THE IMPACT OF INSTITUTIONAL QUALITY DEVELOPMENT ON FOREIGN DIRECT INVESTMENT: EVIDENCE OF THE MANUFACTURING SECTOR IN SEE COUNTRIES

This paper basically seeks to assess both empirically and theoretically the significance of institutional infrastructure and its development as a determinant of Foreign direct investment (FDI) stock into South East European countries (SEE) in a manufacturing sector. By providing empirical evidence, it intends to show that the upgraded quality of institutional development is significantly and positively related to FDI into the SEE countries. The paper measures institutional development based on a series of indicators of the progress of the transition process constructed by European Bank of Reconstruction and Development (EBRD). Using panel dataset for the period 1999 to 2006 we constructed an econometric model that was used to estimate the determinants of FDI on sectoral level. Econometric analysis used OLS with panelcorrected standard errors (PCSEs). Our analysis indicates that general measure of institutional development is statistically significant and confirms that the overall quality of the institutions attracts FDI in manufacturing sector in SEE region. The descriptive analysis reveals that most SEE countries managed to attain standards and performances typical of advanced industrial economies only in the areas of Price liberalization and Trade & Forex system, while in all the other observed areas of institutional progress (Large scale privatisation, Small scale privatisation, Enterprise restructuring, Competition policy, Banking reform & interest rate liberalisation, Securities markets & non-bank financial institutions, Overall infrastructure reform and Telecommunications) SEE countries are at different stages of designing, adopting and implementing their institutional reforms. Thus, it can be deduced that the quality of institutional development is still poor, and that significant efforts need to be made to facilitate institutional development in order to attract foreign investors.