Income inequality and FDI: evidence with Turkish data

ABSTRACT

This article explores how foreign direct investment (FDI) and other determinants impact income inequality in Turkey in the short- and long-run. We apply the nonlinear auto-regressive distributed lag (ARDL) modelling approach, which is suitable for small samples. The data for the study cover the years from 1970 to 2008. The empirical results indicate the existence of a co-integration relationship among the variables with asymmetric adjustment of the income distribution in the short- and long-run. The negative impact of FDI on the Gini coefficient, decreasing income inequality, is statistically significant in the short- and long-run, though with a quantitatively small impact in both cases. In the short run, GDP growth increases inequality initially, an effect that is reversed in the next period, increases in domestic gross capital formation decreases inequality, and increases in the literacy rate have very minor adverse effects on income equality. However, in the long run these variables have no statistically significant effects on the Gini coefficient. A reduction in the population growth rate reduces inequality in the short run but has no effect in the long run, whereas an increase in the rate reduces inequality in the long run but has no effect in the short run.

KEYWORDS:

• Income inequality
• FDI
• nonlinear ARDL estimation
• Turkey

JEL CLASSIFICATION:

• D31
• F21
• C22

Acknowledgements

The authors thank, without implicating, the editor and referees of this journal for many helpful and constructive comments on an earlier version of this article that did not consider nonlinearities.

Notes

¹ Related to the issue of FDI and income inequality is the relationship between trade liberalization and inequality. See Anderson, Tang, and Wood (2006), Gourdon (2007) and Munshi (2008) for examples of empirical research. Anderson et al. find that globalization tends to narrow the gap between developed and developing countries in the wages of less-skilled workers, but to widen the wage gap within developed countries between highly skilled and less-skilled workers.

² Examples of panel studies on FDI and inequality that include Turkey are Im and McLaren (2015) for income inequality and Figini and Görg (2011) for wage inequality.

³ Favero, Giavazzi, and Perego (2011) make this point in regard to panels for fiscal policy analysis.

⁴ Hanousek, Kočenda, and Maurel (2011) survey the literature on direct and spillover effects of FDI and conduct a meta-analysis for transition economies going from a command to a market system in central and eastern Europe, the Balkans and the Commonwealth of Independent States. They find that the weakening of FDI effects over time found in several studies is due to a publication bias in these studies. See also Herzer, Klasen, and Nowak-Lehman (2008) on FDI and economic growth in general.

⁵ The Stolper–Samuelson theorem predicts that trade (and FDI) would take advantage of the relatively abundant factor of production, which is low-skilled labour in the emerging economy (see, e.g. Lee and Vivarelli 2006).

⁶ A related literature, surveyed by Ostry, Berg, and Tsangarides (2014), debates at what point inequality becomes harmful to economic growth and swamps any positive effects of inequality on growth that stem from providing rewards for effort and innovation.

⁷ The time period that we look at is not very long but these methodologies are the best available in this case. See Pesaran and Shin (1998) for more information. In particular, the ARDL method applied here uses simulations for proper inference in small samples.

⁸ See Anderson, Athanasopoulos, and Vahid (2007) for this argument.

⁹ The ambiguities in the order of integration of the variables lend support to the use of the NARDL bounds approach rather than one of the alternative co-integration tests.

¹⁰ No indications of multicollinearity were found in the model.