Which institutional qualities matter for FDI? Evidence from a Resource-Dependent Economy

Abstract

Foreign direct investment (FDI) responds to institutional environments. The specific governance dimensions that attract foreign capital in resource-dependent developing economies remain debated. This study investigates the heterogeneous relationship between six dimensions of institutional quality and FDI inflows in Zambia from 1996 to 2024. Using an autoregressive distributed lag (ARDL) bounds testing framework with finite-sample adjustments, the analysis evaluates an aggregate institutional index against individual governance indicators. The results indicate that aggregate institutional measures provide limited evidence of a systematic relationship with FDI, whereas disaggregated governance indicators reveal substantial heterogeneity. Bureaucratic dimensions such as government effectiveness and regulatory quality present no statistically supported association with FDI. Conversely, macro-institutional safeguards—specifically the rule of law and voice and accountability—exhibit positive and significant correlations with investment inflows. These patterns are consistent with the enclave FDI hypothesis, which posits that multinational corporations in extractive sectors bypass administrative frictions but remain highly sensitive to expropriation risks and regime instability. Methodologically, the study navigates finite-sample constraints through parsimonious modelling and robust pre-estimation unit root testing. The findings suggest that policy efforts to attract foreign capital in resource-heavy economies may yield better outcomes by prioritizing property rights and political accountability over incremental administrative reforms.