Foreign direct investment and institutional reform: evidence and an application to Portugal

We examine the role of geographic, economic, and institutional factors in attracting Foreign Direct Investment (FDI) in Europe, using a cross-section of inward bilateral investments. We estimate and assess the expected benefits, the required reform efforts, and the efficiency of reform options corresponding to a convergence of Portuguese institutions to EU standards. We conclude that improving home institutions is likely to have a quantitatively very significant role in attracting FDI. Geographical and market size factors also play a role. Reforms promoting the independence of financial institutions and a leaner bureaucracy, lowering political risk and corruption, and improving the investment code may significantly affect the amount of bilateral inward FDI that is targeted to Portugal.