Foreign Direct Investment and Local Governance: Evidence from Vietnam amid 2018 Tariff War

• In Event: State and Local Policymaking

Abstract

This paper examines how foreign direct investment (FDI) affects subnational governance in Vietnam in the wake of 2018 U.S. – China trade war. As global production reallocated away from China, neighboring countries in Southeast Asia such as Vietnam experienced a surge in FDI, disproportionately concentrated in provinces that are close to major export hubs such as Shenzhen. Building on Edmund Malesky’s theory of adaptive governance, the paper argues that the unexpected entry of foreign firms generates pressures on local governments to improve their capacities, e.g., reducing time for firms to apply for business registrations, curbing the informal charges, etc. Vietnam can be a representative case to study FDI as it shares many institutional characteristics with other emerging countries, including corruption challenges, high flows of foreign investment, ongoing market-oriented reforms, and pro-business policy orientation.Using provincial-level FDI data in Vietnam, the study exploits plausibly exogeneous variation in tariff-driven investment flows due the 2018 President Trump administration’s tariff war. The empirical strategy employs an instrumental variable framework that leverages the variation in U.S. tariff imposed on Chinese export to identify exogenous shifts in FDI in Vietnamese provinces. The main independent variable is annually number of new FDI projects. The governance outcomes can be measured by either Provincial Competitiveness Index (PCI) and/or Provincial Governance and Public Administration Performance Index (PAPI), the former is based on firm-level survey while the latter is derived from citizen survey. The preliminary results confirm the expectation that FDI positively causes local government to adapt and improve institutional performance. In particular, a 10% increase in the number of new FDI projects can the weighted PCI of a province by approximately 0.5 points. The result is robust even after controlling for macroeconomic indicators and the lagged dependent variable. In addition to the econometric analysis, the paper highlights a case study of two Vietnamese provinces (Hai Phong and Bac Giang) whose governance improvements closely align with the model’s predictions, providing additional evidence of underlying mechanism.The paper contributes to the international political economy by demonstrating that global geoeconomic shocks can have a significant subnational institutional consequence. Broadly speaking, the results suggest that FDI can serve not only as a driver of economic growth, but also as a catalyst for governance reform.

Author

• Minh Dao, University of Texas, Dallas
  Presenting Author