The Interactive Relationship between Regional Trade Integration and Foreign Direct Investment

Economic integration among countries has continued to deepen over the past decade. This is especially visible at the regional level, with the escalation of Regional Integration Agreements (RIAs) ranging from Free Trade Areas (FTAs) to Customs Unions (CUs). Nowadays, many developing countries have entered a new regional integration agreement with developed and developing countries. Since international trade and Foreign Direct Investment (FDI) are generally recognized as the two main channels of economic integration, the common question is whether international trade and FDI act as complements or substitutes. This paper tries to examine the interaction between trade integration and FDI in Iran, and provide an empirical assessment of the complementarity or substituting relationship between trade and FDI. We consider Iran bilateral trade as integration variable, with selected countries in EU, ASEAN, ECO and D8, by using 2SLS estimators within the period 1994–2014. Results indicate that the bilateral manufacturing export and foreign direct investment have a significant direct relationship with each other in Iran. Also, economic similarities with ECO and D8 have higher effect on both export and FDI.