Does Foreign Direct Investment Crowd In or Crowd Out Domestic Investment? Evidence from the European Union

This paper investigates whether foreign direct investment crowds in or crowds out domestic investment in the European Union. We use the theoretical model developed by Agosin and Machado (2005) and apply the Arellano-Bond generalized method of moments (GMM) to capture macroeconomic externalities. Our data analysis covers 26 of the 27 EU countries (excluding Luxembourg) for the period 1990-2008. Our main conclusion is that FDI has no negative impact on domestic investment in the new EU member states over the longer run. By contrast, for the older EU14 member states we detect a significant crowding out effect of FDI on domestic investment.