FDI and product and process innovation of SMEs in Vietnam: The role of institutions

Abstract Conceptually, institutional arrangements in the host economy are likely to moderate the effect of inward FDI on domestic firms' product and process innovation, which is however not well explored empirically. Filling the gap, this research investigates how such FDI impacts are contingent upon local institutional arrangements, using survey data of 2690 manufacturing SMEs in Vietnam in 2011, 2013 and 2015. We find that institutional quality exerts positive moderating effects on FDI spillovers. That is, higher institutional quality leads to a higher marginal effect of FDI presence on the innovation performance of domestic SMEs. The moderating effects are stronger for developed‐country FDI than for developing‐country FDI. We also distinguish different institutional components and find that seven out of nine institutional sub‐indices have significant moderating effects, of which the control of corruption is the most important factor in promoting FDI spillovers, whilst the effects of business support and labour training policies are negligible.