Global Business Environment

Economic environment:
capital movement, FDI
Readings

World Investment Report 2009. Overview. pp. 4-22.

http://www.unctad.org/en/docs/wir2009overview_en.pdf

The OLI Paradigm.

http://www.investmentsandincome.com/investments/oli-
paradigm.html
International movements of capital

1. Types of capital movements:

Official flows (grants)
International borrowings and lendings
2. Portfolio investments
3. Foreign direct investments
FDI

Foreign direct investment refers to investment in

which a firm in one country directly controls or owns a
subsidiary in another.
If a foreign company invests in at least 10% of the
stock in a subsidiary, the two firms are typically
classified as a multinational corporation.
10% or more of ownership in stock is deemed to be
sufficient for direct control of business operations.
In addition, international borrowing and lending sometimes
occurs between a parent company and its subsidiary
Location and internalization

Why are multinational corporations created and

why do they undertake direct foreign
investment?
Location: why is a good produced in two
countries rather than in one country and then
exported to the second country?
Internalization: why is production in different
locations done by one firm rather that by
separate firms?
Location

Why production occurs in separate location is

often determined by
the location of necessary factors of production:
mining occurs where minerals are;
labor intensive production occurs where relatively large
pools of labor live.
transportation costs and other barriers to trade
may also influence the location of production.
These factors also influence the pattern of trade.
Internalisation

Internalization occurs because it is more profitable to

conduct transactions and production within a single
organization than in separate organizations. Reasons
for this include:
1. Technology transfers: transfer of knowledge or another form
of technology may be easier within a single organization than
through a market transaction between separate organizations.
Patent or property rights may be weak or non-existent.
Knowledge may not be easily packaged and sold.
Internalisation

2. Vertical integration involves consolidation of

different stages of a production process.
Vertical integration would involve consolidation of one
firm that produces a good that is used as an input for
another firm.
This may be more efficient than having production
operated by separate firms.
For example, having farms and flour mills
consolidate into one organization to make flour may be
more efficient that have farms and flour mills as separate
organizations.
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
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 countrys economy
being controlled by a foreign corporation
Political Ideology and FDI

Radical Pragmatic Free

View Nationalism Market
The Radical View

Marxist view: MNEs 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
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
Taxbreaks
Subsidies
Regional development
implications of FDI

Post Communist Eastern Europe, e.g. Czech Republic, Slovenia

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 FDIs role in regional economic transformations
Intensification of uneven development
Development of a Dual Economy
Failure to develop linkages with local and regional
economies
Contribution to increased regional economic instability
Motivations of foreign direct
investments

Resource-seeking investments:
Row materials, energy, natural resources,
Low-cost labour,
Low-cost human capital.
Market-seeking investments:
Green-field investments,
Brown-field investments,
Mergers & acquisitions.
Motivations of foreign direct
investments

Efficiency-seeking investments:
Factor proportions,
Differentiation of products,
Economy of scales.
Strategic-advantage-seeking investments:
Long-term advantage of acquisition.
Main sources of advantages of
multinational firms

Ownership-specific advantages
Location-specific advantage
Internalization (technology transfer, vertical
integration)
= OLI paradigm (Dunning)
Dunning: productivity of US firms in UK in the 1950s
US firms in the UK are more productive than UK
firms (because of best managerial skills, know-how,
etc.)
Vernons Product Life Cycle (PLC)
theory

Phases: home production; export; export of

capital; foreign production.
Porter strategic management
Three groups of international enterprises
Exporting domestic enterprise,
Multi-domestic enterprise (management in every
country, negligible central co-ordination)
Global enterprise (centrally co-ordinated).
Strategic alliances

Main specificities of strategic alliances:

Basic autonomy of the partners remain,
Long-term,
Mutually advantageous co-operation,
Resources make available for one another,
Integration of specific functions.
Advantages and disadvantages for
recipient countries

Advantages:
Increase of financial resources,
Foreign trade sufficit,
Positive effect on employment (both direct and
indirect),
Technology transfer,
Import of know-how,
Better structure of foreign relations,
Diminution of risks.
Advantages and disadvantages for
recipient countries

Disadvantages
Less economic autonomy,
Technological dependence,
Local resources in foreign control,
Increasing foreign involvement,
Undesired structural changes,
Increasing risks (profit),
Bad structure of foreign relations.