Environmental impacts of FDI: evidence from heterogeneous panel methods

Abstract

This paper investigates the effect of foreign direct investment (FDI) on environmental quality for 123 nations over the period 1996 to 2018. The study also conducts a comparative analysis for 45 developing and 78 developed nations to better understand the environmental impacts of foreign direct investment. The study employs pooled mean group (PMG) and mean group (MG) estimation techniques for investigating the impacts of FDI on environmental quality as the slope heterogeneity test rejects the null hypothesis of homogenous slope coefficients for the cross-sectional units in all country groupings. In addition, the study employs common correlated effect pooled mean group (CCEPMG) and common correlated effect mean group (CCEMG) estimation methods to tackle cross-sectional dependence in all country groupings. The results indicate that the impact of FDI on environmental emission is negative and significant for the global sample. Furthermore, the comparative analysis for developed and developing countries indicates that FDI improves environmental quality in developed nations as it leads to a lower level of CO₂ emissions whereas it leads to adverse environmental impacts in the developing nations as it leads to a higher level of CO₂ emissions. The empirical findings for developed and developing countries confirm pollution haven hypothesis (PHH) for developing countries while pollution halo hypothesis for developed countries. This study may help the policy makers to better understand the attributes of FDI and to devise such type of policies and regulatory framework which encourages environmentally friendly FDI or the FDI that take care of environmental quality.

Keywords: Carbon emissions; Environmental quality; Foreign direct investment inflows; Pooled mean group; Trade openness.