Location factors of FDI and the growing services economy 1 Evidence for transition countries Aleksandra Riedl* , ** *Department of Economics, Vienna University of Economics and Business, Nordbergstraße 15, A-1090 Vienna, Austria. E-mail: aleksandra.riedl@wu.ac.at **CESifo, Poschingerstr. 5, 81679 Munich, Germany Abstract Foreign direct investment (FDI) has increasingly shifted toward the service sector. This change in the industrial composition of FDI and the non-tradable nature of ser- vices may have altered the importance of location factors for investment decisions. To capture potential changes in FDI determinants, a contrasting sectoral analysis is performed. Based on FDI stock data from eight new EU member states for the per- iod 1998–2004, we implement a dynamic panel approach allowing the speed of adjustment to the equilibrium investment level to vary across sectors. Results sup- port our assumption that investment into the service sector, which is characterized by low installation costs, adjusts much faster to its desired level than manufactur- ing FDI. Thus, government interventions to attract FDI are likely to boost the ser- vice sector immediately while having a slower impact on manufacturing FDI. Furthermore, as services are mostly non-tradable, FDI into this sector is largely based on market-seeking motives while FDI in the manufacturing sector is also dri- ven by international price competitiveness measured by real unit labour costs. Received: July 24, 2009; Acceptance: December 21, 2009 1 The author thanks Christian Bellak, Markus Leibrecht, Christian Beer and an anonymous referee for help- ful suggestions and comments and Markus Overesch and Sascha Sardadvar for data provision. She also gratefully acknowledges the financial support from the Austrian Science Fund for the subproject SFB 112008. Economics of Transition Volume 18(4) 2010, 741–761 DOI: 10.1111/j.1468-0351.2010.00391.x Ó 2010 The Author Journal compilation Ó 2010 The European Bank for Reconstruction and Development. Published by Blackwell Publishing Ltd, 9600 Garsington Road, Oxford OX4 2DQ, UK and 350 Main St, Malden, MA 02148, USA