Exploring the Role of Governance in Afghanistan’s Foreign Direct Investment

Abstract

Aims: The primary purpose of this study is to investigate the nexus between FDI inflows and governance indicators: government effectiveness, regulatory quality, control of corruption, rule of law, along with market size, trade openness, inflation, exchange rate, and infrastructure. Place and Duration of Study: Afghanistan is selected as a sample of this study, and the study period is from 2002 to 2021. Methodology: The study utilized Augmented Dickey-Fuller unit-root test and Modified Ordinary Least Squares (FMOLS) model to check the stationarity of the data and empirical estimations, respectively. Results: The results reveal that two of the four selected governance indicators, government effectiveness and the rule of law, are positively associated with FDI inflows in Afghanistan, as a unit rise of them draw 1.077% and 0.948% FDI, individually. At the same time, a unit increase in regulatory quality decreases FDI by 0.838% and a level of enhancement in control of corruption negatively affect FDI by 2.443%. Furthermore, the findings from five macroeconomic variables as traditional determinants of FDI have mix impacts. The findings suggest that one percent increase in market size, trade openness, and exchange rate is positively associated with 2.057%, 5.557%, and 0.012% FDI inflows, respectively. However, the inflation and infrastructure coefficients were negative and significant. Conclusion: The study concludes that in order to draw more FDI to the country, policymakers should consider formulating and implementing sound policies. Additionally, efforts should be made to expand economy size, trade openness, and control inflation. Since several articles have not taken Afghanistan as part of their studies, it contributes to the literature on this topic that considers Afghanistan as a sample of the study.