CAUSAL LINKS BETWEEN FDI AND GROWTH 21 On the Causal Links Between FDI and Growth in Developing Countries Henrik Hansen and John Rand University of Copenhagen and Development Economics Research Group (DERG), Copenhagen 1. INTRODUCTION HE inflow of foreign direct investment (FDI) increased rapidly during the Tlate 1980s and the 1990s in almost every region of the world revitalising the long and contentious debate about the costs and benefits of FDI inflows. On one hand many would argue that, given appropriate policies and a basic level of development, FDI can play a key role in the process of creating a better economic environment. On the other hand, potential drawbacks do exist, includ- ing a deterioration of the balance of payments, as profits are repatriated having negative impacts petition in national markets. At present the consensus seems to be that there is a positive association between FDI inflows and eco- nomic growth, provided that receiving countries have reached a minimum level of educational, technological and/or infrastructure development. However, as in many other fields of development economics, there is not universal agreement about the positive association between FDI inflows and economic growth. Even if one accepts the positive association there is still the question of caus- ality. Does FDI cause (long-run) growth and development or do fast-growing economies attract FDI flows as panies search for new market and profit opportunities? Theoretically, neither of the links can be ruled out and this is probably the reason why the causality issue has been the topic of so many recent studies. As documented in Section 2, at least six studies precede our study, and it is reasonable to ask if there is a need for yet another look at causality between FDI and growth in developing countries. We aim to contribute to the existing literature in three dimensions. First of all we take a close look at the model specification. This is moti