Journal of International Management 14 (2008) 12 27

Better the devil you don't know: Types of corruption

and FDI in transition economies
Alvaro Cuervo-Cazurra
Sonoco International Business Department, Moore School of Business, University of South Carolina,
1705 College Street, Columbia, SC 29208 USA
Received 31 January 2006; received in revised form 31 December 2006; accepted 28 February 2007
Available online 14 February 2008

Abstract
Corruption has a negative impact on foreign direct investment (FDI). However, transition economies show high levels of
corruption and also high levels of FDI. I argue that it is not the level but rather the type of corruption that affects FDI in transition
economies. Pervasive corruption, or corruption that is widely present, acts as a deterrent to FDI because it increases the known
costs of investing, while arbitrary corruption, or corruption that is uncertain, does not have such a deterring influence because it
becomes part of the uncertainty of operating in transition economies. In transition economies, investors prefer to deal with an
unknown evil arbitrary corruption rather than a known one pervasive corruption.
2008 Elsevier Inc. All rights reserved.
JEL classification: F21; F23; D73; K42; P37
Keywords: Corruption; Foreign direct investment; Institutions; Transition economies

I analyze the influence of corruption on foreign direct investment (FDI). Corruption, the abuse of public power by
government officials for private gain, acts as an irregular tax on business that increases costs and distorts incentives to
invest (Shleifer and Vishny, 1993; Wei, 2000a), creating additional uncertainty regarding the costs of operation in the
country (Kaufmann, 1997; Rose-Ackerman, 1999). Accordingly, many empirical studies of corruption have found a
negative influence on foreign direct investment (FDI) (e.g. Cuervo-Cazurra, 2006, in press; Habib and Zurawicki,
2002; Lambsdorff, 2003; Voyer and Beamish, 2004; Wei, 2000a, 2000b).
Paradoxically, however, transition economies have high levels of corruption and have also received large amounts
of FDI. This creates an empirical anomaly that appears to challenge existing theoretical arguments. One potential
resolution to this challenge is the argument that, in contrast to other countries, in transition economies corruption
enables the replication of the market mechanisms that are absent in situations of excessive or poorly designed

I thank the Guest Editors Andrew Delios, Klaus Meyer and Modestas Gelbuda, three anonymous reviewers and Annique Un for their helpful
suggestions. The Center for International Business Education and Research at the University of South Carolina provided financial support. The
United Nations, the Organization for Economic Cooperation and Development, and the World Bank graciously made data available. I am responsible
for all errors.
Tel.: +1 803 777 0314; fax: +1 803 777 3609.
E-mail address: acuervo@moore.sc.edu.

1075-4253/$ - see front matter 2008 Elsevier Inc. All rights reserved.
doi:10.1016/j.intman.2007.02.003

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13

regulation (Huntington, 1968; Leff, 1989). Those firms that value time or access to goods more highly than others will
pay the officials a bribe for such access (Lui, 1985). As a result, corruption in transition economies will act as grease
to facilitate transactions and could have a positive influence on levels of FDI inflows.
An alternative idea is that it is not the level of corruption but rather the type of corruption that deters or facilitates FDI in
transition economies. Corruption has a negative influence on FDI because it increases costs and uncertainty. However,
different types of corruption have a different influence on FDI in transition economies. To examine this idea, I distinguish
between pervasive corruption corruption that is certain and widespread and arbitrary corruption corruption that is
uncertain (Rodriguez et al., 2005). I propose that pervasive corruption is a strong deterrent to FDI in transition economies
because it creates an additional, known cost to foreign investors. In contrast, arbitrary corruption does not act as a deterrent
because it merely creates higher uncertainty in the investment, uncertainty that is already prevalent in transition economies,
since transition countries have unclear rules to govern business operations. The implication of this line of thinking is that
managers dislike corruption abroad. However, when they have to deal with it, managers prefer an unknown evil in the form
of arbitrary corruption, over a known one in the form of pervasive corruption.
Theoretically, this paper goes beyond traditional studies of corruption and FDI that have found that corruption
reduces FDI (Wei, 2000a), discussing how this relationship may change depending on the context of a firm's operation.
Additionally, this paper examines how types of corruption have a differential influence on FDI, going beyond the
influence on entry mode discussed in earlier literature (Uhlenbruck et al., 2006). All in all, the paper contributes to the
emerging literature on the influence of institutions on the development of countries (Acemoglu and Johnson, 2005;
Djankov et al., 2002; La Porta et al., 1998; North, 1990) and on their influence over foreign investors (Bevan et al.,
2004; Delios and Henisz, 2000; Henisz, 2000). This paper illustrates the benefits of going deep into the analysis of one
dimension of institutions, the lack of strong institutions that corruption represents, identifying how the influence of
corruption and the type of corruption have a varying influence on FDI across host countries. In so doing, this paper
highlights how analyzing transition economies can yield new insights into management issues (Meyer, 2001b).
1. Corruption, FDI and transition economies
Corruption refers to the exercise of public power for private gain. In this paper, I focus on public corruption or
corruption in government, where a public employee, elected or not, uses the position in government to obtain private
benefits (for reviews of the literature on corruption see Bardhan, 1997, and Svensson, 2005). There are incentives for
corruption whenever an official has discretion over the distribution of a good or the avoidance of a bad to the
private sector (Rose-Ackerman, 1999). The official has an incentive to ask for a bribe and increase his or her income in
exchange for a good that has little cost to him or her; the official is merely allocating a good owned by the government
(Shleifer and Vishny, 1993). However, the firm also has an incentive to offer a bribe or accept paying a bribe to obtain
benefits that would not be accessible without corruption, such as being granted a contract, or avoid having to comply
with regulations or taxes (Boddewyn, 1988; Boddewyn and Brewer, 1994).
1.1. FDI and corruption: sand or grease
There exist two views of corruption: one negative (corruption as sand), where corruption reduces FDI because it
increases costs and uncertainty, and another positive (corruption as grease), where corruption increases FDI because it
helps avoid the costs of operating in an environment characterized by poorly-developed regulations. These two views
have been presented as competing arguments. One way to solve the apparent theoretical contradiction in these
arguments is to argue that they operate in different situations. Specifically, corruption may act as sand in countries that
have established market institutions, while corruption may act as grease in transition economies that have not yet
established appropriate market institutions.
1.1.1. FDI and corruption as sand
The negative view of corruption, or sand in the wheels of commerce, highlights how corruption creates additional
costs and uncertainty for investors, leading to a reduction in FDI. Corruption becomes an additional tax on investors
(Shleifer and Vishny, 1993; Wei, 2000a). It requires firms to devote human and financial resources to manage bribes,
although these resources could be invested more profitably in other uses (Kaufmann, 1997). The existence of the
opportunity to extract bribes induces government officials to create additional bureaucratic controls and regulations

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A. Cuervo-Cazurra / Journal of International Management 14 (2008) 1227

with the sole objective of generating an opportunity for more bribes, further increasing the costs to a firm (De Soto,
1989; Krueger, 1993). Moreover, the payment of a bribe creates additional uncertainty because it does not ensure that
the promises are delivered upon. Since bribery is illegal, investors do not have recourse to the courts to ask for the
fulfillment of the promise, as they do in the case of contracts.
The result of these increases in cost and uncertainty that corruption generates is a reduction in the level of FDI
coming into a country. Empirical research has found that corruption has a negative impact on FDI: Wei (2000a)
analyzed bilateral FDI from 12 developed countries to 45 destination countries and found that corruption negatively
impacted FDI; Wei (2000b) confirmed the negative relationship between corruption in the host country and FDI after
taking into account government policies towards FDI. Habib and Zurawicki (2002) analyzed bilateral FDI flows from 7
developed countries to 89 countries and found that both the level of corruption in the host country and the difference in
levels of corruption in the home and host countries have a negative impact on FDI. Lambsdorff (2003) studied
investments in 54 countries and found that corruption has a negative impact on foreign investments. Voyer and
Beamish's (2004) analysis of Japanese FDI found that corruption has a negative impact on FDI per capita in developing
nations. Cuervo-Cazurra's (2006) analysis of FDI inflows into 106 host economies found that corruption has a negative
influence on FDI inflows, but that while investors from countries that have signed the OECD Convention on
Combating Bribery of Foreign Public Officials in International Transactions are further deterred by corruption,
investors from countries with high levels of corruption are less deterred by corruption. In addition to reducing FDI,
corruption induces firms to change the mode of entry and select joint ventures over wholly owned operations
(Smarzynska and Wei, 2000; Uhlenbruck et al., 2006).
In sum, corruption negatively affects FDI because it increases the cost and uncertainty of operating in the country.
Therefore I present the following baseline hypothesis:
H1a. Corruption has a negative impact on FDI.
1.1.2. FDI and corruption as grease
Although corruption is rarely justified on ethical grounds, some scholars view corruption in positive terms as
grease in the wheels of commerce. Corruption is seen as facilitating transactions and speeding up procedures that
would otherwise not happen or happen with more difficulty (Huntington, 1968). As such, corruption is a way to
introduce market procedures in an environment of excessive or misguided regulation, bringing competition into what is
otherwise a monopolistic setting (Leff, 1989). Supply and demand equalize, and the firm with the lowest costs is able to
offer the highest bribe to win a contract or permit. A variation of this argument is that investors who value time or
access to an input more than others will pay a bribe to reduce their time queuing for the input (Lui, 1985). Bribes can
introduce efficiency in such situations. The possibility of extracting a bribe induces the official to speed up services to
serve as many customers as possible. The bribe provides an incentive to the official as the issuance of permits becomes
a piece-rate payment system.
Although sparse, a few pieces of empirical research have not found a negative relationship between corruption and
FDI. For example, Wheeler and Mody (1992) do not find a significant correlation between risk and foreign investment
by US firms. The measure of risk includes corruption, but it may be an imperfect measure of corruption. Hines (1995)
found that corruption in the host country does not appear to affect the growth of inward FDI, with the exception of US
investors. High-growth corrupt countries had higher levels of growth of inward FDI than high-growth countries that are
less corrupt. However, US investors reduced the growth of their investments into corrupt countries after the passage of
the Foreign Corrupt Practices Act banning bribery of foreign officials. Henisz (2000) found that corruption tends not to
affect the investments of US multinational enterprises (MNEs). However, in some of the specifications, corruption had
a positive influence on the probability of investing abroad, although this was not explained.
Transition countries are moving from an economic system of public ownership and governmental allocation of
resources to an economic system of private ownership and market allocation of resources. This transition requires the
development of new institutions that did not exist before such as private property rights protection, contractual
legislation, and capital markets and the dismantling of previous institutions (Aslund et al., 1996; Blanchard, 1997;
Brada, 1996; Sachs, 1996; Svejnar, 2002). In this process, there are no clear rules of behavior or institutions to
guide investors (Meyer, 2001a; Peng, 2000). These economies have institutional frameworks that are only partially
reformed public ownership and a command economy are partially disrupted while private ownership and a market
economy are not fully implemented creating high transaction costs (Meyer, 2001a).

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As a result, in transition economies corruption may have a positive influence on FDI. To be clear, corruption will
still increase costs and uncertainty. However, the additional costs and uncertainty of corruption may be compensated by
the benefits that it provides in terms of bypassing regulations and institutions that were designed for a previous system
but have not yet been dismantled (Boddewyn, 1988; Boddewyn and Brewer, 1994). Bribery helps introduce market
mechanisms and missing incentives. Those investors who are willing to pay more for the required permits will provide
a bribe to the bureaucrat to facilitate the issuance of the permit (Lui, 1985). These incentives and mechanisms are
distorted and imperfect, but this may still be preferable to having to deal with the obsolete institutions and regulations
that are still in place in the newly-forming economic system. The experience of a BBC correspondent in Moscow in the
early 1990s, Andrew Harding, illustrates how corruption provides incentives and solves the limitations of misplaced
institutions in a transition economy:
It took me two hours to reach the front of the queue. But when I got there I was ready. I had a wad of roubles
in one hand, and a packet of fine coffee beans stuffed in a pocket. It was November 1991 and I was seconds
away from my very first Russian bribe. The woman behind the counter, of the giant state-run Soviet travel
agency, did not look up from her magazine. But somehow, through the top of her severely coiffed head, she
managed to imply that she was ready to hear me. I had mentally rehearsed this moment standing in the queue.
In one suave, Bond-like movement I would slip what was in those days rare and expensive coffee over the
counter. The woman would nod imperceptibly, and then announce that, yes, after all, there was actually one seat
available on the next flight to Kiev. [] At that time everyone seemed to need a backhander, waiters,
policemen, basically any official. And who could blame them. The regular economy didn't work. Salaries were
worth nothing. Bribery was the grease which kept the rusty Soviet state from jamming altogether. (BBC News,
2000).
In sum, in transition economies, the benefits that corruption provides in terms of bypassing misplaced institutions
may compensate for the additional costs and uncertainty it creates. As a result, corruption may not act as a deterrent to
investors because helps them deal with the misplaced regulations. Hence, I argue that:
Hypothesis 1b. Corruption has a smaller negative impact on FDI in transition countries than in other countries.
1.2. FDI and type of corruption: costs or uncertainty
There are multiple types of corruption. Rose-Ackerman (1978) distinguishes between bribery to deviate from the
application of existing rules or laws, and bribery to change exiting rules or create new rules or laws. Shleifer and Vishny
(1993) distinguish between corruption without theft, where the official provides the government with the price of the
good and only pockets the additional bribe, and corruption with theft, where the official pockets the whole payment
made by the firm. They also distinguish between organized corruption, where the payment of the bribe ensures the
delivery of the goods, and disorganized corruption, where the payment of the bribe does not ensure this. Elliot (1997)
separates petty corruption, where unelected bureaucrats complement their salaries with small bribes in exchange for
expediting permits or foregoing regulations, from grand corruption, where elected politicians allocate contracts or
subsidies to the firm that provides them with an adequate bribe.
An alternative classification is the distinction between pervasive corruption, where the firm will encounter
corruption whenever it deals with government officials, and arbitrary corruption, where the firm faces uncertainty
regarding the request for and type of bribes and the delivery of the promised services (Doh et al., 2003; Rodriguez et al.,
2005). Unlike other classifications, this one operates at the country rather than at the transaction level. The distinction
between pervasive and arbitrary corruption has been shown to influence the entry mode used by MNEs (Uhlenbruck
et al., 2006). I follow a different route, instead analyzing the impact of pervasive and arbitrary corruption on FDI
inflows.
1.2.1. FDI and pervasive and arbitrary corruption
I argue that the distinction between pervasive and arbitrary corruption can be viewed as separating the
two challenges that corruption creates for investors: additional costs and additional uncertainty of operating in the
country.

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Pervasive corruption can be viewed as representing the known cost of corruption. An investor going to a country with
pervasive corruption should expect to be asked for bribes, both by public employees to process paperwork and by
politicians to obtain government contracts. This increases the costs of operating in the country. Moreover, this increase in
costs is not a one-time event, such as paying to obtain a government contract. Instead, the firm will continuously have to
pay to operate in the country and have permits renewed, contracts enforced, or customs procedures cleared. As a result,
investors in countries with pervasive corruption may avoid or reduce their investments there, because the increase in
costs may render potential investment projects unprofitable. Therefore, I argue that:
H2a. Pervasive corruption has a negative impact on FDI.
Arbitrary corruption can be viewed as representing the uncertainty associated with corruption. The foreign investors
will know that when it enters a country with arbitrary corruption it may or may not be asked for bribes. Additionally, the
payment of a bribe may or may not necessarily result in the promised services being delivered. In a country with arbitrary
corruption, even when the investor has been asked for and paid a bribe to a government official, it does not know whether
the government official will deliver on the promise made. Arbitrary corruption includes what Shleifer and Vishny (1993)
term disorganized corruption, where different elements of the state bureaucracy demand bribes independently from
one another. As a result, the payment of a bribe to one government official does not prevent another from asking for a
different bribe for the same services, or blocking the delivery of the service unless the additional kickback is paid. The
investor's lack of knowledge of being asked for a bribe, coordination in the demand for bribes, and in the delivery of the
services, increases the uncertainty of operating in the country. Investors cannot plan in advance the costs of operating in
the foreign country; they cannot estimate the probability of being asked for a bribe or the potential cost of the bribe. As a
result, they will reduce their investments and limit their exposure. Hence, I argue that:
H2b. Arbitrary corruption has a negative impact on FDI.
1.2.2. FDI and pervasive and arbitrary corruption in transition economies
I argue that pervasive and arbitrary corruption may have different influences on FDI in transition economies than the
general influences discussed before. Specifically, pervasive corruption in transition economies increases the known
cost of operating there, further discouraging FDI. A firm that enters a transition economy with pervasive corruption will
face an additional cost of operating there in the form of known demand for bribes by government officials and civil
servants. These bribes will increase the cost of operating in the transition economy, which already has high costs arising
from its institutional problems (Meyer, 2001a). In a transition economy with pervasive corruption, the transition
process results in new opportunities for government officials to ask for bribes, since it is not clear what rules and
regulations apply; previous rules may still be on the books while new rules are being developed and applied. As a
result, an investor that faces pervasive corruption in a transition country will face an increased known cost of operating
in the transition economy in the form of a widespread demand for bribes and little recourse to established rules and
institutions to limit such demands. In response to these additional costs and lack of clear institutions, the investor will
reduce investment further. Thus, I propose that:
H3a. Pervasive corruption has a larger negative impact on FDI in transition countries than in other countries.
In contrast, arbitrary corruption in transition economies may not act as an additional deterrent to foreign investors.
Arbitrary corruption increases the uncertainty of operating in transition economies, since the demand for bribes and the
outcome of bribe payments is difficult to predict. This increase in uncertainty adds to the already high level of
uncertainty in transition economies (Meyer, 2001a; Peng, 2000). However, arbitrary corruption merely represents less
knowledge about the cost of operation, rather than the known additional cost that pervasive corruption represents.
Investors that have decided to invest in transition economies are already aware of the high level of uncertainty of
operating there. If the high level of uncertainty of operating in transition economies has not already deterred them, the
additional uncertainty regarding corruption is not likely to play an additional role in their investment decision, since it is
not quantifiable. Hence, I propose that:
H3b. Arbitrary corruption has a smaller negative impact on FDI in transition countries than in other countries.

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2. Research design
2.1. Sources of data
I drew FDI data from the United Nations Conference on Trade and Development (UNCTAD) country profiles
(UNCTAD, 2005). This database provides the widest coverage of bilateral FDI inflows available, although it does not
have data for all countries. I complemented this database with information on FDI from the OECD (2005), which has
been the usual source of data in other studies. I analyze FDI data from 1999 because it provides a wide coverage of
countries. As I discuss below, analyzing data for 1998 and 2000 yields similar results.
Data on corruption comes from two separate sources. The general indicator of the level of corruption comes from
Transparency International (2005). I derived the indicators of pervasive corruption and arbitrary corruption using data
from the World Business Environment Survey (WBES) of the World Bank (World Bank, 2006), following the method
used by Uhlenbruck et al. (2006).
Data used in the control variables has diverse sources. Data on the countries' size (GDP, population) and GNI per capita
came from the World Bank's World Development Indicators (2005). I derived information on geographic characteristics
of the countries from the Central Intelligence Agency's World Factbook (2005). I gathered information on languages from
the Factbook and Gordon (2005). I derived data on colonial histories from the Factbook and from Encyclopedia
Britannica (2005). My data on FDI limitations came from Heritage Foundation's Index of Economic Freedom (2005).
The number of host countries I analyze is constrained by the availability of data on the measures of corruption and
on FDI inflows. Appendix A lists the countries analyzed. I follow the International Monetary Fund (2005)
classification of economies to identify those countries that are considered transition economies.
2.2. Variables and measures
Table 1 provides a summary of the variables and measures. The dependent variable is the natural log of FDI inflows
from a home country to a host country, measured in US$ million and using the average foreign exchange rate for the
year.
The independent variable of interest is corruption in the country. I use two different measures. The first is the overall
level of corruption in the country using the indicator developed by Transparency International (2005).1 This indicator
has been used in previous research (e.g. Habib and Zurawicki, 2002; Uhlenbruck et al., 2006). This indicator runs from
10 (low) to 0 (high). I subtract the original index from 10 to rescale the indicator so that a higher number indicates
higher corruption and a lower number indicates lower corruption. The second measure of corruption is the type of
corruption: pervasive or arbitrary. I replicate the measures developed by Uhlenbruck et al. (2006), by using data from
the World Business Environment Survey of the World Bank (World Bank, 2006). Pervasive corruption measures the
likelihood that a firm will encounter a demand for bribes when dealing with the government in obtaining permits or
licenses, settling taxes, gaining government contracts, dealing with custom services, dealing with courts or judges, or
dealing with law enforcement agencies. Arbitrary corruption measures the uncertainty regarding the demand for bribes
in terms of knowing in advance the amount of the bribe, being asked for an additional bribe once a bribe has been paid,
or getting the service delivered after paying for a bribe. I rescale the measures to facilitate interpretation by subtracting
the indicators from 6 so that they run from 1 (low) to 6 (high).
In addition to studying the impact of corruption on FDI, I am particularly interested in understanding how this
relationship changes depending on whether corruption occurs in a transition economy or not. To do this, I multiply an
indicator that marks a host country as a transition economy, with the level of corruption in the country. The coefficient
of this product measures the additional influence on FDI that the corruption in a transition country has above and
beyond the general influence of corruption on FDI. I include an indicator of transition economies to capture other
characteristics of transition economies that influence FDI beyond corruption and the other controls. This procedure was
inspired by Wei's (2000a) analysis of the differential reaction to corruption in a host country by US investors.
I control for other variables that may affect the relationship between corruption and FDI following the logic of
gravity models. The theoretical basis of gravity models in the study of FDI is the proximity-concentration hypothesis
(Brainard, 1997; Horstmann and Markusen, 1992). The gravity model has demonstrated its usefulness in explaining
1

Using the indicator of corruption available at the World Bank (Kaufmann et al., 2003) generated similar conclusions.

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Table 1
Variables, measures, and sources of data

Dependent
variable
Independent
variables
of interest

Variable

Measure

Source

Ln FDI inflows

Log of FDI inflows into the country in the year in

millions of US$
Indicator on the level of corruption in the host country,
from 0 (low) to 10 (high) (10 minus the original score
for corruption)
Indicator of the level of pervasive corruption in the host
country, from 1 (low) to 6 (high) (composite of need to
make extra, unofficial payments (1) to public officials to get
licenses, (2) to deal with settlement of taxes, (3) to gain government
contracts, (4) to deal with customs services, (5) to deal with
courts or judges, and (6) to deal with law enforcement agencies)
Indicator of the level of pervasive corruption in the host country,
from 1 (low) to 6 (high) (composite of firm (1) knowing in advance
how much an unofficial payment will be, (2) being asked by another
agent for an unofficial payment after having paid the unofficial
payment, and (3) having the service delivered as agreed after
paying the unofficial payment)
Natural log of gross domestic product in millions of US$

UNCTAD (2005) and

OECD (2005)
Transparency International
(2005)

Host country
corruption
Host country
pervasive
corruption

Host country
arbitrary corruption

Control
variables

Ln host country GDP

Ln host country
population
Host country GNI
per capita
Host country FDI
limitations
Host country inflation
Host country oil
producer
Host country transition
economy
Ln home country GDP
Home country
corruption
Ln distance
Landlocked
Island
Common border
Common language
Colonial link

Natural log of the number of inhabitants in the host country

Gross national income per capita in power purchasing parity terms,
US$ thousands
Indicators of capital flows and foreign direct investment, from 1
(very low barriers to foreign investment) to 5 (very high barriers
to foreign investment)
Increase in consumer prices, percentage
Indicator that the host country is an oil producer, 1 or 0
Indicator that the host country is a transition economy, 1 or 0
Natural log of gross domestic product in millions of US$
Indicator on the level of corruption in the host country, from 0
(low) to 10 (high) (10 minus the original score for corruption)
Natural log of the greater circle distance between the centers
of the home and host country in miles
Indicator that the none, one, or both home and host countries
are landlocked, 0, 1, or 2
Indicator that the none, one, or both home and host countries
are island nations, 0, 1, or 2
Dummy indicator of the existence of a common border between
the home and host country, 1 or 0
Dummy indicator of the existence of a common language
between the home and host country, 1 or 0
Dummy indicator that the home and host country were ever
under a colonial relationship, 1 or 0

WBES, World Bank (2006)

and Uhlenbruck et al. (2006)

WBES, World Bank (2006)

and Uhlenbruck et al. (2006)

World Development Indicators

database, World Bank (2005)
World Development Indicators
database, World Bank (2005)
World Development Indicators
database, World Bank (2005)
Heritage Foundation (2005)

World Development Indicators

database, World Bank (2005)
Energy Information
Administration (2006)
International Monetary Fund
(2005)
World Development Indicators
database, World Bank (2005)
Transparency International
(2005)
CIA (2005)
CIA (2005)
CIA (2005)
CIA (2005)
CIA (2005) and Gordon (2005)
CIA (2005) and Encyclopedia
Britannica (2005)

bilateral FDI (Bevan and Estrin, 2004; Brenton, Di Mauro, and Lucke, 1999; Eaton and Tamura, 1995; Wei, 2000a,
2000b; Wei and Wu, 2001). It has also proven its usefulness in the generation of new theoretical insights into the
behavior of MNEs, particularly the difficulties that firms face when they move abroad in terms of the cultural,
administrative, geographic, and economic (CAGE) distances (Ghemawat, 2001). The barebones gravity model
explains FDI flows based on indicators of the host country's size (GDP and population) and distance (geographic)
between home and host countries (Linneman, 1966). To these, I add indicators of the common political and cultural
backgrounds. Such a set of controls is common in studies of bilateral trade and bilateral FDI.

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19

Accordingly, I control for three sets of variables: characteristics of the host country, characteristics of the home
country, and common characteristics. First, I control for characteristics of the host country. In particular I control for its
economic and demographic size because larger countries are more likely to attract FDI, since MNEs can achieve the
necessary economies of scale (Linneman, 1966). I also control for the wealth of the population because this will attract
FDI to serve these wealthy consumers (Uhlenbruck et al., 2006). I take into account the restrictions on FDI with a
measure of such limitations (Wei, 2000b). I control for the country's inflation rate in order to take into account the
uncertainty of operating in the country that is unrelated to corruption. High inflation creates challenges in strategic
planning, forecasting of demand, and financing of operations.2 I also control for a country being an oil producer to take
into account the fact that natural resources will attract more FDI; this is particularly important for transition
economies.3 Finally, as discussed above, I use an indicator that the country is a transition economy to control for other
influences that transition economies have on FDI beyond corruption and other general controls.
Second, I control for the characteristics of the home country.4 I control for its size because large countries are the
main sources of FDI. I control for the level of corruption of the home country to take into account investors' familiarity
with corruption (Habib and Zurawicki, 2002). I control for other home country characteristics using dummy variables
(Wei, 2000a).
Third, I control for common characteristics between home and host country that affect FDI. I control for the
geographic distance between the countries, which indicates the existence of transportation costs that would discourage
trade and favor FDI (Linneman, 1966). This control is traditionally complemented with indicators that the country is
landlocked or an island and a common border between countries, as these characteristics affect transportation costs and
the likelihood of undertaking FDI (Frankel and Rose, 2002; Wei, 2000a). I control for cultural similarities using an
indicator of the existence of a common language between the home and host countries; this facilitates the transfer of
information across borders and FDI (Johanson and Vahlne, 1977). I control for similarities in administrative practices,
which facilitate FDI, using indicators of the existence of a previous colonial relationship (Ghemawat, 2001).
2.3. Method of analysis
I use a double-log model with quasi-fixed-effects and a one-year lag to analyze the data, as done by Wei (2000a). In
the double-log model I apply natural logs to the dependent variable (FDI) and the independent variable (GDP,
population, distance) to help make the error term close to homoskedastic (Wei, 2000a: 4). I use a quasi-fixed-effects
specification whereby I control for the home country using a dummy indicator for each country. I do not include
dummies for host countries because doing so would eliminate the possibility of estimating the impact of corruption on
FDI. The dependent variable is measured at the end of 1999, while the independent variables are measured one year
earlier to account for the time lag that occurs between the decision to invest and the actual FDI. Finally, because the
logarithms only take positive numbers, I use a Tobit specification (Maddala, 1983; Tobin, 1958).
To test Hypotheses 1a and 1b I use the following model specification:
Ln FDIijt = 1 Host country corruption jt-1 + 2 Host country transition economy j Host country corruption jt-1 +
Xijt-1 + ij
where 1 and 2 are the parameters of interest, Xijt-1 is a vector of the control variables, is a vector of other parameters,
and is the error term. Hypothesis 1a is supported if 1 is negative and statistically significant. Hypothesis 1b is
supported if 2 is positive and statistically significant while 1 continues being negative and statistically significant.
To test Hypotheses 2a, 2b, 3a, and 3b I use the following model specification:
Ln FDIijt = '1 Host country pervasive corruption jt-1 + '2 Host country arbitrary corruption jt-1 + '3 Host country
transition economy j Host country pervasive corruption jt-1 + '4 Host country transition economy j Host country
arbitrary corruption jt-1 + X'ijt-1' + 'ij

2
3
4

I thank the special issue editors for suggesting controlling for uncertainty.
I thank the anonymous reviewers for suggesting this control.
I thank the anonymous reviewers for suggesting these controls.

20

Table 2
Summary statistics and correlation matrix
Variable

2
6.842
1.552

3
5.005
2.286

4
3.658
1.546

3.515
0.453

25.299
1.894

16.320
1.467

11.381
8.498

9
2.404
0.688

10

8.846
14.903

0.776
0.417

11
0.290
0.454

12
26.082
1.834

13
4.213
2.397

14
7.860
0.997

15
0.331
0.532

16
0.254
0.476

17

18

19

0.059
0.235

0.154
0.361

0.046
0.210

1
0.222

0.275

0.315

0.027

0.524 0.077

0.376 0.382 0.487

0.290 0.009

0.135

0.466 0.032

0.287 0.817 0.353

0.487

0.221

0.435

0.136 0.061

0.008

0.380

0.239 0.273
0.223

0.355

0.307 0.019
0.332

0.038 +

0.093 0.055
0.178 0.228
0.026
0.162
0.084
0.015
0.068
0.039
0.046 +

0.125

0.870

0.605

0.195

0.093 0.307

0.160 0.382 0.009

0.171 0.341

0.063

0.056

0.478

0.059

0.121

0.599

0.372 0.218

0.857 0.114 0.421 0.330 0.403

0.090 0.042

0.006

0.042 +

0.274 0.061
0.437 0.039
0.008
0.024
0.008
0.038

0.185
0.031
0.146

0.038

Significance levels: +p b 0.1, p b 0.05, p b 0.01, p b 0.001.

0.030

0.049

0.033

0.044

0.067 0.129
0.253 0.174
0.037 + 0.047
0.015
0.026
0.122 0.119

0.041

0.021

0.091

0.180 0.016

0.033

0.026

0.031

0.010

0.054
0.081
0.209 0.241
0.152 0.035 +
0.008
0.007
0.048
0.017

0.171 0.127 0.109

1
1
0.098

0.056 0.155

0.030

0.051 0.157

0.012
0.035 + 0.222 0.163 0.042
1
0.052 0.117 0.442 0.144 0.004
0.201 1

0.099
0.044
0.102
0.116
0.140
0.277 0.170 1
0.007
0.022
0.024
0.016
0.115 0.439 0.090 0.130 1
0.026
0.129 0.119 0.046
0.108 0.134 0.013
0.002
0.220 1

0.095 0.015

0.101

0.098 0.091

0.128 0.105

0.095 0.050

0.125 0.440 1

A. Cuervo-Cazurra / Journal of International Management 14 (2008) 1227

Mean
Standard
deviation
1. Ln FDI
inflows
2. Host country
corruption
3. Host country
pervasive
corruption
4. Host country
arbitrary
corruption
5. Ln host
country
GDP PPP
6. Ln host country
population
7. Host country
GNI per capita
8. Host country
FDI limitations
9. Host country
inflation
10. Host country
oil producer
11. Host country
transition
economy
12. Ln home
country
GDP PPP
13. Home country
corruption
14. Ln distance
15. Landlocked
16. Island
17. Common border
18. Common
language
19. Colonial link

A. Cuervo-Cazurra / Journal of International Management 14 (2008) 1227

21

where '1, '2, '3, and '4 are the parameters of interest, X'ijt-1 is a vector of control variables, ' is a vector of other
parameters, and ' is the error term. Hypothesis 2a is supported if '1 is negative and statistically significant. Hypothesis
2b is supported if '2 is negative and statistically significant. Hypothesis 3a is supported if '3 is negative and
statistically significant while '1 is still negative and statistically significant. Hypothesis 3b is supported if '4 is
positive and statistically significant while '2 continues being negative and statistically significant.
3. Results
Table 2 presents the summary statistics and correlation matrix. High levels of correlation among the variables are as
expected, since many of the characteristics of a country (such as GDP and population) tend to correlate. This high level
of correlation is also found in other studies (Uhlenbruck et al., 2006).
Table 3 presents the results of analyzing the influence of corruption on FDI. Model 3a shows the analysis with only
the control variables. To compare with previous studies, Model 3b shows the analysis introducing the measure of level
of corruption in the host country. The coefficient of the level of corruption in the host country is negative and
statistically significant at the 0.01 level. This supports Hypothesis 1a and is in line with previous analyses. Corruption
does reduce FDI in the country because it increases the costs and uncertainty of operations.
Model 3c presents the results of introducing the interaction between host country corruption and host country
transition economy. This product captures the additional influence of corruption in transition economies on FDI,
beyond the general influence of corruption on FDI. The coefficient of this product is positive and statistically
significant, while the coefficient of host corruption is still negative and statistically significant. These results support
Hypotheses 1a and 1b. In other words, corruption in transition economies has a smaller negative influence on FDI than
corruption in other countries. The costs and uncertainty that corruption creates may be partially balanced out by
potential gains in terms of solving limitations of poorly developed institutional characteristics of transition economies.
Table 4 presents the results of the analysis of the influence of pervasive and arbitrary corruption on FDI. Model 4a
presents the results of the analysis with only the control variables. Model 4b provides the results of the analysis with the
measures of pervasive and arbitrary corruption. The coefficients of pervasive corruption and of arbitrary corruption are
Table 3
Results of the analyses of the impact of host country corruption on FDI inflows
Dependent variable: Ln of bilateral FDI inflows
Host country corruption
Host country transition economy
Host country corruption
Ln host country GDP
Ln host country population
Host country GNI per capita
Host country FDI limitations
Host country inflation
Host country oil producer
Host country transition economy
Ln home country GDP
Home country corruption
Ln distance
Landlocked
Island
Common border
Common language
Colonial link
Intercept
Chi2
N
Log likelihood

Model 3a

Model 3b

Model 3c

0.4142 (0.0702)

0.2342 (0.9039)
0.1355 (0.0957)
0.0008 (0.0106)
0.2826 (0.0587)
0.0007 (0.0029)
0.2084 + (0.1177)
0.2026 + (0.1063)
0.5375 (0.0646)
0.2262 (0.1575)
0.2972 (0.0467)
0.0215 (0.0959)
0.0550 (0.1446)
0.2542 + (0.1434)
0.5365 (0.1151)
0.0896 (0.2288)
12.3918 (1.9830)
903.23
1178
1776.5887

0.0629 (0.0294)
0.2638 (0.0939)
0.1369 (0.0955)
0.0006 (0.0128)
0.2521 (0.0603)
0.0001 (0.0029)
0.1691 (0.1189)
0.2134 (0.1062)
0.5356 (0.0639)
0.2245 (0.1591)
0.2993 (0.0466)
0.0625 (0.0976)
0.0420 (0.1444)
0.2444 + (0.1432)
0.5412 (0.1149)
0.0915 (0.2284)
12.6631 (1.9795)
916.75
1178
1756.2930

0.0908 (0. 0293)

0.1757 + (0.0937)
0.2468 (0.0960)
0.0003 (0.0126)
0.5078 (0.0736)
0.0017 (0.0029)
0.0606 (0.1187)
2.1932 (0.4211)
0.5449 (0.0630)
0.2137 (0.1568)
0.3129 (0.0460)
0.0102 (0.0968)
0.1310 (0.1431)
0.2559 + (0.1412)
0.4927 (0.1136)
0.0754 (0.2251)
11.6871 (1.9557)
951.06
1178
1739.1371

Dummy variable controls for the country of origin are included in the analysis but not reported.
Significance levels: +p b 0.1, p b 0.05, p b 0.01, p b 0.001.

22

A. Cuervo-Cazurra / Journal of International Management 14 (2008) 1227

Table 4
Results of the analyses of the impact of host country pervasive and arbitrary corruption on FDI inflows
Dependent variable: Ln of bilateral FDI inflows
Host country pervasive corruption
Host country transition economy
Host country arbitrary corruption
Host country transition economy
Host country pervasive corruption
Host country arbitrary corruption
Ln host country GDP
Ln host country population
Host country GDP per capita
Host FDI limitations
Host country inflation
Host country oil producer
Host country transition economy
Ln home country GDP
Home country corruption
Ln distance
Landlocked
Island
Common border
Common language
Colonial link
Intercept
Chi2
N
Log likelihood

Model 4a

Model 4b

Model 4c

0.6809 (0.2827)

1.0437 (0.2463)

0.0073 (0.0929)
0.5615 (0.0933)
0.0531 (0.0119)
0.1040 + (0.0563)
0.0126 (0.0026)
0.1953 (0.1232)
0.1801 + (0.1026)
0.3157 (0.0978)
0.1637 (0.1267)
0.3314 (0.0505)
0.0500 (0.0953)
1.2282 + (0.6325)
0.2171 (0.1397)
0.4146 (0.1260)
0.1096 (0.2467)
6.9478 (3.2402)
747.89
766
963.8100

0.1285 (0.0420)
0.6350 (0.0928)
0.2058 (0.0946)
0.7662 (0.0946)
0.0389 (0.0125)
0.1107 (0.0555)
0.0132 (0.0026)
0.2094 + (0.1193)
0.4672 (0.1393)
0.3040 (0.0947)
0.1696 (0.1366)
0.3977 (0.0501)
0.0924 (0.0933)
1.3763 (0.6125)
0.0872 (0.1368)
0.4206 (0.1222)
0.2549 (0.2403)
1.7470 (3.2184)
797.97
766
938.7737

0.1503 (0.0424)
0.8400 (0.1069)
0.2293 (0.0953)
0.8131 (0.0957)
0.0450 (0.0125)
0.1794 (0.0609)
0.0132 (0.0026)
0.2934 (0.1211)
0.5773 (0.1458)
0.3280 (0.0938)
0.1608 (0.1350)
0.4391 (0.0507)
0.2677 (0.1011)
1.3456 (0.6053)
0.0714 (0.1352)
0.4067 (0.1207)
0.2700 (0.2374)
1.4009 (3.1848)
816.78
766
929.3684

Dummy variable controls for the country of origin are included in the analysis but not reported.
Significance levels: +p b 0.1, p b 0.05, p b 0.01, p b 0.001.

negative and statistically significant, as expected. These results support Hypotheses 2a and 2b. Pervasive corruption,
which results in an increase in the costs of operating abroad, leads to a reduction in FDI. For its part, arbitrary
corruption, which results in an increase in the uncertainty of operating abroad, also discourages FDI.
Model 4c presents the results after adding the interactions between the indicator of host country transition economy
and the indicators of pervasive corruption and arbitrary corruption. The coefficients of pervasive corruption and arbitrary
corruption are still negative and statistically significant, supporting Hypotheses 2a and 2b, respectively. Additionally, the
coefficient of the product of pervasive corruption and host country transition economy is negative and statistically
significant. In contrast, the coefficient of the product of arbitrary corruption and host country transition economy is
positive and statistically significant. These results support Hypotheses 3a and 3b. In other words, both pervasive and
arbitrary corruption discourage FDI because they create additional costs and uncertainty for investors. However, in
transition economies, pervasive and arbitrary corruption have different influences. Pervasive corruption becomes a
known, unofficial cost of operating that foreign investors dislike, since they already have to deal with the additional costs
that arise from the lack of a well established institutional framework (Meyer, 2001a). These known costs may increase
the costs of operation to the point where it is not profitable to enter the country. As a result, investors are further
discouraged by pervasive corruption in transition economies beyond the general negative influence that pervasive
corruption has on FDI. Arbitrary corruption, in contrast, results in lower deterrence to foreign investors in transition
economies. Operating in a transition economy is more uncertain than operating in developed countries because the
institutions and rules are not well developed, applied, or both (Bevan et al., 2004). An investor that has decided to enter a
transition economy must be prepared to deal with the uncertainty created by poorly developed institutions. It may as well
be ready to deal with the additional uncertainty created by arbitrary corruption, thus not being discouraged by it.
The nature of these results is illustrated in Figs. 1 and 2. The figures should be interpreted with caution, however.
They illustrate the relationship of corruption and FDI, but do not take into account the influence of the controls. Fig. 1
illustrates the relationship between corruption and FDI. I computed the numbers in the figure using the coefficients of
corruption and of the product of corruption and the indicator of transition economies from Model 3c, multiplying each

A. Cuervo-Cazurra / Journal of International Management 14 (2008) 1227

23

Fig. 1. Level of corruption and FDI.

by the levels of corruption, which can take values from 1 to 10. In general terms, as the level of corruption in the
country increases, the amount of FDI in the country diminishes. In contrast, in transition economies, the negative
influence of corruption on FDI is compensated by an incremental positive influence. This positive relationship does not
mean that corruption in transition economies is good, however. The analysis of the relationship between type of
corruption and FDI reveals that this positive influence is not uniform.
Fig. 2 illustrates the relationship between pervasive and arbitrary corruption and FDI. As in Fig. 1, I computed the
numbers in the figure using the coefficients of pervasive and arbitrary corruption and the coefficients of the products of
transition economies with pervasive corruption and with arbitrary corruption that appear in Model 4c, multiplying each
by the level of arbitrary and pervasive corruption, which can take values from 1 to 6. The figure illustrates that as
arbitrary and pervasive corruption increase, the level of FDI in the country decreases. However, in transition
economies, the negative influence of pervasive corruption on FDI is further accentuated, while the negative influence
of arbitrary corruption on FDI is reduced by an incremental positive influence. Hence, corruption does not encourage
FDI in transition economies. Whereas arbitrary corruption appears to facilitate FDI, pervasive corruption acts as a large
barrier to FDI. Although illustrative, these figures should be interpreted with caution, especially with respect to

Fig. 2. Level of arbitrary and pervasive corruption and FDI.

24

A. Cuervo-Cazurra / Journal of International Management 14 (2008) 1227

arbitrary corruption. In transition economies, pervasive corruption can take values close to 6, but arbitrary corruption
does not take values above 4; the impact of arbitrary corruption on FDI is more limited than the effect of pervasive
corruption. Additionally, as I indicated before, the figures do not take into account other influences on FDI.
I run additional tests to check the robustness of these results.5 First, I checked whether the results are driven by
investments in the oil rich nations of Russia, Azerbaijan and Kazakhstan, but did not find evidence for this. These
three countries attract large amounts of FDI to exploit their natural resources, while they are viewed as having high
levels of arbitrary corruption. I checked whether investments in these countries show a different attitude towards
pervasive and arbitrary corruption than investments in other countries by introducing two additional variables in the
model, one that is the product of the indicator of Russia, Azerbaijan and Kazakhstan and the measure of pervasive
corruption, and another that is the product of the indicator of Russia, Azerbaijan and Kazakhstan and the measure of
arbitrary corruption. The coefficients of these products are negative and positive, respectively, but not statistically
significant. At the same time, the coefficient of the product of the indicator of transition economies and pervasive
corruption is negative, the coefficient of the product of the indicator of arbitrary corruption is positive, the coefficient
of pervasive corruption is negative, and the coefficient of arbitrary corruption is negative, all of them at statistically
significant levels below 5%. Investments in Russia, Azerbaijan and Kazakhstan do not show a different attitude
towards pervasive and arbitrary corruption.
Second, I checked whether outliers in the corruption data drive the findings, but did not find evidence for the
existence of outliers with high leverage. The indicators of pervasive and arbitrary corruption do not have countries with
extremely high or low levels that would bias the results. However, as I indicated before, the indicator of pervasive
corruption does come close to its maximum of 6, while the indicator or arbitrary corruption does not go beyond 4. The
findings, although statistically significant, should be interpreted with care.
Third, I analyzed whether correlation among independent variables is driving the results, that is, whether the
findings exist because of multicollinearity, but I found no sign of this. I ran additional analyses excluding variables to
check for changes in the significance of the coefficients (Greene, 2000). The analyses that exclude arbitrary corruption,
that exclude pervasive corruption, and that exclude transition economies continue to generate statistically significant
coefficients with the same sign for the variables that are not excluded.
Fourth, I analyzed whether round-tripping of FDI may affect the results identified; although there may be some
round-tripping in the data, it is not likely to bias the results. Round-tripping refers to domestic investors in transition
economies moving funds abroad, then investing back into their country of origin to take advantage of policies that
benefit foreign investors. In the case of transition economies in Europe, Cyprus tends to be a particularly important
source of round-tripping. However, the analyses already include a control for the home country that would address the
particularities of Cyprus or any other country as a source of FDI. Additionally, although Cyprus is a source of relatively
large levels of FDI going into Bulgaria and Russia, the main sources of FDI going into transition economies are
developed countries (USA, Germany, France, etc.). In sum, while not dismissing the possibility that there may exist
round-tripping of FDI, it does not appear to be sufficiently prevalent to bias the results.
Fifth, I studied whether the results are restricted to the year I study, but the analyses using other years yield similar
results. The results of the analyses with data for 1998 and 2000 are similar in sign, size and significance to the ones
reported for 1999. I can conclude that in transition economies in the late 1990s, corruption has a smaller negative
influence on FDI, pervasive corruption has a larger negative influence on FDI, and arbitrary corruption has a smaller
negative influence on FDI. These relationships may have changed now that some of the transition economies have
joined or are about to join the European Union, which is imposing improvements in the countries' institutions. This can
be explored in future studies; I do not have more recent data to test it.
4. Conclusions
In this paper, I studied the influence of corruption on FDI, paying particular attention to this influence in transition
economies. Existing literature has provided arguments for both a negative impact of corruption on FDI and also for a
positive one. Empirical studies have found mostly a negative impact, but a few studies do not find such a negative
influence. I presented one solution to this theoretical conflict by arguing that the impact of corruption on FDI depends

I thank the editors for suggesting these analyses.

A. Cuervo-Cazurra / Journal of International Management 14 (2008) 1227

25

on the characteristics of the economic system of the host country. I proposed that corruption has a negative impact on
FDI in developed economies because it increases the uncertainty and cost of operating in the country, but that this
negative impact may be compensated in transition economies because corruption enables the bypassing of inadequate
regulation and institutions.
Additionally, I argued that separating corruption into two types, pervasive and arbitrary, may provide further
insights into the relationship between corruption and FDI. I argued that each type will have a negative influence on
FDI, but in transition economies pervasive corruption will have an additional negative impact because of the creation of
additional costs of operating in the country, while arbitrary corruption will have less of a negative influence because
investors will not be sensitive to the additional uncertainty that arbitrary corruption creates, since the investors have
already decided to enter countries characterized by high uncertainty.
The empirical analysis reveals that corruption, pervasive corruption, and arbitrary corruption have a negative
influence on FDI. However, when I explore how these relationships differ in transition economies, I find that corruption
results in less of a negative influence on FDI in transition economies. This finding is further refined when I separate
corruption into different subtypes and find that pervasive corruption has a larger negative influence on FDI in transition
economies, while arbitrary corruption has a lower negative influence on FDI there. These findings point to the
importance of exploring in more detail the different types of corruption and also analyzing how corruption may vary in
its influence on FDI depending on the host country.
The empirical findings are subject to some limitations that emerge from the nature of the data. These limitations can
be addressed in future research. First, I have implicitly assumed a degree of homogeneity within investors from the
same country. Future research can analyze firm-level data to study differences among investors from the same country.
Second, I have assumed a degree of homogeneity in the industries of operation. Future research can explore how the
characteristics of the industry will affect the impact of corruption on FDI. Third, I have made a distinction between
pervasive and arbitrary corruption and used recently developed measures. Future research can explore how other types
of corruption influence FDI. Fourth, I have used the data available on FDI inflows at the UNCTAD and OECD. Future
research can explore how the results hold for other samples of countries, for example one that includes China, a country
with high levels of corruption that has received large FDI inflows.
The paper contributes to two streams of research: a thematic stream focusing on the impact of corruption on FDI,
and a theoretical stream that analyzes the influence of the institutional environment on the behavior of MNEs. With
respect to the first line of inquiry, the paper provides a better understanding of the relationship between corruption and
FDI by highlighting how differences among host countries affect this relationship. It presents a solution to the
theoretical discussion of whether corruption has a positive or negative impact on FDI by arguing that the influence
depends on specific characteristics of the host country. Additionally, the paper separates the costs and uncertainty of
corruption by distinguishing between pervasive and arbitrary corruption, and discusses how their influence on the
amount invested in the country differs according to the characteristics of the host country. It was found that the type of
corruption matters for FDI. Future studies will need to take into account how the characteristics of the host country
affect the impact of corruption and its types on FDI.
The paper also contributes to a research stream focusing on the impact of the institutional environment on the behavior
of MNEs. Studies of institutions have highlighted how good institutions help countries better develop and attract more
foreign investment (Bevan et al., 2004; Delios and Henisz, 2000). This paper goes deep into the lack of properly developed
institutions that corruption represents and highlights how these limit FDI coming into a country. Additionally, this paper
illustrates the need to separate among types of corruption, since they represent different aspects of corruption and have
different influences on FDI. Additionally, the paper highlights how, by analyzing transition economies, we can gain new
knowledge and refine or even create theories (Meyer, 2001b). The paper illustrates how the accepted idea that corruption
has a negative influence on FDI must be refined when studying transition economies, where this negative influence is
altered. The strong institutions that exist in developed countries are not necessarily present elsewhere, resulting in different
investor behavior.
The paper helps managers better understand how to deal with corruption abroad. It explains how the challenges of
operating in transition economies influence the overall difficulties of dealing with corruption abroad. It highlights to
managers that corruption creates additional costs and uncertainty in a foreign operation and thus limits the incentive to
invest. However, it also explains why, when investors have to choose between a known higher cost and an unknown
higher uncertainty, avoiding additional costs is likely to be preferred to avoiding additional uncertainty. It is easier to deal
with an unknown evil arbitrary corruption rather than a known one pervasive corruption.

26

A. Cuervo-Cazurra / Journal of International Management 14 (2008) 1227

Appendix A. Host countries analyzed

Host countries with availability of FDI data and the

corruption indicator from Transparency International

Host country transition economies with availability of FDI

data and the corruption indicator from Transparency
International
Host countries with availability of FDI data and pervasive
corruption and arbitrary corruption indicators from
World Business Environment Survey, World Bank

Host country transition economies with availability of FDI data

and pervasive corruption and arbitrary corruption indicators
from World Business Environment Survey, World Bank

Argentina, Armenia, Australia, Austria, Azerbaijan, Belgium, Bolivia,

Brazil, Bulgaria, Cameroon, Canada, Chile, Colombia, Costa Rica, Czech
Republic, Denmark, Ecuador, El Salvador, Estonia, Finland, France,
Germany, Guatemala, Honduras, Hungary, Iceland, Italy, Jamaica, Japan,
Kazakhstan, Korea, Kyrgyzstan, Lithuania, Macedonia, Malawi, Mauritius,
Mexico, Mongolia, Morocco, Mozambique, Netherlands, New Zealand,
Nicaragua, Norway, Paraguay, Peru, Poland, Portugal, Russia, Slovakia,
Slovenia, Spain, Sweden, Switzerland, Tanzania, Tunisia, Turkey, Uganda,
UK, Uruguay, USA, Uzbekistan, Venezuela, Zimbabwe
Armenia, Azerbaijan, Bulgaria, Czech Republic, Estonia, Hungary,
Kazakhstan, Kyrgyzstan, Lithuania, Macedonia, Mongolia, Poland,
Russia, Slovakia, Slovenia, Uzbekistan
Argentina, Armenia, Azerbaijan, Belize, Bolivia, Brazil, Bulgaria,
Cameroon, Canada, Chile, Colombia, Costa Rica, Czech Republic,
Dominican Republic, Ecuador, El Salvador, Estonia, Ethiopia, France,
Germany, Guatemala, Haiti, Honduras, Hungary, Italy, Kazakhstan,
Kyrgyzstan, Lithuania, Malawi, Mexico, Nicaragua, Panama, Peru,
Poland, Portugal, Russia, Slovakia, Slovenia, Spain, Tanzania, Trinidad
and Tobago, Tunisia, Turkey, Uganda, UK, Uruguay, USA, Uzbekistan,
Venezuela, Zimbabwe
Armenia, Azerbaijan, Bulgaria, Czech Republic, Estonia, Hungary,
Kazakhstan, Kyrgyzstan, Lithuania, Poland, Russia, Slovakia,
Slovenia, Uzbekistan

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