Trade and FDI connectivity in Europe: the European Union, Western Balkans and new EU candidate countries

Abstract

The escalation of geopolitical tensions with the prospect of the European Union (EU) enlargement make connectivity a defining feature of European integration, which in turn facilitates trade and foreign direct investment (FDI) in the region. This paper uses a panel data approach for 39 countries over 2000-2020 to verify the connectivity among the economic and institutional factors affecting the FDI flows within Europe versus the European and non-European countries (focusing on China) in terms of three key issues. First, we hypothesize that the ability of countries to connect through FDI and trade on global and regional levels will affect how they might maximize the benefits of European integration. Second, we extend the existing FDI estimated models by adding our received indices to investigate the effects of connectivity on FDI inflows in Europe. Finally, we incorporate institutional factors in the empirical model and use interaction terms between the host country and integration dummy variable to capture how the effect of policy stability influenced FDI inflows across Europe. A relatively high drop in trade costs between the Western Balkans and the EU (-45%) over the period 2000-2020 indicates a high level of integration within Europe. But the decline (-35%) in trade costs between the EU and China over the same time period points to integration with non-EU partners. As a result, trade and FDI connectivity are still more global than regional.

Keywords

• connectivity
• trade costs
• european integration
• eu membership
• chinese investment
• gmm
• granger causality