Effect of exchange rate misalignments on foreign direct investment in Sub-saharan Africa

This paper empirically analyzes the effect of the nature of exchange rate misalignment on FDI in Sub-Saharan Africa (SSA) over the period 1998–2018 using the random effects model and the GMM method in system. The behavioral exchange rate model (BEER) was used to determine the nature of its misalignments. The results showed that the nature of misalignment is an important determinant of FDI in SSA with a symmetric and negative effect between undervaluation and overvaluation of the REER on FDI. Overvaluation of the REER leads to a decline in FDI inflows from SSA countries in the same proportion as the increase in FDI inflows from undervaluation. Thus, FDI inflows to SSA are caused in Granger’s sense by the misalignment of the exchange rate. This causality is bidirectional for countries with flexible exchange rates. To achieve this, it is fundamental for SSA countries to: (i) adopt good management of the exchange rate, particularly undervaluation of the REER, to attract FDI, which is a guarantee of industrial development and economic growth in this zone; (ii) avoid overvaluation of the exchange rate, which represents a tax on exports for firms and a factor that discourages foreign investors.