Institutions, foreign direct investment, and domestic investment: Crowding out or crowding in?

Studies of the relationship between FDI and domestic investment levels reachcontradictory findings. We revisit this empirical relationship and argue that someof the conflicting evidence may be explained by the use of poor proxies for the true underlying variables and by questionable methodological choices. Using more appropriate proxies and statistical models, we conclude that FDI inflows contributepositively to domestic investment levels. We also find weak evidence that goodgovernance, proxied with using the Worldwide Governance Indicators and tworent seeking indicators we built, encourages investment. Theoretical argumentssupport either positive or negative interaction effects of good governance and FDIon investment, invoking either technological spillovers or rent seeking behaviour.We tend to conclude that the negative rent seeking effect is dominant.