Foreign Direct Investment Foreign Direct Investment n

Foreign Direct Investment

Foreign Direct Investment n n Foreign investment that establishes a lasting interest in or effective management control over an enterprise. Foreign direct investment can include buying shares of an enterprise in another country, reinvesting earnings of a foreign- owned enterprise in the country where it is located, and parent firms extending loans to their foreign affiliates. International Monetary Fund (IMF) guidelines consider an investment to be a foreign direct investment if it accounts for at least 10 percent of the foreign firm's voting stock of shares. However, many countries set a higher threshold because 10 percent is often not enough to establish effective management control of a company or demonstrate an investor's lasting interest.

Why Enter Foreign Markets? n Increased Profits and Sales n Enter new markets n New market creation n n Preferential Trading Arrangements n n Larger markets Faster-Growing Markets n n n GDP per capita Consumer support Government support Improved Communications n n Easier to oversee Supplement work done domestically

Why Enter Foreign Markets? n Obtain greater profits n n Greater revenue Reduced costs n n Spread out fixed costs Economies of scale Higher profits Test markets

Why Enter Foreign Markets? n Protect Markets, Profits, and Sales n Protect domestic market n Follow customers overseas n n Follow main accounts Attack competitors’ home markets n Using foreign production to lower costs n n In-bond industry (maquiladora) n Impact Caribbean Basin Initiative Growth Triangles Export Processing Zones

Why Enter Foreign Markets? n Protect Foreign Markets n n n n Lack of foreign exchange Local production by competitors Downstream markets Protectionism Guarantee supply of raw materials Acquire technology and management experience Geographic diversification Satisfy management’s desire

Multidomestic or Global? n n n Usual flow for exporting and investment Why more standardization? Seven dimensions n n n n Product Market Promotion Where value added Competitive strategy Use of non-home country personnel Extent of global ownership

Economic Growth n n n Quantitative change or expansion in a country's economy. Economic growth is conventionally measured as the percentage increase in gross domestic product (GDP) or gross national product (GNP) during one year. Economic growth comes in two forms: an economy can either grow "extensively" by using more resources (such as physical, human, or natural capital) or "intensively" by using the same amount of resources more efficiently (productively). When economic growth is achieved by using more labor, it does not result in per capita income growth. But when economic growth is achieved through more productive use of all resources, including labor, it results in higher per capita income and improvement in people's average standard of living. Intensive economic growth requires economic development.

Trends in FDI Flow and stock increased in the last 20 years n In spite of decline of trade barriers, FDI has grown more rapidly than world trade because n n n Businesses fear protectionist pressures FDI is seen a a way of circumventing trade barriers Dramatic political and economic changes in many parts of the world Globalization of the world economy has raised the vision of firms who now see the entire world as their market

The Direction of FDI n Historically, most FDI has been directed at the developed nations of the world as firms based in advanced countries invested in other markets n n The US has been the favorite target for FDI inflows While developed nations still account for the largest share of FDI inflows, FDI into developing nations has increased n Most recent inflows into developing nations have been targeted at the emerging economies of South, East, and Southeast Asia

FDI Flow by Region

Does Fact = Theory? n n Gross fixed capital formation summarizes the total amount of capital invested in factories, stores, office buildings, etc. SO… n This makes FDI a crucial determinant factor of increased future growth rate of an economy n …RIGHT? ? ?

Costs of FDI to Host Countries n Adverse effects on competition n Adverse effects on the balance of payments n n n After the initial capital inflow there is normally a subsequent outflow of earnings Foreign subsidiaries could import a substantial number of inputs National sovereignty and autonomy n Some host governments worry that FDI is accompanied by some loss of economic independence resulting in the host country’s economy being controlled by a foreign corporation

The Free Market View Nations specialize in goods and services that they can produce most efficiently n Resource transfers benefit and strengthen the host country n Positive changes in laws and growth of bilateral agreements attest to strength of free market view n All countries impose some restrictions on FDI n

Pragmatic Nationalism FDI has benefits and costs n Allow FDI if benefits outweigh costs n Block FDI that harms indigenous industry n Court FDI that is in national interest n n n Tax breaks Subsidies

REGIONAL DEVELOPMENT IMPLICATIONS OF FDI n Post Communist Eastern Europe, e. g. Czech Automotive Components n Foreign direct investment (FDI) has been accorded a central role in the post -communist economic transformation of Central and Eastern Europe. n Regional effects of FDI in Central Europe (Czech Republic, Hungary, Poland Slovakia) in the 1990 s. n Defining FDI’s role in regional economic transformations n n Intensification of Uneven Development of a Dual Economy Failure to Develop Linkages with Local and Regional Economies Contributionto Increased Regional Economic Instability

Legal Institutions and FDI n Debate over relationship between legal institutions and foreign investment flows n Traditional/orthodox view: legal institutions play a crucial role in the process of market-oriented development n by protecting private rights, especially the property and contract rights of foreign investors n By creating the legal foundations for market-oriented reform

GOALS n Investor experience suggests that: n A conventional program of market-oriented legal reform is NOT a prerequisite foreign investment n n Legal institutions play a small, if any, role in determining the initial decision to invest n n Try to Identify Why! WHY? ? ? The form and content of useful law, as well as the significance of law generally, seem to depends on the details of the project and the setting n What are the constants that can be identified in “Success stories? ”