Foreign Direct Investment A Prerequisite to Economic Growth?
Foreign Direct Investment • 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. • http://www.worldbank.org/depweb/ english/beyond/global/glossary. html
Economic Growth • 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 (see Chapter 4). 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. • http://www.worldbank.org/depweb/ english/beyond/global/glossary. html
Trends in FDI • Flow and stock increased in the last 20 years • In spite of decline of trade barriers, FDI has grown more rapidly than world trade because • 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 • Historically, most FDI has been directed at the developed nations of the world as firms based in advanced countries invested in other markets • 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 • Most recent inflows into developing nations have been targeted at the emerging economies of South, East, and Southeast Asia
Does Fact = Theory? • Gross fixed capital formation summarizes the total amount of capital invested in factories, stores, office buildings, etc. • SO… • This makes FDI a crucial determinant factor of increased future growth rate of an economy • …RIGHT???
Costs of FDI to Host Countries • Adverse effects on competition • Adverse effects on the balance of payments • 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 • 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
Political Ideology and FDI Radical View Pragmatic Nationalism Free Market
The Radical View • Marxist view: MNE’s exploit less-developed host countries • Extract profits • Give nothing of value in exchange • Instrument of domination, not development • Keep less-developed countries relatively backward and dependent on capitalist nations for investment, jobs, and technology
The Radical View • By the end of the 1980s radical view was in retreat • Collapse of communism • Bad economic performance of countries that embraced the radical view • Strong economic performance of countries who embraced capitalism rather than the radical view
The Free Market View • Nations specialize in goods and services that they can produce most efficiently • Resource transfers benefit and strengthen the host country • Positive changes in laws and growth of bilateral agreements attest to strength of free market view • All countries impose some restrictions on FDI
Trinidad and Tobago, a recipient of substantial FDI inflows in its natural gas • http://ideas.repec.org/p/dgr/unuint/200307.html • Lou Anne A. Barclay • FDI inflows in its natural gas industry for the last decade • FDI-assisted development only occurs when governments in less-developed economies pursue credible, selective intervention policies
Pragmatic Nationalism • FDI has benefits and costs • Allow FDI if benefits outweigh costs • Block FDI that harms indigenous industry • Court FDI that is in national interest • Tax breaks • Subsidies
REGIONAL DEVELOPMENT IMPLICATIONS OF FDI • Post Communist Eastern Europe, e.g. Czech Automotive Components • Foreign direct investment (FDI) has been accorded a central role in the post-communist economic transformation of Central and Eastern Europe. • Regional effects of FDI in Central Europe (Czech Republic, Hungary, Poland and Slovakia) in the 1990s. • Defining FDI’s role in regional economic transformations • Intensification of Uneven Development • Development of a Dual Economy • Failure to Develop Linkages with Local and Regional Economies • Contributionto Increased Regional Economic Instability • Petr Pavlínek • http://eur.sagepub.com/cgi/reprint/11/1/47.pdf#search=%22FDI-Economic%20Development%22
Legal Institutions and FDI • Debate over relationship between legal institutions and foreign investment flows • Traditional/orthodox view: legal institutions play a crucial role in the process of market-oriented development • by protecting private rights, especially the property and contract rights of foreign investors • By creating the legal foundations for market-oriented reform
GOALS • : Investor experience suggests that: • A conventional program of market-oriented legal reform is NOT a prerequisite for foreign investment • Try to Identify Why! • Legal institutions play a small, if any, role in determining the initial decision to invest • 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 • What are the constants that can be identified in “Success stories?”