The Role of Trade Openness in Shaping the Relationship Between Foreign Direct Investment and Income Inequality

Abstract

Foreign direct investment (FDI) and trade openness are key elements of economic globalization, but their impact on income inequality is ambiguous. This study aims to explore the impact of FDI on income inequality and the moderating effect of trade openness among countries. A quantitative longitudinal research design was used with 992 country-year observations from 58 countries for 1990–2024. Secondary macroeconomic data were analysed with descriptive statistics, Pearson correlation analysis, pooled ordinary least squares regression, fixed-effects panel models and interaction-based moderation analysis. The results indicated that there was no statistically significant relationship between FDI and the level of income inequality in the main regression specifications. The pooled regression showed a significant negative association while the two-way fixed-effects model showed a positive association between trade openness and inequality. A simultaneous statistical effect of FDI and trade openness was not found (β = 0.000207, p = 0.409), suggesting that the relationship between FDI and trade openness was not consistent enough. In the case of control variables, a positive significant relationship was found between inflation and income inequality, and between financial development and income inequality, while other variables were not statistically significant. Robustness assessments showed differences in model specification and alternative measures of inequality. The study finds that the distributional consequences of globalization are tied to the general economic environment, suggesting the need for policies to be inclusive, financial access to be just and social protection measures to be complementary to these policies.