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Given the political risk in the Middle East North African (MENA) region, this research aimed to unveil the importance of the different components of political risk on the change in foreign direct investment (FDI), controlling for other types of risks and macroeconomic factors. Furthermore, we look at whether there are differences in the factors that affect FDI between rich and poor countries in the region. Fixed effect and random effect dynamic models are applied on a sample of 16 MENA countries over the period 1984 - 2011. Taking all countries together, we find, as hypothesized, that agglomeration, market size, and political risk are significant and positively related to FDI. Additionally, among the 12 political risk components, the level of corruption and the level of external conflict have close association with FDI flows. FDI motives, however, vary greatly between rich countries and the non-rich countries in the MENA region.
Key words: Foreign Direct Investment, fixed and random effect models, political risk, MENA
ABSTRACT
INTRODUCTION
Trade and investment has become an important path to foreign markets. As business becomes more global, and the level of competition between firms increases, managers in multinational firms face strategic decisions which are more complex in nature than those decisions taken by national firms. Managers in multinational firms find it compelling to study the different political risks indicators that could face them in the countries they decide to make business in. Lately, managers in multinational firms encountered a change in the political environment, and hence, a change in the conditions for doing business in the MENA region. Foreign investors in the MENA region face many kinds of political risks due partly to the lack of stability in the political risk indicators as, among others, corruption, military in politics, and ethnic tension.
Butler & Joaquin (1998) defined political risk as the risk that host countries' governments might unexpectedly alter the institutional environment within which enterprises operate. Many researchers suggest that political risk has a negative effect on the MNE's decisions to invest in a foreign country. The reason behind that lies on the negative effect that political risk and institutional instability have on the firm cost of making business in a foreign country. A MNE can hedge against political risk in...