Journal of International Development J. Int. Dev. 17, 311–317 (2005) Published online in Wiley InterScience (www.interscience.wiley.com). DOI: 10.1002/jid.1196 FDI AND POLLUTION: A GRANGER CAUSALITY TEST USING PANEL DATA ROBERT HOFFMANN, 1 * CHEW-GING LEE, 1 BALA RAMASAMY 1 and MATTHEW YEUNG 2 1 Nottingham University Business School, The University of Nottingham, Nottingham, UK 2 School of Business, Open University of Hong Kong, Hong Kong Abstract: This study reports the findings of Granger causality tests on the relationship between FDI and pollution across 112 countries over 15–28 years. Our results uncover alternative causality relationships between the two variables depending on a host country’s level of development. Copyright # 2005 John Wiley & Sons, Ltd. 1 INTRODUCTION There is a host of studies linking environmental pollution and inward foreign direct investment (FDI) across a number of developing as well as developed countries (Eskeland and Harrison 1997; Wheeler, 2000; Letchumanan and Kodama, 2000; Beladi et al., 1999; Talukdar and Meisner, 2001; Smarzynska and Wei, 2001). Several alternative economic rationales supporting relationships between the two variables have been proposed in the literature. According to the pollution haven hypothesis, weak environmental regulation in a host country may attract inward FDI by profit-driven companies eager to circumvent costly regulatory compliance in their home countries (Jensen, 1996). Secondly, according to the pollution halo hypothesis, in applying a universal environmental standard, multi- nationals engaging in FDI will tend to spread its greener technology to their counterparts in the host country (Birdsall and Wheeler, 1993; Zarsky, 1999). Finally, a scale effect would arise to the extent that multinational FDI operations would significantly contribute to a host nation’s industrial output and in turn overall pollution level (Zarsky, 1999). Despite these clear theoretical arguments, empirical work designed to test these hypotheses has so far not been able to provide conclusive results (Smarzynska and Wei, 2001). For instance, while some studies find in favour of the pollution haven hypothesis (Mani and Wheeler, 1997; Xing and Kolstad, 1996), others uncover no supporting Copyright # 2005 John Wiley & Sons, Ltd. *Correspondence to: R. Hoffmann, Nottingham University Business School, The University of Nottingham, Nottingham, UK. E-mail: Robert.Hoffmann@nottingham.ac.uk