"International Sanctions and Cross-Border Investments: A Country-Level Analysis of FDI Reallocation"

Abstract: This study examines the direct and indirect effects of sanctions on foreign investment flows and addresses the possibility that sanctions reallocate capital between sanctioning and sanctioned states, as well as with neutral countries. Gravity analysis of FDI flows in a 199-country sample from 2003 to 2022 reveal that, on average, sanctions significantly decrease the incidence and value of greenfield investments between sanctioning states and their targets. The number of mergers and acquisitions by sanctioning states in targets decrease after sanctions while the total value of those investments is not significantly affected. The effects of sanctions vary considerably depending on the type of activity restricted. Export restrictions, for instance, lead to an increase in greenfield investments by sanctioning state firms in the target country, suggesting that higher trade costs prompt firms to substitute FDI for exports. Import restrictions result in more M&A activity by the sanctioning state firms into target countries, likely as a strategy to circumvent sanctions by acquiring capital in the target country, creating an export platform, and rerouting trade through connector countries back to the sanctioning state. This study also explores how the effects of sanctions on foreign investments vary by duration, the degree of coordination with other countries, and the influence wielded by sanctioning states and their targets.