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					Economic aspects of foreign
     direct investment

Virtual Institute-St. Petersburg
 State University Study Tour

    Geneva, 18 April 2007
               Michael Lim
              UNCTAD-DITE
          michael.lim@unctad.org   1
                      Outline

 I. Basic concepts
 II. Determinants and Impacts of FDI
 III. Recent global and regional FDI trends
 IV. WIR 2006: FDI from developing
   economies




Source: UNCTAD                                 2
I. Basic concepts




                    3
   What is foreign direct investment?
 Balance-of-payments concept
 Distinguish between portfolio and direct investment
     Direct investment: investment of a resident in a foreign company
      resulting in a lasting and significant management interest (more than
      10 per cent of the equity or voting shares).
     Portfolio investment: investment of a resident in a foreign company
      without a lasting and significant management interest (less than 10
      per cent of the equity or voting shares).
 FDI flows comprise three different components:
     Equity capital
     Reinvested earnings
     Intra-company loans

Source: UNCTAD                                                              4
  What is a transnational corporation
                (TNC)?
 A TNC consists of:
    A parent company (based in a ‘home country’); and
    One or more foreign affiliates (in ‘host countries’)
 Foreign affiliates may refer to:
    Subsidiaries (majority-owned)
    Associate (ownership share is>10% but <50%)
    Branch (wholly or jointly unincorporated enterprise)




Source: UNCTAD                                          5
                 Modes of FDI

  Greenfield investment
  Acquisition
  Merger
  Joint venture
  Expansion investment




Source: UNCTAD                  6
Are TNCs and FDI important to the world
economy?

Yes because:

   1. TNCs together account for a significant
   part of international economic activity (eg
   international trade, generation of technology)
   2. FDI is the largest single source of private
   finance for developing countries
    3. Their role in the world economy is likely to
   grow further.
Source: UNCTAD                                        7
FDI constitutes the largest component of resource flows
to developing countries



  Billions of dollars
    500
                                                                                        Total Resource flow s
    450

    400

    350

    300

    250
                                                                                        FDI inflow s
    200

    150
                                                                                       Commercial banks loans
                                                                                        Portfolio flow s
    100

     50

      0
                                                                                        Official flow s
    -50
          1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005



Source: UNCTAD                                                                                                  8
       The role of TNCs is increasing

 > 60,000 TNCs
 > 800,000 foreign affiliates
 TNCs account for some 2/3 of world exports
 1/3 of world trade is intra-firm
 TNCs dominate world industrial R&D
 FDI is the largest source of external finance
   for developing countries

Source: UNCTAD                                    9
                     Some TNCs are very big
              Value added or GDP, 2000, USD billions
                Chile                                                             71

          ExxonM obil                                                   63

             Pakistan                                                   62

      General M otors                                             56

               Algeria                                       53

                 Peru                                        53

      Czech Republic                                        51

        N ew Zealand                                        51

U nited Arab Em irates                                 48

          Bangladesh                                   47

             H ungary                              46

          Ford M otor                             44

     D aim lerChrysler                       42

              N igeria                       41


   Source: UNCTAD 0      10   20   30   40             50          60        70        80   10
II. Determinants and impacts of FDI




                                      11
A typology of FDI is useful for analysis

 FDI is diverse, so a typology is useful to
  create categories of different types of FDI
 A typology is useful (necessary in fact) as an
  analytical aid




Source: UNCTAD                                     12
           A Typology of types of FDI

 Natural resource-seeking
    Oil and gas extraction, mining, forestry, fisheries
 Market-seeking (horizontal FDI)
    Access a domestic or regional (e.g. EU, NAFTA, ASEAN)market
 Efficiency-seeking (vertical FDI)
    Specialize and divide production in line with the comparative
      advantages of different locations; export-oriented FDI
 Strategic-asset seeking (primarily through M&As)
    Access specific (created) assets such as technology, brand
   name, specialized skills


Source: UNCTAD                                                      13
         Economic determinants of FDI
     Type of FDI              Key determinants
     Natural resource-          Abundance of natural resources
     seeking FDI                Price movements

     Market-seeking FDI         Market size and purchasing power
     (national or regional)     Market growth
                                Tradability of product/service
                                Need for local adaptation
                                Structure and openness of markets
     Efficiency-seeking,        Quality and cost of human resources
     export-oriented FDI        Physical infrastructure (electricity, transport, ports,
                                roads, telecoms, etc.)
                                Technical infrastructure
                                Trade costs
                                Quality of suppliers, clusters, etc.
                                Economic and political stability
     Strategic asset-           Presence of strategic assets
     seeking FDI
Source: UNCTAD                                                                            14
Two analytical perspectives on FDI
impact on host country: financing versus
micro and macro (and broader) impacts
 Financing (BoP): FDI provides valuable external
  financing
       (Simplistic financing version: more FDI = more
  financing; therefore more FDI is good)
                           versus
 Micro and macro impacts: FDI may have important
  impacts (positive and negative) on the host economy
  – at both the microeconomic and macroeconomic
  level
  (A broad analysis could include social,
  environmental, cultural and political in addition to
  economic impacts)

Source: UNCTAD                                       15
Potential benefits from inward FDI
  o Provide external financing
  o Transfer of hard technology
  o Transfer of “soft technology” (knowledge, management skills,
    organizational methods – spillovers)
  o Promote exports (efficiency-seeking, export platform FDI)
  o Employment creation (M&As vs. greenfield FDI)
  o Promote local skills development through training
  o Improve quality of local services
  o Introduce new goods and services
  o Competitive spur to local economy (spillover – but may crowd out!)
  o Contribute to local enterprise development (via spillovers and
    directly)
  o Provide access to international markets
Source: UNCTAD                                                           16
Potential negative impacts and concerns
from inward FDI
   Balance of Payments problems (potentially large future
     remittances, possibly high import content of FDI projects)
   Crowding out local enterprises (via unfair competition vs. via
     higher efficiency and better performance)
   Lack of local linkages (enclave activities using few local inputs)
   Low level of local processing (and low local value added)
   Environmental degradation (from certain activities (e.g.
     mining))
   Limited transfer of technology (an important aspect of
     linkages)
   Employment destruction (M&As)
   Footloose operations (e.g. garments)
   Excessive use of incentives/race to the top (competition for
     FDI)
   Anticompetitive practices (abuse of dominant position)
Source: UNCTAD                                                           17
   Transfer pricing (low tax contribution locally)
   Socio-cultural effects
Some key points to remember on TNCs
and FDI
 The impact of FDI on host countries is not
  homogenous, but rather depends, inter alia, upon (i)
  country-specific conditions (notably the level of
  income, economic development, country size,
  domestic firms’ development in the industry in
  question, technological development and human
  capital and infrastructure development), (ii) the
  specific TNC investing, their motives and the specific
  industry in question and (iii) host country policies.
 Benefits from FDI are generally not automatic and
  may depend upon the active use of government
  policies to promote them.
Source: UNCTAD                                         18
Some key points to remember on TNCs
and FDI (continued)
 TNCs are a diverse group and include huge global
  firms (e.g. General Motors, Citigroup, Exxon-Mobil)
  as well as small firms with few foreign affiliates.
 Government’s should attempt to integrate their
  policies on FDI into a broader strategy of economic
  development (comprised of a set of consistent
  policies) taking into account their specific conditions
  (advantages and disadvantages) and priorities.
 Given the extreme diversity among countries and
  TNCs, policy recommendations on FDI should in
  general be country-specific. (But some observations
  may hold for many countries.)

Source: UNCTAD                                              19
III. Recent global and regional FDI
               trends




                                      20
FDI inflows grew in 2005 for the second consecutive year
…
and it was a worldwide phenomenon



      World FDI inflows:                  $916 billions     (+ 29%)
      Developed countries:                $542 billions     (+ 37%)
      Developing economies:               $334 billions     (+ 22%)
          –
          Africa                           $31b              (+ 78%)
          –
          LAC                              $104b            (+ 3.1%)
          –
          West Asia                        $35b              (+ 85%)
          –
          South, East and SE Asia                   $165b
          (+ 20%)
      SE Europe and CIS                   $40b             (+ 0.3%)
  Source: UNCTAD      WORLD INVESTMENT REPORT                    21
                                2006
… but remained below the 2000 peak



                                                                         (Billions of dollars)
                                                                                               World total
 1 400

 1 200
                                                                               Developing economies
 1 000
                                                                                             Developed economies
  800

  600
                                                          South-East Europe and CIS
  400

  200

    0
         1980
                1981
                       1982
                              1983
                                     1984
                                            1985
                                                   1986
                                                          1987
                                                                 1988
                                                                        1989
                                                                               1990

                                                                                      1991
                                                                                              1992
                                                                                                     1993
                                                                                                            1994
                                                                                                                   1995
                                                                                                                          1996
                                                                                                                                 1997
                                                                                                                                        1998
                                                                                                                                               1999
                                                                                                                                                      2000
                                                                                                                                                             2001
                                                                                                                                                                    2002
                                                                                                                                                                           2003
                                                                                                                                                                                  2005
 Source: UNCTAD                                                                                                                                                                          22
FDI flows by region, 2004-2005



                                                  (Billions of dollars)
          396   542                334
    300
                                                              Developing countries                             2004
                                                                                                               2005
    250



    200



    150



    100



     50



     0
          Developed   Developing         Africa     Latin America   South, East and   West Asia     South-East     Memorandum:
          countries    countries                       and the      South-east Asia               Europe and CIS      LDCs
                                                      Caribbean      and Oceania

 Source: UNCTAD                          WORLD INVESTMENT REPORT                                                                 23
                                                   2006
Top 10 recipients of FDI inflows


                                                                           165
          United Kingdom


               United States


                      China
                                                              2005
                     France                                   2004


                Netherlands


        Hong Kong, China


                    Canada


                   Germany


                   Belgium


                      Spain


         -20                   0   20      40     60     80          100



Source: UNCTAD                     WORLD INVESTMENT REPORT                       24
                                             2006
Largest 10 sources of FDI outflows


                                                                 119
                 Netherlands

                                                                 116
                     France

                                                                 101
           United Kingdom


                      Japan                             2005
                                                        2004

                   Germany


                 Switzerland


                        Italy


                      Spain


                     Canada


          Hong Kong, China


           -20                  0   20   40   60   80          100



      … but developing economies are becoming emerging sources
      … Hong Kong (China) 10th and China 17th
 Source: UNCTAD                                                        25
Sectoral analysis:
the revival of FDI in natural resources                                       a) Sales


                                                      2004                                              2005



                                                         5%
                                                                                                               16%
                                                          5%

                                                                     32%
                                                                      32%
                                                                                              56%
According to cross-border                  63%
                                            63%
                                                                                                                       28%




M&As:
 The primary sector gained in          Primary Manufacturing Tertiary
                                       Primary Manufacturing Services                       Primary Manufacturing Tertiary
                                                                                           Primary Manufacturing Services

  importance
                                                                            b) Purchases

 Services still remain                              2004                                               2005
  dominent
                                                         5%
 Main target industries are:                                       28%
                                                                                                               15%


                                                                                                                         21%

    – Petroleum (oil and gas):              67%                                               64%


      share of 14% of all industries
    – Telecommunications: 14%
    – Finance: 13%                      Primary
                                       Primary    Manufacturing Tertiary
                                                  Manufacturing Services                    Primary Manufacturing Tertiary
                                                                                           Primary Manufacturing Services



  Source: UNCTAD             WORLD INVESTMENT REPORT                                                                   26
                                       2006
A new wave of cross-border M&As:
close to the previous boom


           Cross-border M&As           1999-2001 average           2003           2004    2005

        Value ($ billion)                              835           297           381     716

        Number of deals                              6 974        4 562           5 113   6 134
 … and an increasing number of mega deals (75 in 2004; 141 in 2005).


         Caracteristics of cross-border M&As
         Previous wave                     Current wave


         Financial market boom             Economic growth
         Pressures to merge                Strategic choices
         IT dotcom boom                    New investors (private-equity firms)
         Sector No. 1: transport           Sector No. 1: natural resources
                       storage
                      communications

 Source: UNCTAD                  WORLD INVESTMENT REPORT                                          27
                                           2006
Regional trends: South-East Europe
and the Commonwealth of Independent
           States (CIS)




                                      28
FDI flows to South-East Europe and CIS in 2005:
steady after the large increase in the previous year

             40                                                                                               21

             35                                                                                               18
             30
                                                                                                              15
             25




                                                                                                                   Per cent
 $ Billion




                                                                                                              12
             20
                                                                                                              9
             15
                                                                                                              6
             10

             5                                                                                                3

             0                                                                                                0
                  1995   1996   1997   1998   1999    2000     2001     2002     2003     2004     2005

                   South-East Europe   CIS     FDI inflows as a percentage of gross fixed capital formation




Source: UNCTAD                                                                                                         29
Inflows and their growth uneven by subregion and
country

 CIS: two thirds of inflows; South-
     East Europe: one-third.                          FDI inflows, top five economies,
    Three countries (Russian                                       2004, 2005a
     Federation, Ukraine and Romania)                              (Billions of dollars)

     accounted for three quarters of the Federation
                                          Russian                                              14.6


     regional total in 2005.                                                                      15.4


    In 2005, inflows rose in CIS and      Ukraine
                                                                             7.8

                                                       1.7
     declined in South-East Europe
    Inflows rose in 8 countries          Romania
                                                                         6.4
                                                                                              2005
                                                                         6.5
                                                                                              2004
     (most notably in Ukraine).
                                                         2.2
    Inflows fell in 11 countries,         Bulgaria
                                                             3.4

     including Azerbaijan, Kazakhstan                  1.7
     and the Russian Federation         Kazakhstan
                                                                4.1

     (the latter marginally).                       0  2      4      6       8    10     12 14    16

                                                        Ranked on the basis of the magnitude of 2005 FDI flows.
    Source: UNCTAD                                                                                           30
FDI outflows from South-East Europe and CIS in 2005:
fourth year of growth



             16                                                                                                                         10

             14                                                                                                                         9
                                                                                                                                        8
             12
                                                                                                                                        7
             10                                                                                                                         6
 $ Billion




                                                                                                                                              Per cent
             8                                                                                                                          5

             6                                                                                                                          4
                                                                                                                                        3
             4
                                                                                                                                        2
             2                                                                                                                          1
             0                                                                                                                          0
                    1995      1996      1997        1998     1999      2000      2001       2002        2003       2004       2005

                  Other CIS and South-East Europe      Russian Federation     FDI outflows as a percentage of gross fixed capital formation




 Source: UNCTAD                                                                                                                                      31
         IV. WIR
       2006 Part II:
FDI from Developing and Transition
           Economies:
  Implications for Development


                                     32
FDI from developing and transition economies has
increased significantly



    An acceleration in the 1990s

    FDI outflows: $133 billion in 2005 (17% of world total)

    Outward FDI stock: $1.4 trillion in 2005 (13% of world total)

    Their share in global cross-border M&A purchases rose
       from 4% in 1987 to 13% in 2005

    South-North deals: rapid rise in past two years



Source: UNCTAD                                                       33
FDI from developing and transition economies, 1980-
2005
(M illions of dollars)




       90 000
       80 000
       70 000
       60 000
       50 000
       40 000
       30 000
       20 000
       10 000
            0
      - 10 000
                 1980


                        1982


                               1984


                                      1986


                                             1988


                                                    1990


                                                           1992


                                                                  1994


                                                                         1996


                                                                                  1998


                                                                                         2000


                                                                                                2002


                                                                                                       2004
                                      Offshore financial centres
                                      Hong Kong (China)
                                      Other developing and transition economies


   Source: UNCTAD                                                                                             34
The largest investors



                   Stock of OFDI from developing
                   and transition economies, 2005
                               (Billions of dollars)
                  Economy                              2005
                  Hong Kong (China)                      470
                  British Virgin Islands                 123
                  Russian Fed.                           120
                  Singapore                              111
                  Taiwan POC                              97
                  Brazil                                  72
                  China                                   46
                  Malaysia                                44
                  South Africa                            39
                  Korea, Rep. of                          36

                  All developing and transition
                  economies                            1 400
 Source: UNCTAD              WORLD INVESTMENT REPORT           35
                                       2006
Main features of FDI from Developing and Transition
Economies

       Concentrated (top 10 sources = 83% of FDI
        stock) but a number of countries are joining in
       Asia has grown in importance
       Services sector dominates
       Developing countries invest primarily in other
        developing countries (the bulk of their flows)
        (i.e. large South-South FDI flows)
       Larger developing economies along with Russia
        dominate the numbers, but some smaller, low-
        income economies (including some LDCs) have
        OFDI - however, on a much smaller scale
 Source: UNCTAD    WORLD INVESTMENT REPORT                36
                             2006
Outward FDI stock, by source region, developing and
transition economies, 1980-2005


                                         Millions of dollars
                                                                   614 605       755 520   874 305
     350 000


     300 000


     250 000


     200 000


     150 000


     100 000


      50 000


          0
               1980            1985       1990       1995          2000          2004      2005

                      Africa                         Latin America and the Caribbean
                      Asia and Oceania               South-East Europe and the CIS


 Source: UNCTAD                                                                                      37
Mapping South-South FDI: the role of Asia




                  South-South FDI flows, excl. offshore financial centres, 2002-
                  2004, millions of dollars
 Source: UNCTAD                                                             38
Main drivers and motives of developing and
transition economy TNCs
    Main driver today: Globalization process
    Major push factors (home country drivers):
        – Limited size of home markets (especially for small
          economies)
        – Rising costs of production in the home economy (rising
          wages, exchange rate changes)
        – Rising competition in the home and foreign markets
          (notably via globalization), which intensifies the impact
          of the above two drivers.
    Main pull factors (host country drivers):
        – Markets abroad, natural resources, labour
        – Opportunities arising from liberalization
Source: UNCTAD        WORLD INVESTMENT REPORT                     39
                                2006

				
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