Relative strength and foreign direct investment in civil conflicts

Abstract What factors contribute to the differences in foreign direct investment (FDI) levels in environments characterized as high risk? While research shows that armed conflict influences foreign investment decisions, it remains unclear how conflict dynamics, specifically the relative power capabilities of warring parties, affect FDI. This study explores the effects of rebel strength relative to government forces on FDI. We argue that there is a reduction in foreign investments in civil conflict countries as rebels gain a military advantage relative to the government. Stronger insurgents send a signal that the government is losing its strength in the conflict, creating uncertainty regarding conflict outcomes and posing economic and security risks for investors. To avoid facing economic and property losses due to increasing rebel strength, investors are incentivized to decrease their investment in the conflict state. Using data on insurgent troop size relative to government forces and FDI, our findings show that higher military capabilities of rebel forces relative to the government are associated with less FDI inflows in conflict-affected countries.