Human Capital Development and FDI in Developing Countries

This paper evaluates the proposition that development of human capital can be instrumental in attracting FDI in developing countries by using fixed effects models on the panel data of 23 selected developing countries and 35 years (1970-2004). For the purpose, we employ two indicators of human capital development that are health expenditures and illiteracy rate and our empirical estimates confirm the efficiency seeking behavior of the MNEs. This study differs from the existing empirical literature-earlier FDI was mainly driven by market seeking motive and latter on by efficiency seeking motive- by finding the importance of both motives at the same time. Excessive government consumption and military expenditures are comparatively more significant, reflecting non-market friendly approaches. The impact of real lending interest rate on FDI is positive because higher lending interest rate in host countries mean MNEs have cost advantages in term of financing by home countries.