The Impact of Foreign Direct Investments on the Economic Growth of Developing Countries: Some Empirical Evidence from Tanzania

Abstract

The role of Foreign Direct Investment (FDI) has been widely recognized as a growth-enhancing factor. These flows enable host countries to achieve investment levels beyond what their own domestic savings can allow. Consistent with the ‘gap’ models which have followed the Harrod–Domar tradition, FDI is expected to bridge the savings, foreign exchange, technology or any other gaps said to impede most developing countries from achieving the desired levels of economic growth. In a typical less-developing country like Tanzania, savings are so low they cannot finance the investment needed. Likewise, the inflows of foreign exchange are too small to finance the imports of capital goods needed. More importantly, FDI is an important means of transferring modern technology and innovation from developed to developing countries.

This article analyzes the role of FDI in promoting economic growth through improvement of trade in Tanzania. Using macroeconomic data from various institutions in Tanzania, and employing a model in which growth is influenced by factors such as FDI, trade, inflation, employment and a combination of factors like human capital and FDI, the study has shown among other things that FDI flows enhance economic growth in recipient countries.

However, the study also shows that factors like human capital and trade do not have the expected positive impact on a country’s growth. This suggests that there is need for institutional stabilization policies and other ‘conditioning factors’ for FDI driven growth to materialize. Some of the ‘conditioning factors ‘needed for FDI to have the desired growth enhancing impacts include expansion of education opportunities from primary to tertiary levels, targeting inflation, and reducing the tax burden.