Foreign Direct Investment and Domestic Firm Performance in Developing Countries: The Impact of Host Country Factors in Kenya and Vietnam

Abstract

Many developing countries strive to attract foreign direct investment (FDI) in the belief that multinational enterprises (MNE) are bearers of advanced knowledge and technology, which may be absorbed by domestic firms and consequently result in macroeconomic growth. However, while many researchers have studied the effect of FDI on domestic firms, the results remain inconclusive and inconsistent. A reason for the ambiguous results may be found in the lacking consensus on how to measure FDI and domestic firm performance, the type and quality of data used, and the fact that data on developing countries are scarce. In this study, we seek to improve the existing literature by analyzing the effect of FDI on three distinct measures of firm performance using comprehensive firm-level data recently published by the World Bank. In addition, we also study how country factors influence the attraction of FDI and the extent to which FDI can lead to increased firm performance in two case countries; Kenya and Vietnam. Overall, our findings challenge the view that FDI promotes economic growth and development, since we find limited evidence that FDI leads to increased performance among domestic firms in Kenya and Vietnam. In some cases, we even find that FDI has a negative impact on domestic firms. Furthermore, we argue that a range of country factors have great influence on the impact of FDI on domestic firms and propose that further research should measure the effect of the identified country factors more explicitly.