Does Human Capital Endowment of Foreign Direct Investment Recipient Countries Really Matter? Evidence from Cross‐country Firm Level Data

• Author: Sumon Kumar Bhaumik,Ralitza Dimova
• Date: 01 August 2013
• DOI: http://doi.org/10.1111/rode.12050
• Published date: 01 August 2013

Does Human Capital Endowment of Foreign Direct

Investment Recipient Countries Really Matter?

Evidence from Cross-country Firm Level Data

Sumon Kumar Bhaumik and Ralitza Dimova*

Abstract

The stylized literature on foreign direct investment (FDI) suggests that developing countries should invest

in the human capital of their labor force in order to attract FDI. However, if educational quality in devel-

oping country is uncertain such that formal education is a noisy signal of human capital, it might be rational

for multinational enterprises to focus more on job-specific training than on formal education of the labor

force. Using cross-country data from the textiles and garments industry, we demonstrate that training

indeed has a greater impact on firm efficiency in developing countries than formal education of the

workforce.

1. Introduction

It is now stylized in the literature on foreign direct investment (FDI) that a country’s

stock of human capital is one of the most important determinants of its inward FDI

flow (Iwai and Thompson, 2012; Noorbakhsh et al., 2001). A related literature sug-

gests that FDI inflow can, in turn, augment a recipient country’s human resources

(Enderwick, 1985; United Nations Conference on Trade and Development

(UNCTAD), 1999), such that the impact of FDI on the host country’s productivity is

enhanced by way of interaction with human capital (Zhao and Zhang, 2010). It moti-

vates the local workforce to invest in education, and, at the same time, transfers

knowledge about technology and processes to a section of this workforce. However,

available evidence suggests that the impact of training programs of multinational

enterprises (MNEs) on the human capital development of the local labor force may

have been overstated. Arguably, MNEs provide firm-specific training that increases

the efficiency of their workforce, without necessarily significantly deepening the

knowledge base of the local workers, nor developing scarce skills such as managerial

capabilities (Richman and Copen, 1972; UNCTAD, 1999).

A very different literature suggests that aggregate measures such as enrolment,

drop-out rates and proportion of labor force with a certain level of education might

not capture (indeed, overstate) the stock of human capital in a developing country.

The range of problems with the quality of education, which is difficult to measure,

includes absence of physical infrastructure such as classrooms and text books (World

Bank, 1997), shortened school hours on account of over-enrolment (Glewwe, 2004),

* Dimova: Institute for Development Policy and Management, School of Environment and Development,

The University of Manchester, M13 9PL, UK. Tel: +44-161-2750818; E-mail: ralitza.dimova@

manchester.ac.uk. Bhaumik: Economics & Strategy Group, Aston Business School, Aston University, Bir-

mingham B4 7ET, UK. The authors would like to thank Subal Kumbhakar for various discussions about

the use of stochastic frontier analysis, and Nauro Campos and an anonymous referee for helpful comments.

The authors remain responsible for all remaining errors.

Review of Development Economics, 17(3), 559–570, 2013

DOI:10.1111/rode.12050

© 2013 John Wiley & Sons Ltd