Journal of World Business 39 (2004) 233–243

Strategic factors affecting foreign direct investment decisions

by multi-national enterprises in Latin America
Len J. Treviñoa,*, Franklin G. Mixon Jr.b
a
Department of Management and Decision Sciences, Washington State University, Pullman, WA 99164-4736, USA
b
Department of International Business and Economics, Box 5072, The University of
Southern Mississippi, Hattiesburg, MS 39406-5072, USA

Abstract

Cross-country differences in macroeconomic and institutional environments are used to explain MNE behavior, as proxied by
foreign direct investments (FDIs) inflows to seven Latin American countries, namely Argentina, Brazil, Chile, Columbia,
Mexico, Peru and Venezuela for the period 1988–1999. Results indicate that the institutional approach is dominant, thus
supporting recent FDI research that has included statistical measures of institutional reform in their models. Since MNEs must
conform to the institutional environment prevailing in the host country, managers should undertake FDI where there is minimal
institutional distance between the home and the host country environments. In addition, government officials should place
increased emphasis on institutional reform if their objective is to increase inward FDI in their countries. Finally, any assistance
provided by non-governmental organizations, such as the IMF and the World Bank, should also emphasize institutional reform.
# 2004 Elsevier Inc. All rights reserved.

1. Introduction countries acknowledge that they need outside capital

The opening of markets in developing countries in
recent years has brought with it burgeoning foreign
direct investment (FDI) flows. In the 1990s, FDI
became the largest single source of external finance
for developing countries. By 1997, FDI accounted
for about half of all private capital and 40% of total
capital flows into developing countries. In the past,
governments in many developing countries often saw
multinational enterprises (MNEs) as part of the devel-
opment problem, due to assertions of exploitation of
the environment and of the labor force. At present,
MNEs are seen as part of the development solution for
several reasons. First, governments in developing
*
Corresponding author. Tel.: þ1-509-335-7850;
fax: þ1-509-335-7736.
E-mail address: trevino@wsu.edu (L.J. Treviño).
to achieve their development objectives, partly because
industrial nations have stabilized foreign aid and devel-
opment loans. Second, export-oriented FDI brings
relief from rampant foreign exchange shortages. Third,
recognizing that reversal of portfolio investment is less
costly, a fact that exacerbated recent financial crises in
a number of developing countries, governments now
prefers FDI (UNCTAD, 1999). Fourth, host-country
governments recognize that MNEs have access to
resources other than capital, that can assist with their
development (such as technology, management and
access to foreign markets). Recognizing the long-term
costs of failure to integrate their economies into the
global environment, developing countries have opened
up their markets in order to attract more FDI.
There are numerous theories that have been
advanced to explain this phenomenon. The macroe-
conomic approach (Aliber, 1970; Froot & Stein, 1991;

1090-9516/$ – see front matter # 2004 Elsevier Inc. All rights reserved.
doi:10.1016/j.jwb.2004.04.003
234 L.J. Treviño, F.G. Mixon Jr. / Journal of World Business 39 (2004) 233–243
Grosse & Trevino, 1996) emphasizes why net invest-
ment among pairs or groups of nations tends to flow in
certain patterns. This theory attempts to explain FDI
behavior with macroeconomic variables, such as infla-
tion, national income and exchange rate behavior.
With developing countries undertaking market
reforms and becoming more receptive to FDI,
researchers have begun to apply institutional theory
from the strategic management literature (Kennedy &
Sandler, 1997; Trevino, 1999; Trevino, Daniels, &
Arbelaez, 2002) to understand this phenomenon. Insti-
tutional theory emphasizes the influences of systems
surrounding organizations that shape organizational
behavior and decision making (Scott, 1995). As such,
it attempts to explain the organization–environment
interface. According to Hoskisson, Eden, Lau, and
Wright (2000), the role of institutions in an economy is
to reduce transaction and information costs by redu-
cing uncertainty and by establishing a stable structure
that facilitates interactions. Empirical research using
an institutional theoretical approach has emphasized
the study of political risk, bilateral investment treaties,
foreign investment and trade regulations, and capital
markets liberalization in an attempt to explain FDI.
Although both of these approaches have been
employed separately (Grosse & Trevino, 1996; Meyer,
2001) and together (Trevino et al., 2002), no effort has
been made to determine the individual importance
relative to each. This paper fills that void by presenting
hypotheses concerning these two approaches. The
empirical results support the superiority of the institu-
tional construct, thus lending credence to recent stu-
dies that have employed institutional theory to explain
FDI into developing and transitional economies (Tre-
vino et al., 2002).
Latin America is a useful region for our study
because Latin American and Caribbean countries
receive a significant portion of FDI inflows going to
developing countries (UNCTAD, 1999). In addition,
debt crises in this region resulted in reduced FDI
inflows during the first half of the 1980s, after which
they began a steady increase, partially resulting from
macroeconomic and institutional liberalization poli-
cies. Although institutional reform has taken place in
almost all countries of the region, Latin American
countries’ liberalization policies, market reforms and
inflows of FDI have varied cross-sectionally and over
time. The seven countries examined in the current
study were Argentina, Brazil, Chile, Colombia, Mex-
ico, Peru, and Venezuela. Combined, they account for
over 85% of FDI in Latin America.
2. Foreign direct investment in Latin America:
a brief history
Foreign direct investment in Latin America has a
long history, often dating back to the 19th century.
Early FDI was primarily export-oriented and/or driven
by MNEs seeking natural resource supplies. Import
substitution industrialization in the post-WWII era led
to a shift in FDI toward manufacturing for domestic
consumption. Lacking foreign exchange in the 1980s,
many governments in Latin America began to open up
their markets in a return to export-oriented FDI.
Foreign direct investment in Argentina was preva-
lent from the late 19th century until the beginning of
WWII. It was initially sought to improve the trans-
portation infrastructure. However, the post-WWII era
produced nationalist economies throughout most of
Latin America and, in the case of Argentina, the closed
nationalistic economy continued until the late 1980s,
culminating in macroeconomic dislocation. This eco-
nomic and institutional landscape led to capital flight
and ultimately to market reform, characterized by
trade openness, deregulation and privatization. These
reforms led to increased FDI flows. The foundation of
Argentina’s economic transformation was the Con-
vertibility Law, a currency board implemented in
1991. Other important elements included trade liberal-
ization, privatization, tax reform, and deregulation
(Petrocella & Lousteau, 2001). In the beginning of
the 1990s, the vast majority of FDI flows came in the
form of privatizations. After 1993, FDI flows increas-
ingly took place in the private sector.
The role that FDI plays in the modern Brazilian
economy is different than that which it played in
previous eras. Prior to WWII, FDI was concentrated
in public utilities, including transportation, in the
primary goods export economy, and in banking, with
a small percentage in the manufacturing sector. Simi-
lar to Argentina, post-WWII FDI flows shifted to
manufacturing as part of an import substitution indus-
trialization strategy. In the 1990s, the role that FDI
played changed considerably. Brazil adopted institu-
tional and macroeconomic reforms, partially designed
 L.J. Treviño, F.G. Mixon Jr. / Journal of World Business 39 (2004) 233–243
to stimulate FDI. Elements of these reforms included
establishment of the real plan, privatization of state-
owned enterprises, and implementation of the Merco-
sur free trade area. It has been estimated that of the
world’s 500 largest corporations, 400 have invest-
ments in Brazil (Baer & Rangel, 2001), making Brazil
a major source of investment for MNEs and empha-
sizing the importance of Brazil to the strategy of major
MNEs.
Chile’s history of FDI is similar to that of other
Latin American countries, having shifted from invest-
ment in infrastructure development and primary
products to a post-WWII import substitution indus-
trialization policy and, more recently, to manufactur-
ing. Although Mexico is known for being one of the
earliest countries in Latin America to undertake
macroeconomic and institutional reforms, primarily
because of the publicity surrounding NAFTA, Chile
was the first Latin American country to liberalize its
foreign investment regulations. Decree Law 600 was
promulgated in 1974 and it liberalized tax codes,
repatriation restrictions, and the foreign exchange
market. The country’s market reform policies appear
to have been effective because Chile received over $7
billion in FDI inflows between 1987 and 1994
(Ramirez, 2001). Continuing with institutional
reform, the June 6, 2003 signing of a Chile–U.S.
free-trade agreement established clear and transparent
rules for foreign investors, including an open system
for dispute settlement.
Although Colombia’s history of FDI parallels that
of other Latin American countries, liberalization did
not take place as a reaction to an economic or foreign
exchange crisis, or at the beginning of a political
administration. Nevertheless, radical reforms were
implemented between 1990 and 1994. These included
dramatic tariff reductions, liberalization of trade and
foreign exchange transactions, and financial and capi-
tal markets reform. Although Colombia had fewer
state-owned enterprises than other Latin American
countries, in the early 1990s, some of the banks the
government had absorbed in the financial crisis of the
early 1980s were reprivatized, and the government’s
stake in the automobile manufacturing sector was sold
(Birch & Halton, 2001).
Mexico, along with Chile, was one of the first
countries to abandon import substitution industriali-
zation in favor of an open, market-oriented model that
235
culminated with the passage of NAFTA. Although
Mexico’s FDI history is similar to that of other Latin
American countries, its recent past differs substan-
tially in that FDI has flowed primarily to newly created
firms in the maquiladora sector along the U.S. border.
In other countries, FDI funds have been primarily
channeled to traditional sectors, such as mining and
energy. The impetus to change Mexico’s FDI policy
can be traced to the country’s desperate need for
foreign exchange following the 1982 debt crisis. Ele-
ments of market reform included opening of markets
previously closed to foreigners, privatization, dereg-
ulation, national treatment and, of course, NAFTA
(Ramirez, 2001).
Peru began to open its doors to external capital in
the early 1990s, somewhat later than other Latin
American countries. In an economy fraught with
populist regimes, foreign debt crises, and political
and economic instability, Peru had been effectively
closed to FDI. However, since 1991, macroeconomic
and institutional changes included the introduction of
a free market policy, the deregulation of prices, the
adoption of monetary and fiscal control measures
(designed to reduce inflation), and privatization
(Rojas, 2001). All of these elements sent clear signals
that Peru wanted to become a member of the global
marketplace. Like other countries in the region, pri-
vatization has led to increased FDI flows in Peru.
Oil has defined Venezuela and its FDI regime for
over a century. In 1991 and 1992, after a number of
technological and financial failures, the state oil com-
pany, Petroleos de Venezuela, signed 11 letters of
intent with transnational oil companies interested in
pumping crude. Recently, the combination of severe
economic crisis, coupled with foreign currency
restrictions, has pushed Venezuela farther from
reforms. The country’s desperate need for foreign
capital continues to conflict with its historical desire
to exercise sovereignty over its natural resources.
3. Literature review of macroeconomic
variables
For developing countries to compete for FDI
inflows, they must implement macroeconomic poli-
cies designed to reduce inflation, stabilize the
exchange rate and increase the GDP of the host
236 L.J. Treviño, F.G. Mixon Jr. / Journal of World Business 39 (2004) 233–243
country. With market-oriented economies in Latin
America effectively in operation for little more than
a decade, instability of prices, employment and output
would be expected. A high rate of inflation is a sign of
internal economic instability and of a host govern-
ment’s inability to maintain expedient monetary pol-
icy. From the MNE’s viewpoint, high inflation creates
uncertainty regarding the net present value of a costly,
long-term investment. For these reasons, companies
may avoid making investments in countries with high
inflation. Studies published before Latin American
countries made significant reforms (Schneider & Frey,
1985) as well as those published after reforms were
enacted (Trevino et al., 2002) confirmed that compa-
nies invested less in developing countries with high
inflation rates.
The value of a country’s currency may be under-
mined by monetary policy or by economic upheaval.
Currency devaluation may result from such policy
changes, and foreign investors must incur costs to
prevent transaction and translation losses when host
country currencies depreciate. Thus, ceteris paribus, a
constant real exchange rate is preferred by MNEs in
order to reduce the exchange rate risk inherent with
investment in a foreign country. Another perspective
suggests that currency under (over)valuation is an
example of market disequilibrium. A currency may
be defined as undervalued when, at the prevailing rate
of exchange, production costs for tradable goods are,
on average, lower than in other countries. In this case,
MNEs would be inclined to locate production of
internationally traded goods in countries with under-
valued currencies and to purchase foreign production
capacity with overvalued foreign exchange (Froot &
Stein, 1991; Grosse & Trevino, 1996; Klein &
Rosengren, 1994). From an additional perspective,
the apparent under(over) valued exchange rate based
on a firm’s production costs (i.e., wages for a labor-
abundant country) denotes that the country has a
comparative advantage in producing the product
and MNEs would be inclined to locate a plant within
that host country.
The demand-side of FDI theory argues that invest-
ment will go primarily to markets large enough to
support the scale economies needed for production.
This reasoning helps to explain why most FDI goes
to developed countries rather than to developing
countries (Grosse & Trevino, 1996), given that most
investment historically has been market seeking.
Investment in developing countries has been in
response to import substitution policies. Although
Tuman and Emmert (1999) used GDP as a surrogate
for market size and found it to be insignificant in
explaining FDI among Latin American countries,
more recently Trevino et al. (2002) found that GDP
was a significant and positive indicator of FDI flows in
Latin America. Further, UNCTAD (1994) concluded
that market size was the primary determinant of FDI.
4. Literature review of institutional variables
Institutional theory in the strategic management
literature suggests that institutions provide the rules
of the game that structure interactions in societies and
posits that organizational action is bound by these
rules (North, 1990). Within this realm lies political
risk, which may be defined as the risk that a host
country government will unexpectedly change the
institutional environment within which businesses
operate (Butler & Joaquin, 1998). From a financial
perspective, political risk may alter operating cash
flows via discriminatory policies and regulations.
MNEs may deal with political risk by avoiding the
risk altogether, by buying insurance, or by negotiating
with the governing body prior to investment. Although
previous studies reached mixed conclusions about the
effect of political risk on FDI (Grosse & Trevino,
1996; Kobrin, 1979; Tallman, 1988), we expect a
country with high political risk to be less appealing
to foreign investors.
Capital markets are responsible for mobilizing and
allocating capital and for apportioning risk. It is
beneficial when a host country ensures that capital
flows to its most optimal use and is allocated for
economic, rather than for political reasons. In order
for developing countries to attract FDI, they must
attempt to enforce a capital allocation system with
strict and transparent rules and regulations. At the
same time, they should not exert excessive control
over capital account transactions, such as via
exchange-rate controls and/or repatriation or foreign
ownership restrictions. In an effort to spur internal
development, many Latin American countries have
enacted capital market reform. If governments main-
tain strict control over capital transactions, such as via
 L.J. Treviño, F.G. Mixon Jr. / Journal of World Business 39 (2004) 233–243
foreign exchange controls and restrictions on FDI,
then MNEs may be reluctant to invest due to fears
about restrictions on new capital formation, divest-
ment and repatriation.
Latin American countries, like their counterparts in
other regions of the world, have been privatizing
government-owned companies. The primary reason
is that many of these companies operated inefficiently
under government ownership. These governments
believe they can reduce their fiscal expenditures
because they will no longer need to subsidize
money-losing operations. In addition to signaling a
more favorable investment climate, governments can
receive tax revenue from them if they become profit-
able. From the MNE’s perspective, the potential for
cost savings by transferring technology and manage-
ment capabilities to the privatized firm is often present
because most of these companies operated ineffi-
ciently under government ownership. Recent studies
of privatization in Latin America (Devlin & Comi-
netti, 1994; Hartenek, 1995; Trevino et al., 2002)
concluded that privatization has helped to attract
FDI to the region.
5. Modeling FDI within the macroeconomic and
institutional frameworks
Eq. (1) presents a test of the macroeconomic
and institutional theories:
FDI ¼ b1 RERT þ b2 CPIPC þ b3 GDPC þ b4 CALI
þ b5 PRIV þ b6 PRSK þ e: (1)
In Eq. (1) FDI represents inward FDI for the seven
Latin American countries under study for the period
1988–1999. RERT is the real exchange rate of Latin
American currencies at year-end, per U.S. dollar.
CPIPC represents the annual percentage change in
consumer prices in the host country’s currency. GDPC
is the host country’s per-capita gross domestic pro-
duct, in U.S. dollars. CALI is the degree of the host
country’s control over capital account transactions on
an annual basis. PRIV is the value of domestic priva-
tizations (less FDI) in each country. Lastly, PRSK is
each host country’s political risk rating. See the ‘‘Data
Sources and Descriptions’’ at the end of this study for
data sources and a more detailed description of the
variables.
237
Based on the discussion in the previous two sec-
tions, we expect that:1
b1 ¼ ?
b2 < 0
b3 > 0
b4 > 0
b5 > 0
b6 > 0
Table 1 presents the findings of an OLS estimation
of Eq. (1).2 The six regressors are jointly significant in
explaining FDI across countries/time. They produce a
sizable R-square for panel data. In four of five cases,
our expectations are borne out regarding the signs of
the variables. In the case of CPIPC (i.e., the unex-
pected sign), the parameter estimate is not significant
at any conventional level. Parameter estimates for
RERT, GDPC, and PRSK all are significant at the
0.05 level. These results support recent findings by
Trevino et al. (2002). Lastly, Eq. (1) passes a speci-
fication error F test (RESET)—failing to reject the
null hypothesis of ‘‘no specification error’’—at the
0.10 level.3
1
This study uses the political risk measure published by
Institutional Investor (various issues), where a higher number
indicates more political stability. Although we expect a negative
relationship between political risk and FDI, this would show up as a
positive coefficient in the equation. Data sources for the other
variables in Eq. (1) are provided below in a separate section.
2
As Table 1 notes, we used 56 observations in our regressions.
For some variables (years), we had missing data. Specifically,
observations on CALI and PRSK cover the period 1988–1995,
those on GDPC and CPIPC cover the periods 1988–1997 and
1988–1998, respectively, while those on RERT and PRIV cover the
period 1988–1999. We selected all the observations at our disposal
where there were no missing data for any of our variable series.
This selection process facilitated the tests of non-nested hypotheses
we detail below.
3
We use the standard RESET procedure from Ramsey (1969).
First, predicted values for FDI are obtained from the OLS model.
These predicted values are squared and cubed, and enter equation
one as additional regressors (Gujurati, 1988). A RESET F statistic
of 1.651 (2, 48 df) is produced regarding the joint significance of
these two additional regressors. The insignificance of the F statistic
fails to reject the hypothesis of ‘‘no specification error’’ in the base
regression model. Ramsey’s RESET is a useful test for detecting
many types of specification error, such as omitted variables,
irrelevant variables, nonlinearity, and errors in measurement
(Gujurati, 1988; Kmenta, 1986).
238 L.J. Treviño, F.G. Mixon Jr. / Journal of World Business 39 (2004) 233–243

Table 1 6. Macroeconomic and institutional theories of

Summary of OLS and LSDV regression results dependent variable:
FDI: is either dominant?
FDI

OLS LSDV In order to discern the relative importance of the

Constant 
2.365.02 (1.67) 8.737.99 (1.39) macroeconomic and institutional theories of FDI,
RERT 28.63 (2.01) 5.62 (0.39) additional empirical testing is necessary. Following
CPIPC 0.07 (0.25) 0.15 (0.77) Maddala (1992: 514–518), we re-specify the two
GDPC 0.50 (2.10) 2.32 (1.67) empirical approaches to FDI as Eqs. (2) and (3):
CALI 4.114.34 (2.36) 785.18 (0.40)
PRIV 0.30 (1.78) 0.23 (1.59) H0 : FDI ¼ bXM þ u0 ; (2)
PRSK 83.29 (2.95) 208.80 (3.43)
H1 : FDI ¼ dZIR þ u1 : (3)
Country dummies
Brazil 5.997.70 Again, FDI represents inward FDI for the seven Latin
Chile 10.990 American countries under study for the period 1988–
Columbia 13.723
1999, XM is the vector of the three macroeconomic
Mexico 4.846
Peru 7.669.54 determinants (along with the country dummies) of
Venezuela 9.265.72 FDI, and ZIR is the vector of the three institutional
No. of observations 56 56
variables (along with the country dummies) under
F statistic 5.01 9.53 consideration. The separate hypotheses in Eqs. (2)
Adjusted R2 0.304 0.651 and (3) above are said to be non-nested given that
neither Eq. (2) nor Eq. (3) can be obtained from the
Notes. The numbers in parentheses above are t values. For the
country dummies, t values are not presented to conserve space, other by imposing a restriction (Kennedy, 1998). That
though significance levels are included. is, each equation has variables not included in the

Denotes significance at the 0.10 level. other (Davidson & MacKinnon, 1993; Kmenta, 1986;

Denotes significance at the 0.05 level. Ramanathan, 1998). It is often the case that there are

Denotes significance at the 0.01 level.
competing theories that attempt to explain the same
dependent variable, and the explanatory variables in
the different theories are non-overlapping. Maddala
Because heterogeneity or country effects are very (1992) suggests the use of various joint test (J tests)
common in panel data, we also employ fixed effects, procedures for testing the ‘‘competing’’ theories, but
least squares dummy variable (LSDV) approach to notes that one ‘‘limitation of [these] test[s] is that
modeling Eq. (1). This approach tests for a common [they] sometimes . . . reject both H0 and H1 or accept
constant intercept term by including a dummy variable [both] H0 and H1’’ (Maddala, 1992: 516). For the
series for our seven Latin American countries. In our purposes of this study, Maddala’s concerns are not
specification, Argentina serves as the omitted country. relevant. We follow the novel use of J tests in Mixon
Results from the LSDV model also are presented in and Gibson (2001), where ‘‘complementarity’’ of
Table 1. The LSDV results mirror those of the OLS theories was tested, rather than ‘‘competitiveness,’’
version in terms of the signs for CALI and PRSK. and their J test finding that both H0 and H1 were
CPIPC retains its expected sign in the LSDV model, accepted supported that contention. We also note that
though not in the OLS specification. However, GDPC the models in Eqs. (2) and (3) are not necessarily
and PRIV retain anomalous signs in the LSDV spe- competing theories, however they are non-nested and
cification, though neither is better than marginally the tests suggested by Maddala (1992) may discover
significant in the LSDV column. PRSK is statistically the dominant source of FDI.
different from zero, as are most of the country dummy The procedure for testing H0 (the maintained
coefficients. In fact, a joint F test on the significance of hypothesis) against H1 is as follows: Eq. (3) is esti-
the set of country dummies produces a test statistic of mated by LSDV and the predicted values of FDI are
9.305 ([6, 44] df), suggesting that the LSDV model be obtained (predFDIIR). Eq. (4) below is then estimated:
used instead of the OLS to determine the relative
importance of each FDI theory. FDI ¼ bXM þ aðpredFDIIR Þ þ v: (4)
 L.J. Treviño, F.G. Mixon Jr. / Journal of World Business 39 (2004) 233–243
The hypothesis that a ¼ 0 is tested. If this hypothesis
is not rejected, then H0 is not rejected by H1. If the
hypothesis is rejected, then H0 is rejected by H1. A test
of H1 (as the maintained hypothesis) against H0 is
based on analogous steps, and examines the statistical
significance of l (where l is the counterpart to a). The
results are presented in Table 1 as the ‘‘Davidson–
MacKinnon J tests’’ (Davidson & MacKinnon, 1981;
MacKinnon, 1983). The results indicate that the insti-
tutional model significantly ‘‘adds to’’ the macroeco-
nomic model in explaining inward FDI in Latin
American countries. This result supports the conten-
tion that recent empirical considerations of various
measures of institution building have been beneficial
and that empirical use of these broad concepts has
added to our understanding of the determinants of
FDI. On the other hand, the J test for H1 vs. H0 fails to
indicate that the macroeconomic model significantly
‘‘adds to’’ the institutional model. In fact, the coeffi-
cient for l is negative (i.e., 0.402).
Maddala (1992) explains that J tests are, in small
sample cases, sometimes less rigorous than traditional
F tests. He concludes, what ‘‘. . . all this suggests is
that in testing non-nested hypotheses, one should use
the J test with higher significance levels and supple-
ment it with the F test on the comprehensive model
. . .’’ (Maddala, 1992: 518).
F tests are performed by comparing an unrestricted
model with all six regressors and the country dummies
to the two models in Eqs. (2) and (3), each of which is
restricted to three regressors and the country dummies.
Unlike the one-degree-of-freedom J tests, the F tests
reported in Table 2 are based on the error sum of
squares (ESS) from LSDVestimation and represent [3,
44] degrees of freedom. Our F tests, as did the J tests
Table 2
Tests of non-nested hypotheses (H0 ¼ macroeconomic model;
H1 ¼ institutional model)
Davidson–MacKinnon
J tests
Test of H0 over H1 
1.249 (4.50)
Test of H1 over H0 0.402 (0.89)
Notes. The numbers in parentheses above are t values for the J tests
regression parameters. The F statistics above reflect tests with [3,
44] df.

Denotes significance at the 0.01 level.
239
above, employ the same data panel as the OLS and
LSDV regressions reported in Table 1.
The F statistics in Table 2 support the conclusion of
the J tests. That is, while institutional theory adds to
macroeconomic theory in explaining FDI, macroeco-
nomic theory fails to statistically extend institutional
theory in this regard. This finding lends support to
newer studies that have examined the relationship
between institutional reform and FDI (see Hoskisson
et al., 2000; Trevino et al., 2002).
7. FDI decisions by MNEs in Latin America in
response to institutional reform
The relationship between capital markets liberal-
ization in Latin America and the expansion strategies
of international banks into the region is one example
of FDI decisions made by MNEs in response to
institutional reform. Although policies introduced in
Latin America over the last two decades have differed
from country to country, internal reforms can be
segmented into two phases. In the first phase, interest
rates were allowed to be determined by market forces,
instead of by fiat, and financial resources were allo-
cated on the basis of supply and demand. During the
first phase of reforms, banks were invited to operate in
markets in which they did not have prior access. These
included areas such as leasing and factoring, broker-
age underwriting and pension fund management. With
economies of scale and scope becoming an increas-
ingly important factor to foreign banks, the ability to
operate in these areas was seen as increasingly impor-
tant to their plans to globalize operations. In the
second phase, banks were required to maintain more
conservative capital to asset ratios, to impose more
stringent requirements on loans, and to provide more
uniform and transparent information to governing
bodies. The financial reforms enacted during the
1990s openly encouraged the entry of foreign banks
into Latin America. The second phase of reforms
F tests created a regulatory environment similar to that of
7.222 international banks’ home country environments, in
1.098 the process creating a more certain investment climate
and opening the door for foreign banks to operate in
the local market. Capital markets liberalization, thus,
helped to create an environment with appropriate
institutions and removed the entry barriers for foreign
240 L.J. Treviño, F.G. Mixon Jr. / Journal of World Business 39 (2004) 233–243
banks, enabling them to expand into Latin America
and to gain an increasingly large market share in the
region (ECLAC, 2003).
One example of a multinational bank that has made
significant inroads into Latin America in the post-
reform era is Citigroup, one of the world’s largest
financial institutions. In fact, it is the largest bank in
Latin America, based on share of regional lending
(ECLAC, 2003). Although Citigroup has had a pre-
sence in Latin American for well over a century, its
presence was largely limited to corporate and private
banking services. This strategy was due in large part to
its awareness of institutional weaknesses in Latin
America that led to the debt crises of the 1980s and
1990s, and ultimately to institutional reform. The
bank’s strategy shifted abruptly in 2001, when it moved
full force into consumer banking with the well-pub-
licized $12.5 billion acquisition of Mexico’s Banamex-
Accival financial group. This was the single largest FDI
transaction in Latin America to date. Citibank’s bold
shift in strategy allowed it to gain control of over 25%
of consumer and corporate banking in Mexico. Citi-
bank’s FDI decision making in Latin America is
directly related to the liberalization and deregulation
of international financial markets in the region.
Although Citigroup has made significant inroads
into Latin America, two Spanish banks’, Banco San-
tender Central Hispano (SCH) and Banco Bilbao
Vizcaya Argentaria (BBVA), expansion strategies in
the region have been even more aggressive. Their
initial strategy was to become a force in consumer
banking, which had shed itself of most institutional
controls and that was seen as having the greatest
growth potential. Both of these Spanish banks went
on a buying spree in Latin America during the time
when first and second generation reforms were imple-
mented. Between 1997 and 2002, SCH made 26
acquisitions valued at over $13 billion in all of the
countries that we studied, in addition to Bolivia and
Paraguay. During the same timeframe, BBVA made 12
acquisitions valued at over $6 billion in six of the
seven countries that were the focus of this study in
addition to an investment in Uruguay. Spanish banks’
acquisition strategies in Latin America can be traced
to liberalization policies within the European Union
because these internal liberalization policies pushed
European banks into expansionist modes to gain
economies of scale. Coupling the need to globalize
operations resulting from liberalization policies within
the European Union with institutional reform in Latin
America, SCH’s and BBVA’s international expansion
in Latin America was a natural outcome.
Institutional reform was initiated in the early 1990s
in much of Latin America in response to shortcomings
in many sectors, including a lack of public funds for
investment and gaps in technology. During this time-
frame, governments introduced reforms designed to
attract foreign private capital. Although reforms took
place in many sectors, nowhere is this policy more
evident than in the telecommunications sector. In the
early years of reform, many Latin American countries
privatized their public telecommunications companies
and allowed unprecedented foreign participation,
attracting large investments and substantial improve-
ments in the telecommunications infrastructure.
It was not long before the impact of privatization
programs in Latin America was realized, with Tele-
fonica of Spain making its presence felt in the region
early on. In 1991, it became part of a consortium led
by GTE Corporation (now Verizon Communications)
that became majority owner of Telefonos de Vene-
zuela, with a nearly $2 billion investment. Shortly
thereafter, Telefonica of Spain expanded its Latin
American operations, investing another $2 billion to
acquire a 40% stake in two Peruvian companies,
Empresa Nacional de telecommunicaciones, a domes-
tic and international long distance monopoly, and
Compania Peruana de Telefonos, the local telephone
company of Lima, the country’s capital. The two
companies subsequently merged to form Telefonica
de Peru, and in 2000 Telefonica of Spain gained
complete control of this company with an investment
of over $3 billion. Telefonica of Spain is a prime
example of a MNE that has responded to privatization
reform and it has consolidated its position as a leading
provider of fixed and mobile telephony in both Vene-
zuela and Peru. In Peru, it has retained its dominant
position, but in the larger market of Venezuela, it has
faced considerable competition due to liberalization of
the mobile market combined with the expansionist
strategy of Bell South.
Institutional reform and privatization in the region
has attracted other international investors into Peru
and Venezuela, such as Bell South of the United
States. Bell South responded to Latin America’s desire
for increased FDI in telecommunications and, as such,
 L.J. Treviño, F.G. Mixon Jr. / Journal of World Business 39 (2004) 233–243
it has become the leading provider of mobile tele-
phone services in Venezuela and Colombia and num-
ber two in Peru. In fact, Bell South’s Venezuelan
subsidiary has captured nearly 60% of the market
and plans to invest an additional $1.5 billion by
2005 (ECLAC, 2003). More recent acquisitions made
by Bell South in response to concessions made by the
Colombian government include a $300 million stake
in Celumovil, a mobile telecommunications company
operating in 6 of Colombia’s 10 largest cities. This
investment, coupled with the acquisition of Compania
Celular de Colombia, for which it paid over $400
million, gave Bell South the largest share of the
Colombian mobile telecommunications market
(ECLAC, 2003). In Peru, where privatization of the
telecommunications sector has been more liberal than
in Colombia, Bell South bought Tele 2000, a multi-
service telecommunications company, initiated its
own fiber optics network in the country and introduced
the Bell South brand. The Bell South example high-
lights MNEs’ FDI strategic decision making in Latin
America in response to host governments’ privatiza-
tion strategies designed to attract FDI.
Institutional reforms introduced in Latin American
countries in the early 1990s were swift and decisive
and the MNE strategic response was predictable. As a
result of institutional reform in the region, the Per-
uvian government estimates that it has received over
$4 billion in private investment in the telecommunica-
tions industry between 1997 and 2001 and that addi-
tional agreements have been signed with Telefonica of
Spain and with AT&T of the United States worth
another $5 billion. Similarly, over $5 billion in private
capital flowed into the telecommunications industry in
Venezuela between 1997 and 2001.
8. Managerial implications
Most agree that the economies of developing coun-
tries are inextricably tied to MNEs and private invest-
ment. In addition, it has been shown that MNEs can
enhance their own bottom line by investing even in the
poorest economies of the world (Prahalad & Ham-
mond, 2002). While earlier explanations of FDI were
dominated by economic theories, more recently insti-
tutional theory and institutional distance (i.e., the
extent of similarity between the regulatory, cognitive
241
and normative institutions of two countries) provide
alternate and complementary explanations for MNE
behavior (see Kostova & Zaheer, 1999; Trevino et al.,
2002; Xu & Shenkar, 2002). In this paper, we use
cross-country differences in macroeconomic and insti-
tutional environments to explain MNE behavior, prox-
ied by FDI inflows to seven Latin American countries.
Because it is well established that in order to survive,
MNEs must conform to the institutional environment
prevailing in the host country (DiMaggio & Powell,
1991), firms should understand the level of macro-
economic and institutional reform that has taken place
in proposed host countries, such as those in Latin
America. To assist in this understanding, managers of
MNEs could develop and/or apply separate statistical
indices comprising macroeconomic and institutional
information for proposed host countries. Empirical
results presented here suggest that managers should
take particular care to examine host country institu-
tional environments (reforms), and a longitudinal data
base (of indices for individual countries) could be
useful to managers in formulating FDI strategies.
These indices could go well beyond those institutional
factors examined here. For instance, aspects of labor
market law—an important consideration in Brazil—
could be indexed to supplement information on poli-
tical risk and other institutional factors.
Our results may also prove useful to public admin-
istrators in proposed host countries, as well as to
administrators and decision-making boards of interna-
tional development agencies around the world. Given
the statistical dominance of institutional theory in our
model, government officials and politicians should
place greater (lesser) emphasis on institutional reform
(macroeconomic conditions) in order to attract greater
levels of inward FDI. This refocusing of effort would
likely exhibit a higher marginal productivity given the
greater scope for political/public influence on a coun-
try’s institutional framework rather than its macroeco-
nomic environment (Barro, 1997, 1999). Additionally,
our results also indicate that administrators and advi-
sory boards of public agencies that are involved with
international development efforts, such as UNCTAD,
the International Monetary Fund and The World Bank,
should also consider a similar refocusing of effort.
Many of these agencies often are preoccupied with
assisting LDCs in producing macroeconomic policies
that are helpful with economic development. Our
242 L.J. Treviño, F.G. Mixon Jr. / Journal of World Business 39 (2004) 233–243
results suggest that any assistance provided by either
the IMF or the WB should, perhaps, be geared toward
institutional reform. Not only does institutional theory
appear to dominate macroeconomic theories concern-
ing MNE’s decision to locate outward FDI, these public
lending enterprises have a vested interest in assuring
that the marginal productivity of their own assistance
efforts is increased.
Acknowledgments
The authors thank two anonymous referees of this
journal, Frank Hoy, and Kamal Upadhyaya for helpful
comments.
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