The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

CHAPTER 1 : INTRODUCTION
1.0 INTRODUCTION

This section includes details of overview of foreign direct investment(FDI), background of the study, problem statement, research objectives, scope of study and hypothesis or research questions.

1.1

AN OVERVIEW OF FOREIGN DIRECT INVESTMENT

According to Wikipedia, foreign direct investment (FDI) or foreign investment

can be defined as long term participation by country A into country B. It usually involves participation in management, joint-venture, transfer of technology and expertise. More specifically, foreign direct investment is a cross-border corporate governance mechanism through which a company obtains productive assets in another country. FDI is different from other major forms of foreign investment in that it is motivated largely by the long-term profit prospects in production activities that investor directly control (Wong,2005). Most of the developing and least developed countries worldwide equally participated in the process of direct investment activities . Over a long period of time, foreign direct investment (FDI) forms a major part of investment in most industrial and some developing countries. In the last 2 decades, foreign direct investment (FDI) flows have grown rapidly all over the world. This is because many countries and especially developing countries see FDI as an important element in their strategy for economic development (Adams,2009). According to Wikipedia, the United States is the worlds largest recipient of FDI. More than $325.3 billion in FDI flowed into the United States in 2008, which is a 37 percent increase from 2007. Some FDI is

The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

intended to utilize local natural resources. Sometimes it is to employ relatively cheap labour, and sometimes to produce goods near to markets. Besides, foreign direct investment can be a significant driver of development in poor nations. It provides an inflow of foreign capital and funds, in addition to an increase in the transfer of skills, technology, and job opportunities. Furthermore, it would be difficult to generate this capital through domestic savings, and even if it were not, it would still be difficult to import the necessary technology from abroad, since the transfer of technology to firms with no previous experience of using it is difficult, risky, and expensive. If FDI has a positive impact on economic growth, then a host country should encourage FDI flows by offering tax incentives, infrastructure subsidies, import duty exemptions and other measures to attract FDI ( Katerina, John and Athanasios,2004) Many of the East Asian tigers such as China, South Korea, Malaysia, and Singapore benefited from investment abroad. The rise of the four Asian small dragons (Hong Kong, Taiwan, Singapore and Korea) in the 1960s-1970s and rapid growth of China and India in recent years all benefits from the vast inflows of FDI (Tian and Lin,2009). At the time the government has recognised the importance of liberalisation and openness to FDI , effective measures are designed to attract the capital and management expertise to transform inefficient state-dominated

economies, at the same time easing the burden of this transformation on the public budget and assumed to positively affect local economic development.

The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

1.2 BACKGROUND OF THE STUDY 1.2.1 Foreign Direct Investment In Malaysia Malaysia is a nation on the move and has become an economy driven by exports, technology, capital-intensive, and knowledge-based business. Malaysia has been an encouraging economy to foreign investors through Malaysia's strengths which include well-developed infrastructure, industrious workforce and also a politically stable nation with a good legal system and provides attractive incentives for investors. Foreign Direct Investment (FDI) in Malaysia is set up following the holding of at least 10% of the total equity in a resident company by a non-resident investor. Foreign direct investment (FDI) has been seen as a key driver underlying the strong growth performance experienced by the Malaysian economy .To attract a larger inflow of FDI, the government introduced more liberal incentives including allowing a larger percentage of foreign equity ownership in enterprise under the Promotion of Investment Act (PIA), 1986 ( Mohammad Sharif and Zulkornain ,2009). Today, its market-oriented economy, combined with an educated multilingual workforce and a well-developed infrastructure, has made Malaysia one of the largest regional and global recipients of FDI (Hooi ,2008).

The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

Besides, the rapid industrialisation of the country is attributed in part to the inflow of foreign direct investment to the manufacturing sector. Many manufacturers have taken advantage of the countrys capabilities by outsourcing their manufacturing activities to Malaysian companies or setting up their own operations in Malaysia. The massive influx of foreign investments into the manufacturing sector was pivotal in its transformation from an agricultural economy to an industrialized economy (Azmi Shahrin). The inflow of FDI was only US$94 million in the early 1970s but increased dramatically in 1996 with US$7,297 million. It dropped to US$2,714 million in 1998 due to the 1997 financial crisis but recovered strongly with the highest FDI inflows of US$8,403 million in 2003 as Malaysia was able to maintain its attractiveness as a FDI location (Nursuhaili,Zarinah and Nurulhuda). Malaysias foreign direct investment flows continued to contract in 2009 as a result of the global financial crisis and economic downturn. The sharp decline reflected falling profits and reduced financial capabilities of companies, impacted by the global crisis. But, Malaysia FDI inflows are expected to recover gradually in 2010 and will be able to sustain its FDI in 2011. According to International Trade and Industry Minister, Datuk Seri Mustapa Mohamed, FDIs in Malaysia leaped to RM17.1 billion for the period from January to September 2010 compared to just RM5 billion recorded for the whole of last year.

The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

1.3 PROBLEM STATEMENT Theoretically, there are factors that influence the choice of foreign direct investment locations. For developing countries whose future growth depends upon successful participation in the world economy, it is important that they understand the selection criteria that multina-tional corporations (MNCs) apply when investing abroad (Kahai). The FDIs usually goes to the country where it is possible to combine the ownership advantages with the location specific advantages of the host countries through internalization advantages of foreign investment (UNCTAD,1998). According to Kahai , there are three categories of determinants of FDI. The first category includes traditional economic factors, such as, market size of the host country, growth potential, purchasing power, cost of production, geographic location, and natural resources. The second category includes factors that are related to the political, social, and cultural environment of the host countries. The third category measures factors that are related to the magnitude of trans-action costs in the host countries. Based on previous studies on determinants of foreign direct investment, it has shown that various factors have been found as determinants of foreign direct investment for different countries . The determinants may affect differently in different countries. Financial development, wage rates, income, economic growth, government spending on infrastructure, openness, exchange rate, inflation rate and corporate tax are among the variables commonly analyzed in the FDI dynamic (Nursuhaili,Zarinah and Nurulhuda).

The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

One of the most important determinants of foreign direct investment is the size as well as the growth prospects of the economy of the country where the foreign direct investment is being made. According to Yong and Tuck (2009), basically, the exchange rate is a variable in the process that can either benefit or worse the chances of a host country to be chosen but, in general, most of the literature has focused on analyzing how ER and the ER variability affect the decision of carrying FDI into a country. Besides, infrastructural factors like the status of

telecommunications, railways and airport play an important part in having the foreign direct investors come into a particular country. Over the recent years, most of the countries over the world have made their business environment investment friendly for absorbing global opportunities by attracting more foreign investable funds to the country. Malaysia is no exception in the implementation of these measures. Recently, government of Malaysia is serious in transforming the economy and will continue to undertake proactive measures to further promote FDIs to ensure that Malaysia meets the target in the 10th Malaysia Plan. In order to make 10th Malaysia Plan successful, the government should know the most important determinant of foreign direct investment in Malaysia to ensure that there is no mis-step in attracting FDIs to come into Malaysia. Thus, the main problem statement in this research is to investigate the determinant of foreign direct investment in Malaysia.. Hence, the problem here is to determine whether those variables involve which are infrastructure, exchange rate and market size can be classified as important instrumental in attracting and maintaining the interest of foreign direct invesor to put their money in Malaysia.

The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

1.4 SCOPE OF STUDY The research is about The study on the relationship between foreign direct investment and infrastructure, exchange rate and market size. This study aims to analyse whether the three independent variables, which are infrastructure, exchange rate and market size have positive effect towards inflow of foreign direct investment. This study focuses on foreign direct investment in Malaysia. The infrastructure is measured by government development expenditure on transportation,communication and public utilities. While for exchange rate, exchange rate RM/US$ is used as a proxy and market size is measured by Gross Domestic Product (GDP) per capita. The dependent variable of foreign direct investment is measured by net inflow of foreign direct investment(FDI). The study of this research covers 20 years commencing from the year 1990 to 2009. The data collection of the study is based on secondary data. All data of variables are collected from United Nation Conference on Trade and

Development(UNCTAD) Statistics, Department of Statistics, Ministry of Finance Malaysia, Economic Report, Bank Negara Malaysia and Datastream.

The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

1.5 RESEARCH OBJECTIVES

The research study should have objective because it is essential in guiding the researcher to achieve the purpose of doing the research. The objective should be specific, measurable and realistic. The goal of this study is to investigate what factors can be considered as important determinant of foreign direct investment in Malaysia. There are several objectives that have been pointed out in identifying the determinant of FDIs in Malaysia. Those objectives are:

1) To determine the growth of FDI. 2) To investigate the relationship between infrastructure and foreign direct investment in Malaysia. 3) To identify the effect of exchange rate towards foreign direct investment in Malaysia. 4) To examine to what extent market size can influence foreign direct investment in Malaysia.

1.6

RESEARCH QUESTIONS

1) Is there any growth of FDI? 2) Is there any significant relationship between infrastructure and foreign direct investment in Malaysia? 3) Is there any significant effect of exchange rate towards foreign direct investment in Malaysia? 4) Is there any correlation between market size and foreign direct investment in Malaysia?

The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

1.7 HYPOTHESIS

From the research questions above there are 3 hypotheses developed for this research.

Hypothesis 1

H0: There is no relationship between infrastructure and foreign direct investment in Malaysia.

H1: There is a relationship between infrastructure and foreign direct investment in Malaysia.

Hypothesis 2

H0: There is no relationship between exchange rate and foreign direct investment in Malaysia.

H1: There is a relationship between exchange rate and foreign direct investment in Malaysia.

Hypothesis 3

H0: There is no relationship between market size and foreign direct investment in Malaysia.

H1: There is a relationship between market size and foreign direct investment in Malaysia.

The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

1.8 LIMITATIONS OF THE STUDY In order to complete this research, there are some problems and limitations faced by the researcher. 1.8.1 TIME CONSTRAINT The time frame to complete the research is 5 months. Due to the limited time, the researcher needs to struggle to complete the study as the time spent must be divided between the tasks given by the company where the practical training is held as well as the time to complete the research. 1.8.2 LACK OF EXPERIENCE The researcher faces some difficulty to conduct a research due to lack of experience and it is totally a new experience in doing a research on Foreign Direct Investment. So, it takes times to find and gather the information needed. 1.8.3 AVAILABILITY OF DATA AND INFORMATION The researcher also identifying that some information for the literature review is hard to find due to the limited resources. In completing the study, its hard to find the previous journal, annual reports, books and magazines. Some of the data and information may be absolute and outdated. Thus, the researcher only covers the research for 20 years even though it should at least cover 30 years.

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

1.9 TERM DEFINITION

1.9.1 FOREIGN DIRECT INVESTMENT(FDI) Foreign direct investment (FDI) or foreign investment refers to the net inflows of investment to acquire a lasting management interest (10 percent or more of voting stock) in an enterprise operating in an economy other than that of the investor. It is the sum of equity capital, reinvestment of earnings, other long-term capital, and short-term capital as shown in the balance of payments. It usually involves participation in management, joint-venture, transfer of technology and expertise. 1.9.2 INFRASTRUCTURE Infrastructure is the basic physical and organizational structures needed for the operation of a society or enterprise, or the services and facilities necessary for an economy to function. The term typically refers to the technical structures that support a society, such as roads, water supply, sewers, power grids, telecommunications, and so forth . Viewed functionally, infrastructure facilitates the production of goods and services; for example, roads enable the transport of raw materials to a factory, and also for the distribution of finished products to markets. 1.9.3 EXCHANGE RATE Rate at which one currency may be converted into another. The exchange rate is used when simply converting one currency to another (such as for the purposes of travel to another country), or for engaging in speculation or trading in the foreign exchange market.

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

1.9.4 MARKET SIZE The number of buyers and sellers in a particular market. This is especially important for companies that wish to launch a new product or service, since small markets are less likely to be able to support a high volume of goods. In other words, it can be defined as the size of a group of consumers with shared needs and their buying power. 1.9.5 GROSS DOMESTIC PRODUCT Gross domestic product (GDP) refers to the market value of all final goods and services produced within a country in a given period. It is often considered an indicator of a country's standard of living. The gross domestic product (GDP) is one the primary indicators used to gauge the health of a country's economy

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

CHAPTER 2 : LITERATURE REVIEW
2.0 INTRODUCTION

In this chapter, some of the determinants and their relations to FDI will be explained in the light of earlier studies.

2.1

FDI IN MALAYSIA

According to Nursuhaili, Zarinah and Nurulhuda, Malaysia is one of the countries in Asia that has benefited from strong foreign direct investment inflow. They noted that FDI was a major source of growth for manufacturing development in Malaysia that mainly targeted for the export market. Hooi (2008) has supported this view as he stated there is no denying the role that foreign investments has played in economic growth as it has been a significant factor in Malaysias growing economy and Malaysia will increasingly adopt a more focused approach in its measures to attract more FDI. As referred to the Department of Statistics (2011), FDI in Malaysia rose steadily from RM129.1 billion in 2001 to RM270.0 billion in 2009, a growth of 109.1 per cent. While year-on-year, FDI increased by RM16.2 billion or 6.4 per cent. FDI experience similar circumstances as DIA whereby equity capital & reinvested earnings component formed the largest portion amounted to RM250.8 billion. As reported by Bank Negara Malaysia Annual Report (2009), on the financial account, gross inflows of foreign direct investment (FDI) are anticipated to increase in 2010 amid improving global growth prospects and corporate profitability. As global FDI inflows are expected to recover only moderately in 2010, the improvement in FDI

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

in Malaysia is thus projected to be moderate with inflows mainly into the manufacturing, services and oil and gas sector. 2.2 INFRASTRUCTURE According to Zunaidah and D.Agus (2005), their study has supported the view that infrastructure is always associated with foreign direct investment. According to them, Malaysia is making successful efforts to upgrade the level of infrastructure and the development of telecommunication, which are very important elements in attracting more foreign investors. This has been supported by Yong and Tuck (2009). As referred to them, infrastructure plays a crucial role in FDI flows in the short-run, but not in the long-run, after considering the event of China joining the WTO in 2001 and the inclusion of corruption variables. Zubair (2004) has the same view with this theory as he stated that one prerequisite for an economy to stimulate FDI inflow is the expansion of various sort of infrastructural facilities, including means of transportation and communication,power supply,educated skill worker ,accomodation and the like. As he expected, development expenditure which has been used as a proxy for infrastructure has a positive relationship with fdi inflow and the coefficient too is not small. As referred to Erdal and Mahmut (2008), the relationship between infrastructure and foreign direct investment has also received positive support from them, as they claim that the effect of infrastructure on FDI is positive and significant. This result shows that investors are attracted to a country with better infrastructure. It means that better infrastructure is an important determinant in attracting FDI to developing countries. As referred to Wong (2005), he has stated that the better the infrastructure of the host country, the more attractive it is to FDI. A good infrastructure will facilitate production activities as well as distribution of output. 14

The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

According to A.Yol and Ngie (2009), they have argued that the finding has shown that FDI flow in Malaysia are positively influenced by infrastructure in the long run. While in short run, FDI flows are determined by all the specified lagged variables. Specifically, while FDI is negatively influenced by its own lag, GDP growth rates, infrastructure and exports, it is positively affected by economys openness and real exchange rate variable. According to A.Yol and Ngie (2009), the estimated coefficient is positively signed as expected and statistically significant. In other words,a one percentage improvement in infrastructure would induce FDI flow to rise by approximately 2.6% annually. No doubt that infrastructure is critical in inducing FDI flows into a host country.

2.3

EXCHANGE RATE According to Zubair (2004), who support the view that exchange rate is

always associated with foreign direct investment, he said that rate of exchange has long been regarded as an important determinant of FDI flows. As all trade in Malaysia is in term of dollars, FDI flow is expected to increase in response to a fall in the value of the Malaysia currency. As referred to Rana and Muhammad (2010), the coefficient of exchange rate is negative as expected. One percent decrease in Pakistans exchange rate is associated with 0.41 percentage point increase in FDI annually. The depreciation of the countrys currency would encourage the inflow of FDI. It also confirms the hypothesis that foreign investors are much interested in high returns on their investment.

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

According to Nurudeen and Wafure (2010) , she has the same view with this theory as she stated that from regression results, it showed that the principal determinants of FDI are the market size of the host country, deregulation, exchange rate depreciation and political instability. The results reveal that exchange rate is significant in explaining changes in FDI. A 1 percent depreciation in exchange rate causes FDI to increase by approximately 0.02. Exchange rate depreciation may encourage the inflow of foreign direct investment to the host country. As referred to Ruiz (2005), the relationship between exchange rate and foreign direct investment also has received positive support from her as she highlighted that it has often been argued that the level of ER affects the decision to invest in one country depending on whether the host country currency is overvalued or not in comparison with the investing country. Others have argued that is not the level but its variability what matters in terms of FDI flows. According to A.Yol and Ngie (2009), contrary to the above views, their study indicate that exchange rate has positive relationsip with FDI. From the study, the estimated coefficient of real exchange is positively signed as statistically significant at the 1% level, suggesting the real appreciation of exchange rate cause FDI flow to surge into Malaysia. The finding shows that FDI flows in Malaysia are positively influenced by real exchange rate. They also state that in the short run, FDI flows are determined by all the specified lagged variables where FDI is positively affected by economys openess and real exchange rate variables. As referred to Wen-Hsien (2010), he finds that source countries with higher export ratio, depreciation of real exchange rate, lower borrowing cost, lower GDP per capita, higher relative labor cost, strong IPR protection and higher volatility in its exchange rate tend to invest more to China. 16

The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

According to Yong and Tuck (2009), there is also a study which did not support the relationship between exchange rate and FDI. According to them, cointegration relation exists among inflow of FDI exchange rate after considering the event of China joining the WTO in 2001 and inclusion of corruption variables. Exchange rate variables seem to be of no significance in the decision-making of foreign investors.

2.4

MARKET SIZE

Study done by Sawkut, Boopen, Taruna and Vinesh agreed with the theory that market size is the determinant of foreign direct investment. According to them, the size of the host market, which also represents the host countrys economic conditions and the potential demand for their output as well, is an important element in FDI decision-makings. As referred to Shaukat and Wei (2005), Chinas large potential market size and growth is considered as the most important factor influencing multinational enterprises to invest in China. In fact, one major motivation for FDI is to seek new markets. Host countries with larger market size, faster economic growth and higher degree of economic development will attract more market-oriented FDI. According to Joong, he has found that traditional economic determinants, such as natural resources and national market size for manufacturing products sheltered from international competition by high tariffs or quotas, still play an important role in attracting FDI by a number of developing and developed countries as well as economies in transition (e.g., China, Australia and Kazakhstan).

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

As referred to A.Yol and Ngie (2009), they claim that the estimated

coefficient of real malaysian GDP growth carry the expected positive sign and statistically significant. In other words, a one percentage point rise in GDP growth would cause FDI flows into Malaysia rise by approximately 0.5 percentage point of FDI per annum. This was supported by Erdal and Mahmut (2008) as they found that the results show that in case of growth rate of per capita GDP is taken as a proxy for market size, market size can be considered one of the factors that affect FDI. This result shows that market size, better infrastructure, trade openness and economic stability have positive effect on FDI. As referred to Nursuhaili,Zarinah and Nurulhuda, who use Autoregressive distributed lag (ARDL) model, the estimated coefficients show that only market size proxies by real GDP is statistically significant and has the right sign. Contrary to the above views, according to Yong and Tuck (2009), they argue that market size variables seem to be of no significance in the decision-making of foreign investors, after considering the event of China joining the WTO in 2001 and inclusion of corruption variables.

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

CHAPTER 3 : RESEARCH METHODOLOGY
3.0 INTRODUCTION

This chapter discusses the research design, sampling and data collection method , techniques for analyzing the data and the measurement .

3.1

DATA COLLECTION

3.1.1 Data and sources of data Data that are collected to be analyzed in this study is secondary data. Secondary data can be referred to the information gathered from sources already existing. All the data and information are collected from United Nation Conference on Trde and Development(UNCTAD), Economic Report,

Department of Statistics and Ministry of Finance, Malaysia, World Bank, Bank Negara Malaysia and Datastream. The other sources of secondary data are obtained from internet search, journals, and newspapers. 3.1.2 Sample of study In completing this study, the samples that have been used are based on 20 years data in yearly basis. The data collected were infrastructure, which is measured by government development expenditure on

transportation,communication and public utilities. While for exchange rate, exchange rate RM/US$ is used as a proxy and market size is measured by Gross Domestic Product (GDP) per capita. The dependent variable of foreign direct investment is measured by net inflow of foreign direct investment(FDI). All the variables are in terms of Malaysian Ringgit(RM).

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

3.2 THEORETICAL FRAMEWORK In this study, the theoretical framework is needed in order to know the relationship from one variable to the other variables. A variable is anything that can take on differing or varying value. Dependent variable (criterion variable) - is the primary interest to the researcher. Independent variable (predictor variable) is one that influence the dependent variable in either a positive or negative way. The schematic diagram below shows the relationship between independent variables and dependent variable : Figure 3.1: Schematic Diagram of the Theoretical Framework

INFRASTRUCTURE

FOREIGN DIRECT INVESTMENT(FDI)

EXCHANGE RATE

MARKET SIZE

DEPENDANT VARIABLE(DV)

INDEPENDENT VARIABLE(IV)

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

3.3 METHOD OF ANALYSIS For this study, Statistical Package Social Science (SPSS) is used to analyze all the data collection and interpret the result findings. The raw data collected in the field must be transformed into information that will answer the researcher s questions in order to identify the relationship and correlation between foreign direct investment with infrastructure, exchange rate and market size. 3.4 STATISTICAL METHOD OF ANALYSIS Regression analysis is a statistical technique that attempts to explain movement of one variable called the dependant variable as a function of movement in a set of other variables called independant variable through the quantification of a single equation. The objective is to build a regression model or prediction equation that can be used to describe, predict, and control the variables. There are two types of regression analysis namely single regression and multiple regression analysis but in this study, a multiple regression model has been employed to estimate the relationship between foreign direct investment and its potential determinants. 3.4.1 Multiple Linear Regressions Multiple Linear Regression has three or more observable variables in which the dependant variable or regressand, depends on two or more explanatory variables or regressor. It is a useful statistical technique that can be used to forecast the relationship of 2 or more variables. For this study, it will use the multiple regression technique as below:

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

Y Y = = + 1 X1 + 2 X2 + 3 X3 + Value of dependent variable (net flow of FDI) 1 2 3 X1 X2 X3 = = = = = = = = Constant coefficient to be estimated coefficient to be estimated coefficient to be estimated Independant variable infrastructure(INFRA) Independant variable exchange rate(EXR) Independant variable market size(MSZ) Random Error Term

3.5

TEST OF CORRELATION 3.5.1 Correlation Coefficient Correlation coefficient, R, measures the linear association between independent and dependent variables. The coefficient changes from +1 to 1. Table below shows the category listed for linear correlation coefficient result: r=1 0.75 < r <1 0 > r > 0.25 r=0 -0.25 < r < 0 -1 < r < -0.75 r = -1 22 Perfect positive linear correlation Strong positive linear correlation Weak positive linear correlation No linear correlation Weak negative linear correlation Strong negative linear correlation Perfect negative linear correlation

The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

3.5.2 Coefficient of Determination Coefficient of Determination is denoted as R-square(R2). It is used to test the explanatory power of the entire regression equation. The value of R ranges from zero to one. If the value of R is close to zero, it indicates a weak relationship between the dependent and independent. If the value of R is close to 1, it indicates a relative strength relationship exists between dependent and independent variables. If the value is zero, it shows that none of the variation in independent variables explained the changes in the dependent variables. If the value is 1, it shows that all changes in the dependent variable are explained by the variation in independent variable used in the regression.

3.6

TEST OF SIGNIFICANT (Hypothesis Testing) 3.6.1 T- Statistic T- Statistic is used to determine if there is a significant relationship between the independent variable and dependent variable. In order to test the significant of T-Statistics, the comparison between the absolute value of the TStatistics to the tabulated value of T-distribution table with degree of freedom (df) will be done. Normally it is calculated at 5% level of significant (95% of confidence interval).

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

The formula used is as follows: df = n-k-1 Where, df = degree of freedom n = no of observation k = no of independent variable (3) Therefore, the decision rule is At 95%, confidence interval; :

Computed T-value > Critical T-value, reject Ho Computed T-value < Critical T- value, accept Ho

If the calculated T-value is greater than the critical T-value, the independent variable is said to be statistically significant. If the calculated Tvalue is less than the critical T-value , the independent variable is said to be statistically insignificant.

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

3.6.2 F-Statistic This study will also use the F-test in order to analyze how reliable the overall model is. It provides an overall appraisal of the regression equation to evaluate the significance of each individual component to the entire

regression model. In other words, it is used to test the hypothesis in which variation in independent variable explained a significant proportion of the

variation in the dependent variable.

The formula of F-Statistics is defined as follows: F = [ R / k-1 ] / [ ( 1 - R ) / (n - k ) ] Where ; F : F-statistics R : Coefficient of Determination n : no of observation k : no of independent variable Otherwise, the critical value of F is defined as : F = ( k 1, n k 1) Where ; = Significant level at 0.05 k = no of independent variable n = no of observation 25

The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

Therefore, the decision rule is :

Calculated F-value > Critical F-value, reject Ho Calculated F-value < Critical F-value, accept Ho

If the calculated -statistic is higher than the critical value of , the overall model has significant relationship between all of the independent variables together with the dependent variable.

3.7

TEST OF AUTOCORRELATION 3.7.1 Durbin Watson Durbin Watson Statistic is a common test for serial correlation or also known as auto correlated. It is used to measure the correctness of the model used in the study.The major cause of auto correlated error term in the model is that the model is mis-specified. This happens whenever one or more key explanatory variables have been omitted. Durbin Watson Statistic shows that the model is good when the value of the Durbin Watson statistic is in between 1.5 to 2.5. If the value is below 1.5, then the model has an error and if the value is higher than 2.5, this indicates the presence of negative autocorrelation. Negative autocorrelation is not particularly common.

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

CHAPTER 4 : ANALYSIS AND FINDINGS
4.0 INTRODUCTION This chapter discusses the findings of the data. The first part of the finding shows the trend analysis between dependent variable (inflow of FDI) and the independent variables (infrastructure, exchange rate and market size). The relationships between foreign direct investment(FDI) with infrastructure, market size and exchange rate could be identified based on Multiple Linear Regression Model. The data collected are analyzed using Statistical Package for Social Science (SPSS) This analysis proves whether there is a relationship or not between dependent variable and independent variable. Once the results have been derived from the programs, then the results are interpreted by a number of statistical methods. The second part of the finding discusses the results which is interpreted by using: i. ii. iii. iv. v. Coefficient of Correlation (R) Coefficient of Determination (R) T Statistics F Statistics Durbin Watson

4.1 TREND ANALYSIS Trend analysis is used to study the trend of inflow of FDI in Malaysia as the dependent variable. Besides dependent variable, it is also used to examine the trend of the independent variables which are infrastructure, exchange rate

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

and market size . This analysis is done based on 20 years data commencing from the year 1990 to 2009. Table 4.1 : 20 years data for FDI, Infrastructure, Exchange Rate and Market Size

YEAR

FDI -inflow of FDI (RM MILLION)

INFRASTRUCTURE government development expenditure on transportations, communications and pubic utilities (RM MILLION) 2645 2579 2734 3293 2953 3819 5265 5078 5033 5032 5380 6464 7491 8677 7700 9246 10003 10963 12341 12048

MARKET SIZE - GDP per capita (RM MILLION)

EXCHANGE RATE (RM/US$)

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009

7088.331623 12151.28506 15752.22522 15212.14835 13194.73298 12697.66934 15433.30303 15609.8678 6574.578119 11837.70474 11510.61237 1683.446051 9735.19658 7515.926843 14052.97579 12052.71267 18465.32859 25691.00067 22415.38436 4216.289403

6521 7126 7821 8444 9461 10569 11786 12710 12770 13241 15169 14683 15624 16718 18531 19996 21563 25544 26639 23826

2.6995 2.698 2.589 2.6265 2.779 2.5545 2.5522 2.4763 3.785 3.795 3.8 3.8 3.8 3.8 3.8 3.8 3.719 3.4935 3.221 3.6765

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

Figure 4.1 : Trend Analysis between FDI and Infrastructure

INFLOW OF FDI (RM MILLION)

30000 25000 20000 15000 FDI (RM MILLION) 10000 5000 0

GOVT. DEVELOPMENT EXPENDITURE ON TRANSPORTATION,COMMUNICATION AND PUBLIC UTILITIES (RM MILLION)

14000 12000 10000 8000 6000 4000 2000 0 GOVT.DEVELOPMENT EXPENDITURE ON TRANSPORTATION,CO MMUNICATION AND PUBLIC UTILITIES (RM MILLION)

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

Figure 4.2 : Trend Analysis Between FDI And Market Size

INFLOW OF FDI (RM MILLION)

30000 25000 20000 15000 FDI (RM MILLION) 10000 5000 0

GDP PER CAPITA (RM MILLION)

30000 25000 20000 15000 10000 5000 0 1990199219941996199820002002200420062008 GDP PER CAPITA (RM MILLION)

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

Figure 4.3 : Trend Analysis between FDI and Exchange Rate

INFLOW OF FDI (RM MILLION)

30000 25000 20000 15000 FDI (RM MILLION) 10000 5000 0

EXCHANGE RATE (RM/US$)

4 3.5 3 2.5 2 1.5 1 0.5 0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 EXCHANGE RATE (RM/US$)

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

4.2 INTERPRETATION OF RESULTS MULTIPLE LINEAR REGRESSION MODEL

Table 4.2 : Summary of Regression Analysis.

Model Summaryb Adjusted R Square Std. Error of the Estimate DurbinWatson 1.525

Model 1

R .814
a

R Square .662

.598 3.6513667E3

a. Predictors: (Constant), MSZ, EXR, INFRA b. Dependent Variable: FDI

Table 4.3 : Result (Coefficient) of Regression Analysis Coefficientsa Standardized Unstandardized Coefficients Coefficients Model 1 (Constan t) INFRA EXR MSZ B 21654.314 -3.991 -7642.077 2.792 Std. Error 5363.177 1.328 1879.420 .701 -2.221 -.750 2.963 Beta t 4.038 -3.006 -4.066 3.983 Sig. .001 .008 .001 .001 .039 .621 .038 25.817 1.609 26.193 Collinearity Statistics Tolerance VIF

a. Dependent Variable:FDI

4.2.1 Coefficient Y = 21654.314 3.991 INFRAX1 7642.077 EXRX2 + 2.792 MSZX3 From the equation above, it shows that INFRAX1 (infrastructure) and EXRX2 (exchange rate) have negative relationships while MSZX3 (market size) has positive relationship with foreign direct investment.

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

a) 1 = -3.991 The coefficient above means that every RM 1 changes in infrastructure will lead to a change by RM 3.991 in FDI. Since the value is negative, it indicates that there is an inverse relationship between infrastructure and FDI. Any increase in infrastructure will decrease the inflow of FDI by RM 3.991. b) 2 = -7642.077 The coefficient above means that every RM 1 changes in exchange rate will lead to a change by RM 7642.077 in FDI. Since the value is negative, it shows that there is an inverse relationship between the exchange rate and FDI. Any increase in exchange rate will decrease the inflow of FDI by RM 7642.077 . c) 3 = 2.792 The coefficient above means that every RM 1 changes in market size will lead to a change by RM 2.792 in FDI. Since the value is positive, it indicates that there is a direct relationship between market size and FDI. Any increase in market size will increase the inflow of FDI by RM 2.792.

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

4.2.2. Coefficient of Correlation (R) The linear coefficient of correlation (R) measures the type and strength of correlation. In this research, coefficient of correlation (R) is at the

percentage of 0.814 @ 81.40 %. This indicates that infrastructure, exchange rate and market size and FDI have strong positive linear correlation (0.75 <R<1). 4.2.3. Coefficient of Determination (R) Coefficient of Determination (R) is used to test the explanatory power of the explanatory variable. Based on the regression analysis, R = 0.662 . This indicates that 66.20 % of the changes in inflow of FDI is explained by a variation in infrastructure, exchange rate and market size. The other 33.80 % changes in inflow of FDI is explained by other factors. 4.2.4. T-Statistics For this study: Df = n k 1 = 20 3 1 = 16 Confidence Interval = 95% Table t-value = 2.120

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

Table 4.4 : Result of T-Test INDEPENDENT VARIABLES Infrastructure Exchange rate Market size CALCULATED TVALUE 3.006 4.066 3.983 > > > 2.120 2.120 2.120 Significant Significant Significant T-TABLE RESULT

Using the standard error of coefficients, it shows that from the proceeding regression equation, all the independent variables are significant where the calculated t-value is larger than the t-table.

Hypothesis 1

H0: There is no relationship between infrastructure and foreign direct investment in Malaysia.

H1: There is a relationship between infrastructure and foreign direct investment in Malaysia.

From the results obtained in Table 4.11, infrastructure is significant at 3.005 level. It means that there is a significant relationship between infrastructure and foreign direct investment. Thus, the findings can be used to reject the null hypotheses (H0) and accept the alternate hypotheses (H1).

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

Hypothesis 2

H0: There is no relationship between exchange rate and foreign direct investment in Malaysia.

H1: There is a relationship between exchange rate and foreign direct investment in Malaysia.

From the results obtained in Table 4.11, exchange rate is significant at 4.066 level. It means that there is a significant relationship between exchange rate and foreign direct investment. Thus, the findings can be used to reject the null hypotheses (H0) and accept the alternate hypotheses (H1).

Hypothesis 3

H0: There is no relationship between market size and foreign direct investment in Malaysia.

H1: There is a relationship between market size and foreign direct investment in Malaysia.

From the results obtained in Table 4.11, market size is significant at 3.983 level. It means that there is a significant relationship between market size and foreign direct investment. Thus, the findings can be used to reject the null hypotheses (H0) and accept the alternate hypotheses (H1).

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

4.2.5 F-Statistics For this research: There is, n = 20 (no of observation) k = 4 (Independent variable) F value = (k-1, n-k-1) = (4-1, 20-4-1) = 3, 15 F- table = 3.29

Table 4.5 : ANOVA of Regression Analysis

ANOVAb Model 1 Regression Residual Total Sum of Squares 4.175E8 2.133E8 6.309E8 Df 3 16 19 Mean Square 1.392E8 1.333E7 F 10.439 Sig. .000a

a. Predictors: (Constant), MSZ, EXR, INFRA b.Dependent Variable: FDI

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

Table 4.6 : Result of F-Test DV F-CALCULATED F-TABLE SIG. RESULT

FDI

10.439

>

3.29

.000

significant

Based on the table above, the result shows that calculated F value is equal to 10.439. The value is more than the critical value of F, which is only 3.29. Therefore the regression equation is significant. Besides that, it also shows that the model used fits fairly well at 95% confidence level in explaining the relationship between the independent variable with dependent variable. The entire F-Statistics test shows that FDI and all independent variables have a significant relationship and all the equations used in regression models are reliable. So, it indicates that there is a significance relationship between FDI with infrastructure, exchange rate and market size. 4.1.5 Durbin Watson Durbin Watson is used to test the strength of each independent variable. It is measured through the range of 1.5 to 2.5, which measures the correct model used for this study. Based on the Table 4.10, the result of Durbin Watson in multiple linear regression is 1.525. It indicates that the model used in this study has an absence of autocorrelation. It means that infrastructure,exchange rate and market size are correct in analyzing the inflow of FDI in Malaysia. Thus, each independent variable is not dependent on each other.

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

CHAPTER 5 : CONCLUSION AND RECOMMENDATIONS
5.1 CONCLUSION Identifying determinants of FDI in Malaysia is a broad and complex issue. This research has been done in order to study the factors that contribute to the impact on inflow of Foreign Direct Investment (FDI) which are infrastructure, exchange rate and market size . Time series data for 20 years which commences from the year 1990 to 2009 has been employed in this study. Multiple Linear Regression Analysis has been conducted in the study in order to get the results. The result of the study has confirmed that it has achieved the research objectives. In multiple regression analysis for hypotheses testing, it shows those null hypotheses of each variable are rejected because all independent variables ; infrastructure, exchange rate and market size have significant relationships with the dependant variable which is inflow of Foreign Direct Investment (FDI). Thus, all the alternate hypotheses of each variable are accepted. Hence, we can conclude that all specified determinants and the dependent variable of inflow of Foreign Direct Investment (FDI) have very strong associations. It means that the inflow of FDI will surge if there is a decrease in government expenditure on infrastructure, decrease in exchange rate and increase in market size as explained by coefficients of correlation. Besides, from the trend analysis, it also confirms that the objectives have been achieved. FDI in Malaysia has experienced the growth in particular years. It shows that in the year 2007, Malaysia has received the largest inflow of FDI as compared to the other years. 39

The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

When referring to T-test, we can see that exchange rate has significant relationship in negative side with Foreign Direct Investment (FDI). It shows that when exchange rate increases, it will reduce the inflow of Foreign Direct Investment. Previous study has supported this relationship. According to Rana and Muhammad (2010), the coefficient of exchange rate is negative as expected. One percent decrease in Pakistans exchange rate is associated with 0.41 percentage point increase in FDI annually. The depreciation of the countrys currency would encourage the inflow of FDI. It also confirms the hypothesis that foreign investors are much interested in high returns of their investment. Besides exchange rate, infrastructure also has a negative relationship with FDI. According to the previous literature review, infrastructure has a positive relationship with FDI. However, this study found negative relationship with FDI. So, it indicates that the result is not consistent with the previous studies. This may be due to the proxy used to measure the infrastructure was slightly inaccurate to investigate the infrastructure as a determinant of FDI. The government development expenditure which has been used as a proxy, should only take into account the expenditure on transportations, while expenditure on communications and public utilities should not be included.

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

The result also confirmed that market size has positive effect to the inflow of FDI. It can be proves from previous research. According to Erdal and Mahmut (2008), they found that the results show that in the case of growth rate of per capita GDP is taken as a proxy for market size, market size can be considered as one of the factors that affect FDI. This result shows that market size has positive effect on FDI. As referred to A.Yol and Ngie (2009), they claim that the estimated coefficient of real Malaysian GDP growth carry the expected positive sign and statistically significant. Although R is just slightly higher than 60%, we still can consider those variable combined is significant at the level of 66.20% which is explained by the variance of independent variable, and the other 33.80 % can be explained by other variables. Based on Durbin Watson test, it was found that no autocorrelation problem exists.

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

5.2 RECOMMENDATION 5.2.1 To Government This study is beneficial to the government in terms of identifying the crucial factors that affect the inflow of Foreign Direct Investment (FDI) in Malaysia. Since FDI is essential in providing capital for investment, enhancing job creation and managerial skills, and possibly technology transfer, the government needs to concentrate on the important determinants of FDI in Malaysia which may be the key to maximize both FDI inflows and the gains from FDI and consequently can stimulate economic growth .This research has found that Malaysias potential market size and exchange rate is the most significant factor for FDI flows into Malaysia due to its significance. So, the government should really pay close attention to these factors.

This study may also may provide opportunity to the government which is also the policy maker such as Bank Negara Malaysia, to improve or change the existing policy. The result from regression has confirmed that an increase in GDP per capita which is proxy for market size has positive effect on inflow of FDI in Malaysia. So, it requires an effective and encouraging policies to restore the confidence of the foreign investors especially when they are certain that the host country creates the needed market for their products. Hence the authorities should highly concentrate to maximize the utilization of resources to increase GDP per capita. Besides, policy maker should also give attention to factors that negatively influence FDI flows such infrastructure by reviewing those factors because it may reduce FDI flows to the country.

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

5.2.2 Future Research For future research, this study is good for researchers as their references and guideline. There are several recommendations for those who want to study further about this topic:

I.

Variable For those who are interested to further this research, they

should add more independent variables such as human capital. Nowadays, foreign investors are seeking for well-trained labor particularly in labour-intensive sectors. Higher level of human capital can be a good indicator of the availability of skilled workers, which can significantly boost the locational advantage of a country and may be the key to attract FDI. In fact, Malaysia has young, educated and productive workforce and this can be used to investigate their effects on FDI flows. II. Time frame To get a better result, future researchers are advised to take a longer period of time in carrying out the study. The time frame may influence the result of the study and in answering the objectives to be achieved. The longer period taken to carry out the study, the more accurate the result will be found.

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

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The Determinants of Foreign Direct 2011 Investment (FDI) in Malaysia

Wen-Hsien, L. (2010). Detrminants of FDI Inflows to China : An Empirical Analysis of Source Country Characteristics. Taipei International Conference on Growth, Trade and Dynamics . Ruiz, I. C. (2005). Exchange Rate as a Determinant of Foreign Direct Investment:Does it Really Matter?Theoretical Aspects, Literature Review and Applied Proposal. Ecos de Economa No. 21. Medelln , 153-171. Sawkut, R., Boopen, S., Taruna, B.-S.and Vinesh, S. (n.d.). Determinants of FDI : Lesson from African Economics. Joong-Wan, C. (n.d.). Foreign Direct Investment : Determinants, Trends In Flow and Promotion Policies. Investment Promotion and Enterprise Development Bulletin for Asia and the Pacific . Adams, S. (2009). Can foreign direct investment (FDI) help to promote growth in Africa? African Journal of Business Management Vol.3 (5) , 178-183. Sulong, Z. and Harjito, D.A. (2005). Linkages Between Foreign Direct Investment and its Determinants in Malaysia. Jurnal Ekonomi Pembangunan Vol. 10 No. 1 , 1-11. Tian, X. and Lin, S. (2009). FDI Technology Spillovers Within And Across Industries: Evidence From China. Journal of Asia Business Studies .

Website http://www.tradechakra.com/economy/malaysia/foreign-investment-in-malaysia http://www.btimes.com.my/articles http://www.answers.com/topic/foreign-direct-investment http://en.wikipedia.org/wiki/Foreign_direct_investment http://www.oecd.org/dataoecd/1/35/2085596.pdf http://www.oup.com/uk/orc/bin http://www.quncy.com/five.html http://encyclopedia.stateuniversity.com/pages/7638/foreign-direct-investmenthttp://www.statistics.gov.my/ http://www.bnm.gov.my/ http://www.unctad.org/

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