The Role of Foreign Direct Investment on Economic Growth in Tanzania

Abstract

This paper investigates the effects of foreign direct investment (FDI) on economic growth using time series data spanning the period from 1988 to 2020, sourced from the BOT, WDI, and NBS. The study employs an explanatory (causal) research design to quantify this relationship using the ARDL and VECM estimation techniques. This research has two interlinked objectives: to examine the effects of FDI on growth and the effects of growth on FDI, thus shedding light on the direction of causality between the two variables. Key findings indicate that FDI has an insignificant effect on economic growth however, economic growth has a positive effect on FDI in the long run, pointing to a unidirectional causality from growth to FDI. Other significant variables include inflation, currency adjustments, and political stability, which negatively impact growth, while human capital bolsters it. Moreover, FDI is positively influenced by money supply and natural resource rents but negatively affected by domestic investment. These findings suggest a need for improvements in Tanzania’s use of FDI, which should be prioritized in key economic sectors such as agriculture, which employs the majority of Tanzanians, through incentives like subsidies, tax holidays based on FDI performance, and providing low-interest loans to investors willing to invest in these key sectors. Furthermore, curtailing rent-seeking activities in government offices and ensuring stability in macroeconomic indicators such as inflation and the exchange rate is important for sustainable economic growth.