Foreign Direct Investment

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Foreign Direct Investment

• Business Management

University of Ulster
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Foreign Direct Investment

• FDI - acquisition of a controlling interest in a
  domestic enterprise by foreign capital owners
• Multinational Enterprise (MNE) is the main agent
  of FDI
• Involves the transfer of financial capital,
  technical know-how, marketing skill, managerial
  skill and financial expertise

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FDI strategies

• Establish a subsidiary plant
• Take over
• Joint venture
• Licensing agreement

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FDI

• Stronger and longer term investment than
  portfolio investment
• Responds to a long term assessment of the
  potential returns
• Account is taken of future growth, tax policy,
  trade and currency regimes, labour costs,
  political stability, environmental factors and
  regulations, incentives

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Trends

• Measurement
• Stocks of inward and outward investment
• Flows of inward and outward investment
• Flows tend to fluctuate more than stocks
• Direction of net flows can change from year to
  year

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Major Investors

• US, EU Japan
• Stock of out investment grown rapidly in recent
  years
• Countries with high out stock tend to have a high
  level of in stock also Japan?
• Flows industrialised countries provide a
  significant share of out investment fluctuate
  significantly Asian economies, China, Eastern
  Europe

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FDI trends

• Increasing liberalisation of controls over
  foreign ownership
• Prominence of services - faster growth rates
  represent almost 50 of total in stock includes
  banking, insurance, airlines, tourism,
  distribution and telecommunications

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Going International

• Export from home base
• Export agency
• Licence
• Joint Venture/ strategic alliance
• Merger or Take over
• Subsidiary
• Latter three gt FDI decision over the mode of
  control

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Dunnings Theory3 sets of conditions

• Ownership advantages
• Locational advantages
• Internalisation advantages

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Ownership Advantages

• Special monopoly advantage - proprietary
  knowledge, trade-mark, brand name, patent, access
  to raw material, access to customers or potential
  EOS or EO scope -cannot be replicated by other
  firms
• Competitive advantages

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Location Advantages

• Stress the importance of locational factors for
  attracting foreign MNEs to a host country
• Labour costs/ industrial relations climate
  availability of skilled labour transport
  communication costs RD capability size of
  access to domestic market government incentives/
  tax policy cultural similarities

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Internalisation Advantages

• Based on theories of the firm developed by R.H.
  Coase 1937
• Transaction cost economics
• There must be some market failure which impedes
  the sale of O.A. to a local bidder
• I.A. often arise in knowledge based industries

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Internalisation

• Bidder needs knowledge
• gtGiving away the family jewels
• Only solution is to set up a wholly owned
  subsidiary keep control
• EOS or scope or reputation can only be realised
  if the firm produces the good itself
• Legal system

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Transactions Costs

• Whenever transactions such as establishing a
  relevant price through licenses can be carried
  out more cheaply within the firm than through the
  market gt internalisation
• Max. Profit gt internalising markets within the
  organisation

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Effects of FDI

• Package of growth enhancing attributes
• Static Gains - basic model
• Dynamic gains
• MNCs generate externalities MNCs
  create more jobs/ save jobs Tax revenues
  - transfer pricing Foreign
  exchange