The Role of Carbon Emissions on Inward Foreign Direct Investment: A Nonlinear Dynamic Panel Data Analysis

Abstract

An increase in carbon emissions (CO2) may increase inward foreign direct investment (FDI) in developing countries since they are seen as pollution havens because of lax environmental regulations (pollution haven hypothesis). Developed countries may also attract FDI since stringent environment regulations in these countries working to reduce emissions might be more attractive to foreign investors concerned with their repute from a green perspective. A rise in CO2 emissions in developed countries therefore deters inward FDI (green haven hypothesis). The existing empirical studies investigate the empirical validity of these hypotheses by focusing on the impacts of environmental policies and regulations on FDI and have yet to produce conclusive results. We examined the effect of CO2 emissions on FDI and provide a more accurate and novel way of investigating the empirical validity of the pollution haven hypothesis against the green haven hypothesis. Specifically, we examined the non-linear effects of CO2 emissions on inward FDI in a sample of 124 countries over the period 1997–2022. The results indicate that CO2 emissions have an inverted-U-shaped relationship with FDI, confirming our hypotheses that higher CO2 emissions in countries with lax environmental standards attract FDI while environmental degradation in countries with stringent environmental standards deter FDI.