1. Costs and Benefits of Foreign Direct Investment
Day2 Session 1
Costs and Benefits of Foreign Direct Investment

2. Political Ideology and FDI
Radical
View
Free
Market
Pragmatic
Nationalism

3. Radical View Marxist roots. Influential from 1945 to the 80s. Failure.
An instrument of imperialist domination.
Exploit host country for the benefit of the MNE.
Keeps less developed countries relatively backward and dependent on capitalist nations for investment, jobs, and technology.
Influential from 1945 to the 80s.
Eastern Europe, China, Cuba, some African countries, Iran, and India.
Failure.
Collapse of Communism.
Poor economic performance.
Strong economic performance of countries embracing capitalism.

4. Free Market View Roots in Smith and Ricardo.
International production should be distributed among countries according to the theory of competitive advantage.
Positive changes in laws and growth of bilateral agreements attest to strength of free market view.
However, all governments, to some degree, intervene in the free market.

5. Pragmatic Nationalism
View FDI as having both benefits and costs.
Governments tend toward FDI when benefits versus costs are high.
Aggressively court FDI that has national interest ramifications, typically through tax breaks or grants.
Technology.
Employment.
Balance of payment benefits.

6. Political Ideology Toward FDI
Characteristics
Host-Government Policy
Implications
Radical
Free
Market
Pragmatic
Nationalism
Marxist roots
Views the MNE as an
instrument of imperialist
domination
Prohibit FDI
Nationalize subsidiaries of
foreign-owned MNEs
Classical economic roots (Smith)
Views the MNE as an
instrument for allocating
production to most efficient
locations
No restrictions on FDI
Views FDI as having both
benefits and costs
Restrict FDI where costs
outweigh benefits
Bargain for greater benefits
and fewer costs
Aggressively court beneficial
FDI by offering incentives
Table 7.1

7. Benefits of FDI to Host Countries
Resource-Transfer
Effects
Management
Capital
Technology
Employment
Direct
Indirect
Balance-of-Payments

8. FDI and Balance-of-Payments
Current Account Deficit occurs when imports are greater than exports.
Current Account Surplus occurs when exports are greater than imports.
Capital Account records transactions that involve the purchase or sale of assets.
3 B-of-P Consequences:
When MNE establishes its foreign subsidiary, the host country benefits from initial capital inflow.
If the FDI is a substitute for imports, it improves the host country’s balance of payments.
Subsidiary is used for exports.

9. Effect on Competition and Economic Growth
FDI can:
Increase market competition.
Lower prices.
Greater consumer choice.
Stimulate capital investments.
Increase:
Productivity.
Product/process innovation.
Economic growth.

10. Costs of FDI to Host Countries
Adverse Effects on
Competition
on the
Balance of
Payments
Sovereignty
and
Autonomy
Drive out
local
competitors
Earnings &
imports hurt
capital
account
Key economic
decisions made
by ‘foreigners’

11. Benefits and Costs of FDI to Home Countries
Inward
flow of
earnings
Creates
export
demand
Increased
knowledge
Balance of
Payments
hurt
Potential
reduction
in home
country
employment
Initial
capital
outflow
Sells
back to
home
market
Substitute
for
exports

12. International Trade Theory and FDI
Home-country concerns about offshore production may be misplaced.
Offshore production refers to FDI undertaken to serve the home market.
May increase employment by freeing home country resources to concentrate on activities where the home country has a competitive advantage.
May lead to lower prices for consumers.

13. Government Policy Instruments and FDI
Home Country Policies
Encourage Outward FDI
Government backed risk insurance.
Government loans.
Eliminate double taxation.
Political persuasion to relax restrictions on inbound FDI.
Restricting Outward FDI
Limit capital outflows.
Use tax code to encourage companies to stay home.
Prohibitions against investing in certain countries (Cuba, Libya, Iran).

14. Government Policy Instruments and FDI
Host Country Policies
Encourage Inward FDI
Offer investment incentives.
Tax concessions.
Low-interest loans.
Grant/subsidies.
Attempt to attract investment away from other countries.
Restricting Inward FDI
Ownership restraints.
Excluded from specific fields.
National security.
Competition.
Restrictions on amount of ownership.
Performance requirements.
Local content.
Technology transfer.
Local participation in management

15. International Institutions and the Liberalization of FDI
WTO
OECD
Developed nations
have had problems
agreeing on rules.
Developing nations
have been reluctant
to agree to
liberalization.