profitability and multistate markets. A panel-corrected standard error cross-sectional time series regression assesses this relationship for forty states from 1990 to 2004. The findings show that membership within a regional multi-state trade institution does not increase the profitability of foreign investment. Only FDI located in core states within the multi-state market will see increased returns.Democracies have specific institutional qualities that make them more likely to join PTIs. Three empirical models evaluate one hundred sixty-seven states from 1960 to 2004. The models examine whether democracies are more likely to have membership in a PTI, whether pairs of democracies are more likely to share membership in a PTI, and whether democracies are likely to have more PTI state partners. Democracies are more likely to have membership in a PTI and have more state partners. These numbers hold for bilateral and overall PTIs, but authoritarian states have more partners in multilateral institutions.