Foreign Direct Investments and Economic Growth: A Critical Literature Review

The relationship between foreign direct investment (FDI) and economic growth has attracted major attention from academics and the governments of developing countries. Since economic growth is one of their main focuses, FDI attraction-related policies have been prioritized during the process of economic growth and development in these countries. It is widely observed that FDI mitigates the saving-investment imbalance and provides technology which is used for the production of goods and services. Although some studies have found evidence of the positive impact of FDI on economic growth, others have revealed the opposite result. The objective of this paper was to perform a critical theoretical and empirical literature review on foreign direct investments and economic growth. The theories guiding this study included the internalization theory, eclectic paradigm theory, product lifecycle theory, Solow growth model and endogenous growth theory. From the empirical studies reviewed, most studies conclude that foreign direct investments influence economic growth in a positive way but it is also evident that the studies also provide conflicting findings with some oscillating from negative to positive and others indicating no relationship at all. The difference in findings among the scholars might arise from methodological differences and operationalization of the study variables. Contextual differences might also explain the inconsistent findings as most of the studies have focused on developing economies. The study identified preconditions in the host country that help harness FDI and influence economic growth and they include developed financial and legal institutions, proper infrastructure, conducive monetary and fiscal policies, and an enabling macro-economic and structural environment that directs FDI to productive investments.