The Effect of Foreign Direct Investment on Industrial Sector Growth: Evidence from Sri Lanka

Abstract

The development of the industrial sector stimulates economic growth and development by reducing poverty and regional disparity, increasing export income, generating quality employment, as well as developing technological capabilities and productive capacities. It has been more than four decades since removing trade-related barriers, and tax incentives liberalized the Sri Lankan economy offered to foreign investors to attract FDI and promote the industrial sector. Hence, the objective of this study is to investigate the relationship between inward FDI and industrial sector performance of Sri Lanka at the aggregate level for the period 1980-2016. We use the Auto Regressive Distributed Lag (ARDL) model to identify the long-run relationship and short-run dynamics of the selected variables. ARDL bounds test verifies the existence of co-integration among the selected variables. The study fails to find a significant relationship between FDI and industrial sector growth of Sri Lanka in the long run as well as in the short run. The attraction of vertically integrated FDI that consists with advanced technology and value-added production is one of the solutions for overcoming the issue of low technology and knowledge of Sri Lankan industrial sector. Sri Lankan FDI strategy associated with industrial sector should consider the pull and push factors related to recipient and source country respectively. To promote the industrial sector via FDI, the government policy should focus on attracting more FDI that could be channeled into those sectors that would contribute to national competitiveness.