Abstract
Past studies investigated a number of fundamental variables influencing FDI in various countries. This study offers extensive evidence on the impact of investor sentiment on net FDI flows in Malaysia. Using a vector error correction framework, this study analyzed the net FDI flows in Malaysia for 56 quarterly observations between 1998 and 2011, and reported a strong positive connection between investor sentiment index and FDI flows in the presence of other macroeconomic variables in the long- and short-run. Other important factors deciding FDI in Malaysia are real GDP, interest rate and currency value. FDI exhibited a bi-directional Granger causality with investor sentiment and gross domestic product. FDI is also Granger caused by interest rate. Decomposing the sentiment index to two sub-indexes, we find that the attitude dimension of the index hold greater influence on FDI than the market trading dimensions although both are significant. The study concludes that expectation around financial market, expected economic condition of the country and the region (i. e. ASEAN), and interest rates are important determinants of FDI in Malaysia. It is one of the findings of this study that FDI cannot be attracted simply based on economic stability of the country; rather a conducive regional atmosphere is indeed necessary. Consequently, our findings suggest that rather than implementing policies to improve macroeconomic conditions, governments should attempt to improve the perception and outlook of Malaysia to foreign investors in order to increase FDI flows into the country. Investing in bilateral (and/or multilateral) relationships can be one of the steps to create a positive impression for the region to attract more foreign companies.
