Chapter

The Political Economy Of Foreign

Direct Investment

7

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Case: FDI and the Irish miracle

FDI in Ireland grew from $164m (1985) to $24b (2000)

By 2000 two-thirds of Irelands top exporters were MNEs

Reasons for Ireland’s success Member of EU (access to EU markets) Highly educated workforce Good infrastructure

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Political ideology and FDI

RadicalView

PragmaticNationalism

FreeMarket

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Radical view

Marxist view, that 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

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Radical view

Radical view was popular (1945-80) among Communist countries (China, Cuba) Socialist countries in Africa Nationalistic countries (Iran, India)

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Radical view-short lived?

By end 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

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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

However, all countries impose some restrictions on FDI

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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 breaksSubsidies

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Three main ideological positionsregarding FDI

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Benefits of FDI to host countries

Resource-transfer effects Capital Technology Management

Employment effect Direct indirect

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Benefits of FDI to host countries

Balance-of-payments effect. Current account-surplus/deficit Capital account

Increases competition and spurs economic growth

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Resource-transfer effects

Capital

Technology

Management

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Employment effects

Brings jobs that otherwise would not be created Direct: Hiring host-country citizens Indirect:

Jobs created by local suppliersJobs created by increased spending by

employees of the multi-national enterprise Questions remain on whether net jobs gained

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Balance-of-payments effects

Host country benefits from initial capital inflow when MNC establishes business Host country records current account debit on

repatriated earnings of MNC Host country benefits if FDI substitutes for

imports of goods and services Host country benefits when MNC uses its

foreign subsidiary to export to other countries

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Balance of payment accounts

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

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U.S. Balance of payments accounts

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Effect on competition and economic growth

Increased productivity growth product and process innovation greater economic growth

FDI can Increase market competition

Lower prices Create greater consumer choice

Stimulate capital investments

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Home country FDI benefits

Improves balance of payments for inward flow of foreign earnings

Creates a demand for exports. Export demand can create jobs Increased knowledge from operating in a

foreign environment Benefits the consumer through lower prices Frees up employees and resources for higher

value activities

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Costs of FDI to host countries

Can drive out local competitors or prevent their development

Profits brought home ‘hurts’ (debit) a host’s capital account

Parts imported for assembly hurt trade balance

Can affect sovereignty and national defense

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Home country FDI benefits

Improves balance of payments for inward flow of foreign earnings

Creates a demand for exports Export demand can create jobs

Increased knowledge from operating in a foreign environment

Benefits the consumer through lower prices Frees up employees and resources for higher

value activities

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Home country problems with FDI

Negative effect on Balance of Payments Initial capital outflow MNC uses foreign subsidiary to sell back to

home market MNC uses foreign subsidiary as a substitute

for direct exports Potential loss of jobs

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Government incentives for FDI

Risk insurance (Home) Elimination of double taxation (Home) Tax incentives (Host) Low interest rates (Host) Stable government and stable policies

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Government disincentives for FDI

Limit capital outflows (Home) Manipulate tax code to encourage domestic

investment (Home) Political restrictions on investing in certain

countries (Home) Ownership restraints. (Host) Performance requirements (Host)

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The nature of negotiation

Objective: reach an agreement that benefits both parties

In the international context, we must understand the influence of norms and value

systems Be sensitive to how these factors influence a

company’s approach to negotiations

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The four Cs of negotiation

Fig 7.1

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Determinants of bargaining power