The Turkish economy is the 16th largest economy in the world and the 6th largest economy compared with the EU countries. On the other hand the European origin foreign capital has increasingly showed interest to Turkey. EU firms’ interest to Turkey is evident from their high share in the total foreign direct investment since 2004. Nevertheless the FDI level is far behind the expectations for a country, negotiating for a membership with the Union. Possible reason could be an existing psychic distance between Turkey and European Union. According to the Uppsala School, psychic distance can be expressed as: “the sum of factors preventing the flow of information from and to the market. Examples are differences in language, education, business practices, culture, and industrial development” (Johanson and Vahlne, 1977, p. 24). Despite numerous factors being included in the definition of the Swedish school, literature has focused on the use of indices of cultural differences almost exclusively. Several authors have criticised this approach underlining that cultural distance can only be considered as one of the components of the broader and more complex concept of psychic distance.
Building on the provided definition of psychic distance, most studies have traditionally claim that risk and transaction costs are increased by different barriers to learning about the host market and the higher possibility of mistakenly understanding its specific idiosyncrasies and environment. In consequence, it is likely that higher psychic distance will reduce the intensity of investment between the home and host countries.
However, Tung and Verbeke (2010) highlight that researchers should avoid the trap of thinking that higher distance systematically engender negative outcomes. In fact, a positive relation between the psychic distance stimuli and inward FDI is also possible. This can happen when a more positive or neutral reception is given by nationals to individuals from culturally distant countries (Carr et al. 2001). Also, distance can help firm to develop new capabilities or access to talent not available in closer countries. Finally, a greater distance can also positively influence FDI when the primary motivation for it is to reduce costs following an “efficiency-seeking approach” and investors understand that distance as a lower cost of factors. Our aim is to disentangle which psychic distance dimensions play a role as a FDI attractor and which can be considered an obstacle for the inward Turkish FDI flows coming from the EU:
In order to be able to analyze the impact of psychic distance on inward Turkish FDI flows, we will rely on the individual stimuli of psychic distance suggested by Dow and Karunaratna (2006) in education, in industrial development, in language, in degree of democracy, in political ideology and in religion. We apply dynamic panel estimation techniques.