Trade liberalization in a globalizing world



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TRADE LIBERALIZATION IN A GLOBALIZING WORLD


Riccardo Faini


(Università di Roma Tor Vergata, CEPR, IZA and CSLA)

The Paper has been prepared for the Annual World Bank Conference on Development Economics, Washington, D.C. May 3-4, 2004. I am very grateful to Giorgio Barba Navaretti, Enzo Grilli, Jaime de Melo, Maurice Schiff and an anonymous referee for helpful suggestions and to Stefania di Giuseppe for excellent research assistance. Of course the responsibility for any errors is solely mine.



ABSTRACT
International economic integration has been on the rise since at least the mid eighties. However, the present episode of globalization has a number of distinctive features that makes it more vulnerable to a turnaround in even one of its components. First and foremost, the nature of foreign direct investment, particularly toward developing and emerging markets, has changed. In the past, FDI was mainly directed to establish a production facility in foreign markets with a view to catering to foreign consumers and circumventing restrictions to trade. More recently, however, the investment decisions by international firms seems to be increasingly driven by the desire to cut production costs by slicing the value added chain among affiliates in different locations as a function of relative factor prices. Hence, trade costs happen to play a very different role in this context. They no longer encourage multinational firms to invest abroad with a view to getting better access to foreign consumers. Quite to the contrary, their impact is to increase the costs attendant on the fragmentation of the value added chain and discourage therefore firms from investing abroad. In other words, trade and FDI have increasingly become complements. As a result, any step back in either dimension would reflect negatively on the other.

Similar considerations apply to the link between trade and migration. The two have typically been seen as substitutes. The creation of NAFTA was indeed hailed by then President Salinas as reflecting the desire of his country “to export goods not people”. This relationship may still hold true, but increasingly less so. In particular, the growth in service trade, one of the most dynamic component in the expansion of international trade, is very much dependent on the ability to supply such services in loco through the firm’s own personnel and is therefore positively linked to migration. Once again, therefore, restriction on one component of globalization – say immigration - carry negative implication for other facets – trade in services - of the process.


The main findings of the paper can be summarized as follows. First, while trade and FDI policies have become steadily more liberal throughout the world, immigration policies in receiving countries have grown quite restrictive. Only for skilled workers has immigration policy in the main receiving countries become more generous, raising fears among sending countries of a brain drain. Second, at least in the nineties, import trade liberalization fostered not only trade but also inward investment, confirming that trade and FDI toward developing countries have been, most recently, largely complements. Third, the presence of a skilled labour force is a relevant factor to attract FDI. Moreover, trade policies and the stock of FDI have a positive impact on the incentives to acquire education. This set of findings highlights the possibility of a low equilibrium trap where the lack of human capital discourages FDI and inadequate investment from abroad limits the domestic incentives to acquire education. Rich countries, by encouraging skilled immigration from relatively poor countries, would be definitely aggravating such a risk. Fourth, we find little evidence supporting the contrary argument of a brain gain, where the possibility for skilled workers to migrate abroad raises the return to education and the investment in human capital.

1. Introduction
International economic integration has been on the rise since at least the mid eighties. Trade in goods and services has been one key component in the process. While world GDP rose on average by 3.8% between 1985 and 2000, world exports expanded at a substantial faster rate during the same period, 6.1% on an average annual basis. The growth in trade did not come at the expense of reduced factor mobility, as traditional trade theory would typically imply. Between 1985 and 2000, real foreign direct investment increased at an average annual rate of 17.7%. The stock of inward FDI rose from 8.4 % of world GDP in 1985 to 22.3 % in 2002. Even migration, in many respects the grand absentee of the present globalization episode, played a non negligible role in fostering international integration. In the US, for instance, the stock of foreign born population increased from 6.2% of total population in 1980 to 10.4% in 2000.
Yet, more recently, there have been signs that globalization is retreating. FDI fell markedly by 41% in 2001 and again by 20% in 2002. International trade virtually stagnated in 2001 and failed to rebound in 2002. The volume of merchandise trade actually fell in industrial countries. A key question is whether this is simply a cyclical phenomenon, reflecting the global economic slowdown, or whether it carries more worrisome implications.
Clearly, it is too early to tell. What can we say however is that the present episode of globalization has a number of distinctive features that makes it more vulnerable to a turnaround in even one of its components. First and foremost, the nature of foreign direct investment, particularly toward developing and emerging markets, has changed. In the past, FDI was mainly directed to establish a production facility in foreign markets with a view to catering to foreign consumers and circumventing restrictions to trade. Accordingly, market access was the key factor in the locational choice of multinational enterprises. More recently, however, the investment decisions by international firms seems to be increasingly driven by a different set of considerations. The need to reduce costs has become paramount and this objective is being achieved by slicing the value added chain among affiliates in different locations as a function of relative factor prices. Hence, trade costs happen to play a very different role in this context. They no longer encourage multinational firms to invest abroad with a view to getting better access to foreign consumers. Quite to the contrary, their impact is to increase the costs attendant on the fragmentation of the value added chain and discourage therefore firms from investing abroad. In other words, trade and FDI have increasingly become complements. As a result, any step back in either dimension would reflect negatively on the other. In particular, increasing trade restriction would not only depress trade, but also negative reflect on the incentives to undertake FDI.
Similar considerations apply to the link between trade and migration. The two have typically been seen as substitutes. The creation of NAFTA was indeed hailed by then President Salinas as reflecting the desire of his country “to export goods not people”. This relationship may still hold true, but increasingly less so. In particular, the growth in service trade, one of the most dynamic component in the expansion of international trade, is very much dependent on the ability to supply such services in loco through the firm’s own personnel and is therefore positively linked to migration. Once again, therefore, restriction on one component of globalization – say immigration - carry negative implication for other facets – trade in services - of the process.
These considerations have substantive implications both for policy and research. At the academic level, they highlight the need to study globalization in a fully integrated way, not just as the sum of its different components. Separate analyses of trade, FDI, and migration would not do the job. Even bivariate studies of the link say between trade and migration or between trade and FDI may miss the full picture. We know little either empirically or theoretically about the links between FDI and migration. We know even less about the intricate relationships that tie together trade, foreign direct investment, and migration.
From a policy point of view, the need for policy coherence becomes paramount. Restricting trade may be detrimental to the ability to attract FDI. Similarly, limiting migration may discourage FDI and depress trade. Unfortunately, policy coordination is weak, particularly in developing countries, with key decisions affecting trade, inward FDI, and migration policies often being taken by different public bodies. Policy coherence is also particularly inadequate at the international level. Coordination among international institutions is the exception rather than the rule. Also, there is no international institution in charge of migration issues. Similarly, attempts to define a set of multilateral rules for FDI have completely floundered and have all but been abandoned. Finally, the drive to coordinate aid, trade, and capital flows policies have so far yielded no tangible results.
The remainder of this paper is organized as follows. The next section briefly reviews the major trends in international economic integration since the early nineties. We focus on trade, FDI, and migration. We also look at policies. We find that while trade and FDI policies have become steadily more liberal throughout the world, immigration policies in receiving countries have grown quite restrictive. Only for skilled workers has immigration policy in the main receiving countries become more generous, a trend however that has raised considerable concerns among developing countries afraid of losing their best and most educated talents.
These trends carry substantive implication for the ability of developing and emerging markets to fully benefit from globalization. Trade liberalization across the world should foster trade, boost openness and encourage FDI. We test these conjectures in section 3. As expected, we find that, at least in the nineties, import trade liberalization fostered both trade and inward investment. At the same time, we also find that the presence of a skilled labour force is a relevant factor to attract FDI. In section 4, therefore, we take a close look at the determinants of the investment in human capital in developing countries. We seek to assess whether, in addition to more traditional determinants, also trade policies and the stock of FDI have a positive impact on the incentives to acquire education. We find that this is indeed the case, suggesting the possibility of a low equilibrium trap where the lack of human capital discourages FDI and inadequate investment from abroad limits the domestic incentives to acquire education. Rich countries, by encouraging skilled immigration from relatively poor countries, would be definitely aggravating such a risk. Developing countries are therefore right to be concerned about the negative growth implications of the brain drain.
However, the case could be made that the brain drain is not necessarily a curse for sending countries1. It may well be that the opening up of industrial countries borders to skilled migration from the developing world raises the return to education there, thereby boosting investment in human capital. Under these conditions, trade liberalization, FDI, and the brain drain would no longer work at cross purpose, but would be mutually reinforcing. Trade liberalization would still strengthen the incentives for FDI. However, the brain drain too would favour FDI. This is because the sheer ability to migrate abroad would boost the incentive in education, potentially raising the domestic supply of skilled workers and in the end triggering an even larger flow of foreign direct investment. We assess the empirical plausibility of this argument in section 5. The available evidence suggests that this rosy scenario is somewhat unlikely. Overall, while the results can only be seen as preliminary, nonetheless they clearly indicate the need to examine the effects of trade, FDI, and migration policies in a fully integrated manner.


2. Trade and factor mobility: trends and policies
The key facts of globalization have all been well documented elsewhere and need only to be briefly recalled here. Between 1985 and 2000 world real GDP increased at an average annual rate of 3.8%. During the same period, real exports increased at an average rate of 6.1% and real FDI flows by 17.7%. As a result, the share of both exports and FDI in world GDP increased substantially (figure 1). Migration also expanded, but at a substantially slower pace. Cross country comparisons of migration data are marred by definitional problems. Yet, available evidence shows that migrants stocks, as a percentage of population, have been rising very slowly for the main receiving countries and, in a number of cases, have even declined (table 1).
For the purpose of this paper, the key fact is the expanding role of developing countries. Their share in world exports has increased quite rapidly, particularly in the nineties, largely driven by the exceptional performance of Asia (figure 2). Developing countries are also playing an increasingly relevant role as host of FDI. While foreign direct investment goes predominantly to developed countries, the share of developing countries has been rising since the late eighties. It fell in the aftermath of the Asian crisis but has been recovering since, albeit at a slow pace (fig. 3). Perhaps more crucially, developing countries have witnessed a substantial rise in their exposure to the international economy. Figures 4 and 5 give the regional details for trade and FDI respectively. From figure 4 we see how trade openness – defined as the sum of imports and exports over GDP - has risen steadily in Asia, developing Europe, and Latin America. The picture for Africa is a bit less univocal and so is that of the Middle East, despite the fact that openness is measured at constant prices and hence is not affected by gyrations in commodity prices. Foreign direct investment also shows a rising trend as a percentage of host country GDP (fig. 5). With the exception of the Middle East, inward foreign direct investment has surged in all regions and now accounts for about 4% of GDP in Africa, Asia, developing Europe and Latin America. Contrary to widespread beliefs, Africa has also benefited from the rapid expansion in FDI. Its low share in world FDI simply reflects its low share in world GDP. Finally, the substantial increase in FDI to Latin America is partly the mirror image of the large scale privatization program during the nineties.
A more liberal policy stance has been instrumental in opening up the economies of developing countries. In fig. 6, we see how over the last twenty years tariff barriers have been declining quite significantly in most developing regions, from 33% to 20% in Africa, from 35% to 15% in Asia and from 30% to 13% in Latin America. Developing Europe, a relatively latecomer to the globalization process, also managed to halve its average tariff rate from 20% to 10%. The noticeable exception to this fairly general trend was the Middle East where tariff barriers increased from 13% in the early eighties to 16% in the late nineties. For most developing countries, non tariff barriers have also declined. The International economics department at the World Bank has computed the tariff equivalent value of both core and non core NTBs for three selected years during the nineties (figure 7). Perhaps, the most striking finding is that, on average, non tariff barriers do not restrict trade as much as commonly thought. In all cases, their ad valorem equivalents are below 10%. Only for Latin America and the Middle East they are actually close to such value. For Africa, Asia and developing Europe they stand at much lower levels, around 2-4%.
Summing up so far, two facts stand out. First, tariff barriers are still relatively high in many developing countries, but have been on a downward trend since the early eighties, with the only noticeable exception of the Middle East. Second, non tariff barriers do not restrict trade significantly, as measured at least by their tariff equivalent value.
Turning to barriers with respect to FDI, the general picture of a more liberal regime still holds. Restrictive measures are more difficult to quantify in this area. Nonetheless, UNCTAD has maintained a headcount of FDI measures and classifies them according to whether they represent a move toward a more or less liberal regime. The trend is definitely toward a more open policy regime with liberalizing measures outranking restrictive ones by a factor of 10.
Last but not least, the stance on migration policy stands in sharp contrast with the increasingly liberal attitude with respect to trade and FDI. Indeed, since 1974, most industrial countries have tried to restrict new immigration and, at the same time, favour the return of previous immigrants. While many of these policies have only been partly successful, they have nonetheless succeeded in slowing down the flow of immigrants that had characterized the post war period. More recently, in response to the growing shortage of skilled workers, most receiving countries have tried to shift the focus of their immigration policy, with the view to favouring the recruitment of highly skilled workers. This new twist in the policy stance toward immigration has become a source of considerable concern in traditionally sending countries, that are afraid of losing their most skilled and entrepreneurial workers. Unfortunately, empirical evidence on the determinants and the size of the brain drain is quite limited. The gap has been partly filled by the work of Carrington and Detragiache (1998). Using the US census on the educational and the geographical origin of immigrants into the US and combining this information with the Barro-Lee data set on the level of educational achievements in sending countries, they are able to estimate migration rates for different educational groups. Their main finding is that skilled migration can represent a significant drain at least for some developing countries. Table 2 reports migration rates for secondary and tertiary educated migrants for a selected group of sending countries.

3. Trade and factor mobility: the most recent trends
The rapid growth in trade and FDI came to a sudden stop in 2001. The fall in FDI was massive, minus 41% in nominal terms. Fortunately enough, there was no collapse in world trade, but the volume of trade was virtually unchanged with respect to the previous year. Matters did not improve much in 2002. FDI fell again, this time by 20%. The recovery in trade was modest, 3.2%, basically in line with the growth in world output. The prospects for 2003 are not particularly bright, with growth in trade projected to stay once again below that of world output.
Largely, the slowdown in the pace of globalization can be attributed to the slowdown of the global economy and, to a lesser extent, to the correction of the financial excesses in the late nineties. Yet, comparisons with earlier periods suggest that the fluctuations of the world economy cannot fully explain what happened to trade and FDI in 2001-2003. For the purpose of comparison, we look at the 1991-1993 slowdown, when world output growth stood at 3% as it did in 2001-2003. We find that world trade increased by only 3.9% in 1991 but then recovered quite rapidly to 9.5% and 11.4% in the two following years. As we have just seen, there has been no such recovery of trade in the current slowdown. Similarly, FDI fell in 1991, by 20%, but then recovered very rapidly in 1992 and particularly so in 1993 when its rate growth stood at around 30%. As argued by UNCTAD (2003), what is of concern today therefore is not only the downturn’s severity but also its duration.
These concerns should not be overblown. The fall in world FDI reflects the collapse in mergers and acquisitions, itself linked to the decline in the stock markets. Moreover, data for 2003 seem to indicate a bottoming out of the FDI cycle. Yet, the fact remains that trade, a component not too prone to financial excesses, fell relatively more, and was relatively slower to recover, compared to previous slowdowns.
The policy stance is an additional source of concern. The failure of the Cancun ministerial meeting and the collapse of the negotiations for a multilateral agreement on investment provide an hefty reminder that the trend toward more open policies should not be taken for granted. We also know from history that globalization is not an irreversible process, driven by the forces of technology. Policy matters, even more so in a context where, as noticed earlier, complementarities among the different facets of globalization play an increasingly relevant role. Failure to liberalize trade, or worse a retreat from current trade policies, would not only depress the expansion of trade flows, but could well undermine also the incentives for capital and labour mobility.
4. Trade liberalization, trade flows and factor mobility
There is considerable disagreement in the literature as to the growth effects of a more liberal trade regime. A key difficulty is whether the stance of the trade regime should be measured by an output indicator, such as the relative size of trade flows, or more directly by a an index of trade policy. The former are easier to compute, but do not necessarily provide a good measure of the trade policy stance as they reflect the influence of many confounding factors. The latter are harder to get and typically perform less well in empirical analyses. Still, until very recently, the conventional wisdom was that trade openness, whether measured by an output or a policy indicator, was positively associated with per capita income growth. However, an influential paper by Rodriguez and Rodrik (2000) showed that standard wisdom was, as it often happens, less conclusive than commonly thought. Not only were traditional measures of trade openness very imperfect indicators of the actual stance of trade policy, but, more crucially, trade restrictions, compared to other unsound policies, were found to play a relatively minor role in determining the growth performance across countries. More recently, though, Wacziarg and Welch (2003), while confirming most of the early findings of Rodriguez and Rodrik, showed that, in a time series context, properly identified trade liberalization episodes have a positive and robust effect on growth and investment.
a) trade policy and trade flows
For the purpose of this paper, the key finding of Wacziarg and Welch (2003) is that trade policy measures are indeed associated with greater trade openness, measured by the sum of exports and imports over GDP. This result supports the view that typically the effects of trade liberalization are not negated by offsetting measures or by poor implementation. We assess the robustness of the findings by Wacziarg and Welch (2003) by adding to their regression a number of structural factors, namely per capita GDP and total population, with a view to capturing the impact of economic development and size on openness. Trade policy is simply measured by an indicator of tariff barriers compiled by the World Bank. We ran the following simple five year regression over the eighties and the nineties (1981-85, 1986-90, 1991-95, 1996-2000) for a large sample (92) of developing countries:

where X, M and Y denote exports, imports and GDP while Ypc, Pop and τ represent per capita income, total population, and tariff barriers. Details about estimation methods and data sources are relegated to the appendix. Suffice to say here that, in an effort to cope with endogeneity problems, explanatory variables are equal to their value at the beginning of each five year period, while the dependent variable is averaged over the whole period. Also, as an indicator of τ we use both the level of import duties and its log. As expected, we find that openness is positively associated with income per capita and negatively related to population (table 3). As expected, rich and small economies tend to trade relatively more. Furthermore, trade policy also affects quite significantly, both in statistical and quantitative terms, the level of openness. A 10 per cent decline in the level of tariff is associated with a 2 per cent increase in the level of openness.
Summing up, a more liberal trade stance will positively affect openness, even after controlling for the more structural determinants of trade flows.

b) trade policy and foreign direct investment
We can now turn to the relationship between trade policy and inward foreign direct investment. Unfortunately, theory does not provide a clear-cut answer as to the direction of such a link. Consider first the standard model of trade. An increase in tariff barriers will typically depress both exports and imports. In a capital poor country, it will also raise the returns to capital and hence attract investment from abroad. This is the standard substitutability results between trade and factor mobility. Conversely, the lifting of trade restrictions should boost trade and discourage factor mobility. Interestingly enough, even less orthodox models come to similar conclusions. Consider for instance the product cycle paradigm. Initially, the new product will be exported by the innovating firm. However, once production becomes routine, it will be moved to a foreign location, where production costs are cheaper. Therefore, here too FDI is viewed as replacing trade.
The models above basically fit the description of horizontal FDI, where the shift of production to a foreign location is motivated by the desire to circumvent trade barriers, save on trade costs and gain access to foreign consumers. Even in this set-up, however, the medium link between trade and FDI is not unambiguous. As noticed by UNCTAD (1996), for instance, foreign affiliates typically generate a steady demand for imports of capital and intermediate goods from their parent firm. In the medium run therefore, following the investment abroad trade flows may grow rather than contract. However, it is still true that trade will grow less compared to the case where the firm had not established a production platform abroad. Accordingly, the prediction that trade barriers will depress trade and encourage market seeking FDI still holds.
Market seeking inward FDI is certainly not the rule for most developing countries, given the small size of their markets. A perhaps more relevant motivation of inward FDI has been the desire to exploit the availability of natural resources in host countries. Resource seeking FDI is typically trade creating. Multinational firms will mostly cater to consumers in their home country or in third markets. Indeed, the main motivation of resource seeking FDI is to produce for exports rather for host country consumption. The key observation here is that trade barriers are unlikely to matter much. Compared to manufacturing firms, primary sector affiliates are less dependent on the imports of intermediate goods. They are also unlikely to face major barriers in export markets. At any rate, trade barriers in the host country are unlikely to be a determining factor in the location decision of resource seeking FDI. Even imports of capital goods are typically taxed at very favourable rates if not totally exempted. Accordingly, the prediction is that trade barriers should not have a substantive effect on resource seeking FDI.
It is also worth noting that this form of FDI has been steadily losing relevance. For instance, exports by US primary sector affiliates as a percentage of host countries exports of primary goods has declined from 35 per cent in 1977 to 11.2% in the early nineties (UNCTAD, 1996). This trend mostly reflect the policies of indigenization of primary sectors by host countries. Moreover, the primary sector itself has lost much ground as a source of foreign exchange for the developing world. Indeed, in the early nineties, the primary sector accounted for more than 22% of the stock of inward FDI in developing countries, but during that decade only less than 9% of the total flow of inward FDI went to that sector.
Efficiency seeking, or vertical, FDI represents a further motivation for the firm decision to locate in foreign country. The aim is simple, namely to cut production costs by slicing the value added chain and relocating abroad the production of those intermediate goods which are too costly to produce domestically. The implications for trade are immediate: efficiency seeking FDI is trade creating. Transactions within the firm or among firms in the home country are replaced by trade between the parent firm and its affiliates. Quite often, moreover, affiliates will start selling to firms other than their parent. Similarly, the role of trade barriers changes radically. Pervasive restrictions to trade in the host country would raise the costs of vertical disintegration between the parent firms and its affiliates abroad. Hence, trade barriers discourage vertical FDI.
To sum up, we have distinguished three types of motivations for FDI, with altogether different implications for both trade and for the impact of trade barriers. First, horizontal FDI substitutes for trade and is generally fostered by high trade barriers in host countries. Second, resource seeking FDI augments trade but is relatively insensitive to trade barriers in host countries. Finally, vertical FDI is also trade creating, but is highly responsive to trade barriers2.
These are all testable implications. They require however that we are able to distinguish between these three forms of FDI. Unfortunately, this is a tall task, one reason being that most often aggregate data include all three types of investment. Moreover, even for firm level data the different kinds of motivations can all be present at the very same time. Nonetheless, there are indications of a negative relationship between trade costs and vertical FDI once data series are extended to cover the nineties (Barba Navaretti and Venables, 2004). For instance, Hanson, Mataloni and Slaughter (2001) find a negative relationship between the host country’s trade costs and both the ratio of affiliate exports to affiliate sales to the local market and the ratio of affiliate imports from parents to total affiliate sales3.
In what follows, we take a very simple route. We start from the observation that resource seeking FDI has been somewhat on a downward trend, at least in relative terms. We also highlight the fact that vertical FDI has been gaining importance, even with respect to market seeking FDI. Indirect evidence in this respect comes from the fact the average export propensity of US majority owned manufacturing affiliates in developing countries has been steadily rising from 8.4% in the mid sixties to 22% in the early eighties and to 39% in the mid nineties. The biggest rises have been in Latin America and developing Asia. In newly industrializing economies, the exports propensity of US affiliates has actually declined, albeit from very high levels, most likely reflecting the expanding size of the host countries domestic markets. Again, we see that a sharp distinction between horizontal and vertical FDI is hard to draw. Yet, these data, taken together, point to the growing role of vertical FDI. If so, then, we would expect trade barriers to increasingly discourage FDI to developing countries, particularly in the nineties.
We test this proposition in a simple manner. First, we take the UNCTAD measure of FDI attractiveness. This is basically a weighted average of the scores achieved by different countries on a number of indicators that are deemed to attract FDI4. They key observation here is that the UNCTAD FDI potential index does not include trade barriers. We therefore ran the following simple regression:

where Y is GDP, PI is the UNCTAD potential index of inward FDI and τ is a measure of trade barriers. Note that a high level of PI indicates that the country is not relatively attractive as a destination of FDI. We expect therefore β < 0 (countries with high PI are unattractive to foreign investors) and γ < 0 (if vertical FDI is predominant). Here too, details about estimation methods and data sources are relegated to the appendix. Suffice to say that the sample includes only developing countries. Industrial countries are excluded on the ground that inward FDI there is still motivated by market seeking considerations and, accordingly, is encouraged by high trade barriers (Navaretti, Haaland, and Venables, 2003). Furthermore, we focus only on the nineties, where efficiency seeking FDI has been playing an increasingly relevant role 5. Overall, therefore, given that we exclude industrial countries (where horizontal FDI is still very relevant) and focus only on the nineties (when vertical FDI became more relevant) our expectations is to find that trade barriers discourage FDI, i.e. that γ < 0. As a measure of τ we take the sum of tariff barriers and the ad valorem equivalent of non tariff barriers.
The results are strikingly simple (table 4). First, as expected, the index of potential index is negatively associated with the GDP share of inward FDI (recall that a high level of PI means that the country is not very attractive as a host to FDI). Second, trade barriers discourage, and significantly so, inward FDI. The results are robust to the inclusion of regional fixed effects. They suggest that vertical FDI has indeed been the predominant mode of investment internationalization toward developing countries during the nineties.
We have also tried to extend our analysis to earlier periods. Unfortunately, the UNCTAD index is not available before the nineties. We had to run therefore a more complex regression controlling for (some of) the main factors that are thought to affect the attractiveness of FDI. Moreover, we are less optimistic in our quest to find a significant impact of trade barriers on FDI given that for earlier periods the three motivations – resource, market and efficiency seeking - were even more all present confounding therefore the impact of trade restrictions. The new regression is:


where KFDI denotes the ratio of inward FDI stock to GDP, HK and PK are two measures of human and physical capital respectively, Ypc is income per capita and τ denotes as usually the size of trade barriers. As a measure of human capital, we use the average number of school years per inhabitant by Barro and Lee, recently updated to 1999. As a proxy for physical capital, we take the number of telephone lines per 1000 inhabitants. Finally, for trade barriers we only have indicators of tariff restrictions. The ad valorem equivalent of NTB’s that were used in table 4 are available only for the nineties and not for earlier periods.
Three facts stand out (table 5). First, and perhaps not unexpectedly, trade barriers have no clear impact on FDI decisions, when a longer period is considered, presumably reflecting the wider variety of motivations of multinational firms. Second, the availability of both physical and human capital encourages inward FDI, confirming that multinational firms are attracted by the presence of a skilled labour force and of adequate infrastructures. The role of human capital is particular notable, as it confirms the conjecture in much of the literature (Blomstrom and Kokko, 2002, Borensztein et al., 1998) that it is not simply the availability of low wage unskilled labour that attracts foreign investors.
By and large, therefore, our results so far show that FDI toward developing countries has become increasingly motivated by efficiency considerations. Both progress in communication technology and lower trade barriers have contributed to the international fragmentation of the value added chain along efficiency lines. Furthermore, we find that the availability of a pool of educated workers is also a key consideration in the location decision of multinational firms in developing countries. This latter finding raises an intriguing possibility. Consider the case where investment in human capital is encouraged by the presence of foreign investors. We may then well have two equilibria, one with a limited presence of foreign firms and poor educational achievements, the other with a large stock of foreign capital and strong educational levels. We explore this possibility in the next section. Before that, however, we turn to the relationship between trade and migration.

c) trade policy and migration
Trade policy can also affect the mobility of people and workers. For instance, restrictive trade measures in industrial countries will discourage exports from developing countries and strengthen the push factors of migration. They will also encourage the expansion of low skill intensive import substituting sectors in receiving countries, thereby reinforcing the pull factors of immigration. On both counts, therefore, migration pressure will increase. These effects are evident for instance for the Common Agricultural Policy of the EU. By discouraging the expansion of agricultural exports from Northern African countries, they foster out-migration. Conversely, the disproportionate size of the agricultural sector in the EU acts as magnet for would be migrants.
Some further evidence in this respect comes from the sectoral allocation of migrants in receiving countries. Faini and Venturini (1993) show that by and large immigrants are more likely to be employed in import competing sectors.
Trade restrictions in sending countries are also likely to encourage out-migration. There is only very limited evidence in this respect, however. Faini, Grether and de Melo (1999) show, with the help of a simple simulation model, that in a Ricardo Viner framework trade liberalization will have fairly complex effects on out-migration. In particular, if exports respond slowly to the new trade regime, then trade liberalization will be accompanied by a relatively strong real exchange rate depreciation that will foster out-migration. Historical evidence by Collins, O’Rourke, and Williamson (1999) is also compatible with the notion that trade and migration may have been complements, at least in the nineteenth century.
The plausibility of a complementarity relationship between migration and trade is also strengthened by the growing role of service trade. For, many services must be delivered personally. Moreover, even tradeable services often require skilled or at least trained personnel to be relocated, most likely temporarily, in the importing country.
Overall, also the relationship between trade and migration is not unambiguous. While substitutability may have been for most of the post war period the rule rather than the exception, the new forms of international exchange of goods and services increasingly imply a complementarity relationship.
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