The African Financial Review July-August 2014 | Page 48

significant at 5[6] and 10% while DCB is only significant at 10%.
In Cote d ’Ivoire, DCB is only significant at 5 and 10%. Ethiopia’s
DCP and LLY were found to be significant at 10 and 5%; 5 and
10% respectively. The only significant indicator in Nigeria is LLY
which was found at 5 and 10%. Two indicators were found to be
significant in Tanzania, DCB: 5% and 10%; DCP at 10%. DCP
was the only significant indicator in Zimbabwe which stood at
10%.

The rejection of the threshold level may be blamed on the
small size of sample used in this study. Most threshold studies are
based on cross country panel data that have large sample sizes. A
large sample size may lead to a lower value of the residual variance
which may improve the likelihood ratio statistic. Since a time
series study is constrained by sample size, it may be of interest

The continent cannot afford to wait for its
financial sectors to develop to a certain
(high) level before the perceived benefits of
FDI can start to “kick in”. Thus, the reform of
the domestic financial sector should precede
policies that would attract FDI inflow into the
region.
for further research to test this hypothesis again, for example,
by extrapolating annual data into quarterly data to increase the
sample size.

Another reason could be related to the fact that “... the
threshold effects usually occur in developed countries with lower
financial openness... (Liao and Huang, 2009)”. A justification
to this contention could be related to the verity that it is only
Democratic Republic of Congo that has its three FSD indicators
met the required threshold, and coincidentally, it is the least
financial opened country.

Conclusion and policy implication

This study empirically investigates the role of FSD in the FDIgrowth nexus. 15 African countries were selected based on
availability of data. The problem identified by this study was
based on the notion that well developed financial sector is a
pre-condition for the positive impact of FDI on growth. This
study is motivated by the seemingly lack of attention on the
role of financial development in previous studies. The empirical
evidence suggests that there are conflicting effects of FDI on
growth caused by different FSD indicators used. It can be stated
that the threshold effects of FSD on FDI-growth nexus are not
applicable to Africa. This is hinged on the fact that the threshold
effects usually occur in developed countries with lower financial
openness. A justification to this contention could be related to
the fact that it is only the Democratic Republic of Congo that
has its three FSD indicators met the required threshold.

Economic implications and policy
recommendations

The results suggest that there is an urgent need for concerned
stakeholders to reform the domestic financial sectors to make it

6

The percentage values are expressed in terms of confidence interval.

48 | The African Financial Review

more attractive for any multinational firms to invest in, although,
this can be considered as a pre-condition for the positive impact
of FDI on growth. The continent cannot afford to wait for its
financial sectors to develop to a certain (high) level before the
perceived benefits of FDI can start to “kick in”. Thus, the reform
of the domestic financial sector should precede policies that would
attract FDI inflow into the region. They also imply, perhaps not
explicitly but just as importantly, that even in countries where
these thresholds a re attained, domestic investment could have
more growth potential than FDI (Kose et al., 2011).

The major macroeconomic variables such as inflation
rate, trade openness, government consumption and urban
agglomeration are significant catalysts to the impact of financial
openness on growth, especially for the variable of institutional
quality. Governments should strive to strengthen these conditions
in order to produce well-functioning economic mechanism. This
indicates that improving the investment environment through
better economic and institutional incentives for all investors
should be a prime guideline for policymakers (Omran and Bolbol,
2003).

References

Adeniyi O, Omisakin O, Egwaikhide F, Oyinlola A (2012). FDI,
Economic Growth and Financial Sector development in a Small
Open Developing Economies. Econ. Anal. Policy. 42(1):105-127
Ajayi SI (2006). The Determinants of Foreign Direct Investment
in Africa: A Survey of the Evidence, in: S.I Ajayi (ed.), Foreign
Direct Investment in Sub-Saharan Africa: Origins, Targets,
Impact and Potential. Nairobi, Kenya: African Economic Research
Consortium.
Alfaro L, Chanda A, Sebnam K, Sayek S (2009). Does Foreign
Direct Investment Promote growth? Exploring the Role of
Financial Markets on Linkages. J. Int. Econ. 64:605-818.
Alfaro L, Chanda A, SebnemKalemli-Ozcan, Sayek Selin
(2003). FDI and Economic Growth: The Role of Local Financial
Markets. J. Int. Econ. 61(1):512-33.
Alfaro L, Chanda A, Sebnem KO, Sayek S (2004). FDI and
economic growth: the role of local financial markets. J. Int. Econs,
64: 89-112.
Asiedu E (2002). On the Determinants of Foreign Direct
Investment to Developing Countries: Is Africa Different?. World
Deve. 30(1):107-119.
Azman-Saini WNW, Law SK, Ahmad AH (2010). FDI and
Economic Growth. New Evidence on the Role of Financial
Market. Forthcoming in Econometrics Letters. 1-11.
Levine R, Beck T, Loayza N (2000). Finance and the sources of
growth.J. Finan. Econ. 58(1-2):261–300.
Carmignani F, Chowdhury A (2007). Why are natural resources
a curse in Africa, but not elsewhere? (joint with A. Chowdhury).
UQ Economics Discussion Paper 406. School of Economics,