DETERMINANTS OF FOREIGN DIRECT INVESTMENT (FDI) IN THE WESTERN BALKAN COUNTRIES: A PANEL DATA AND THE VECTOR ERROR CORRECTION MODEL (VECM) APPROACH

Abstract

This study analyses the factors influencing Foreign Direct Investment (FDI) inflows in the Western Balkan countries, which share a history of political instability and economic transition. The research uses panel data analysis, fixed-effect models, and Vector Error Correction Models (VECM) to examine macroeconomic, institutional, political, market, operational, and infrastructural factors affecting FDI inflows in these countries. The findings reveal that a fixed exchange rate regime positively impacts FDI while maintaining macroeconomic stability, improving regulatory frameworks, and enhancing credit to the private sector,  crucial for attracting FDI. Additionally, government effectiveness significantly boosts FDI inflows, underscoring the importance of strong governance. The analysis indicates no long-run causality among the variables but significant short-run causality from all analyzed variables to FDI inflows. These insights contribute to the existing literature by highlighting region-specific factors and offering policy recommendations to improve the investment climate in the Western Balkans.