Foreign direct investment and economic growth: A theoretical framework

Abstract

The relationship between FDI and economic growth has attracted considerable attention over the years. Despite the important role played by FDI in economic growth, a number of policy-makers have not fully understood the theoretical linkage between FDI and economic growth. The aim of this paper, therefore, is to review the theoretical literature on the relationship between FDI and economic growth in a stylized fashion. The theoretical literature reviewed in this study show that FDI is a key contributor to the economic growth of the host country. FDI affects economic growth through two broad channels: (i) FDI can encourage the adoption of new technologies in the production process through technological spillovers; and (ii) FDI may stimulate knowledge transfers, both in terms of labour training and skill acquisition, and also by introducing alternative management practices and better organisational arrangements.