ABSTRACT
There are various aspects of Indonesia that can be offered to tourists, including beautiful nature, rich culture, relaxing spas, tasty local food and many more. Millions of foreign tourists come into the country annually and it is increasing every year. Tourism industry has become an important part of the economy. Consequently, the government highly encourages foreign direct investment (FDI) to help this industry grow even more. However, there has not been much empirical research on the nexus between FDI in tourism industry (TFDI) and economic growth, especially in the case of Indonesia. This research gap is important to be filled since concepts can be misleading without support from actual data. Therefore, this research examines the effect of TFDI on economic growth with the inclusion of three absorptive capacities, which are human capital, trade openness and financial market development. It is imperative to find out whether TFDI actually benefits the host country’s economy, particularly due to the efforts the government has exerted to draw foreign investment in. The data are taken from 2000 to 2019 covering 20 years and analysed using least squares regression. Data from 2020 is not included in the analysis due to the COVID-19 pandemic. The tourism industry is certainly hit hard by the pandemic and therefore data after COVID-19 spread in Indonesia is an anomaly. Since it is a global crisis that cannot be solved easily nor quickly, it should not be included in the analysis to avoid getting misleading results. The results show that TFDI exerts significant negative effect on economic growth unless its interaction term with financial market development is introduced into the equation. It shows that it is dangerous for the government to simply encourage TFDI without paying close attention to the development of the local financial market. This is an interesting finding since absorptive capacities have been analysed in the case of aggregate FDI but rarely used in sectoral FDI. This research found that supporting factor is crucial for TFDI in Indonesia as it changes the effect from significant negative to significant positive. Therefore, without its presence, TFDI can damage the local economy instead of fostering it. The government should not only focus on attracting foreign investors but also work on improving local conditions to ensure benefits from foreign investors can be felt locally. Researchers can explore sectoral FDI further by including more absorptive capacities. Limitations of this research include limited data, indicators and research methodology used. These limitations can be used as directions for future research. In addition, researchers should explore a wider variety of indicators to better represent the economic variables, such as using quality focused human capital proxy instead of quantity focused.
