Is there a trade-off between financing current account deficits and environmental deterioration in developing countries? An empirical investigation for the validity of the pollution haven hypothesis

Abstract

The impact of foreign direct investment (FDI) on environmental quality has been discussed in the environmental economics literature over the last decades. Within this scope, the pollution haven hypothesis (PHH) postulates that FDI inflows can cause environmental degradation in developing countries. Using data over the period 1993-2018 for 10 developing countries with current account deficits, this paper aims to test the validity of the PHH. Therefore, the paper examines whether or not developing countries face off a trade-off between financing current account deficits and environmental deterioration. The paper employs panel data methods that consider cross-sectional dependence. The empirical findings show that foreign direct investment inflows have no impact on environment, meaning the PHH does not dominate for these countries. Hence, the findings indicate that there is no trade-off between financing current account deficits and environmental deterioration.

Keywords: Current account deficit; Environmental deterioration; Foreign direct investment; Panel data analysis; Pollution haven hypothesis.