16-08-2012, 10:36 AM
Report on Foreign Direct Investment
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Significance of FDI
International trade and foreign direct investment (FDI) are the two most important international economic activities integrating the world economy. With the increase in mobility of factors of production across countries, FDI has become an integral part of firms’ strategy to expand international business.
Concept of FDI
In simple terms, FDI means acquiring ownership in an overseas business entity.
Foreign direct investment occurs when an investor based in one country (the home country) acquires an asset in another country (the host country) with the intent to manage it.
Foreign Portfolio Investment (FPI)
An investment by individuals, firms, or a public body in foreign financial instruments, such as foreign stocks, government bonds, etc.
In FPI, the equity stake in the foreign business entity is not significant enough to exert any management control.
Benefits of FDI to Host Countries
Access to superior technology
Increased competition
Increase in domestic investment
Bridging host countries’ foreign exchange gaps
Negative Impacts of FDI
Market Monopoly
Crowding-out and unemployment effects
Technology dependence
Profit outflow
Corruption
National security
On the Basis of Types of Activity
Horizontal FDI: Overseas investment in a similar activity as carried out in the home country.
Vertical FDI: Overseas investment so as either to provide inputs for the firm’s domestic operations or sell its domestic output abroad.
Backward Vertical FDI: Direct investment aimed at providing inputs for a firm’s production processes.
Forward Vertical FDI: Direct investment overseas aimed to sell the output of a firm’s domestic production processes.
Conglomerate FDI: Direct investment overseas aimed at manufacturing products not manufactured by the firm in the home country.
On the Basis of Investment Objectives
Resource-seeking FDI: Direct investment overseas so as to gain privileged access to resources vis-à-vis competitor
Market-seeking FDI: Direct investment overseas with sizeable market and growth in order to protect existing markets, counteract competitors, and to preclude rivals from gaining new markets
Efficiency-seeking FDI: Direct investment overseas so as to improve efficiency and or seek advantages of process specialization or product rationalization
Market Imperfection Theory
To access countries with market imperfections, such as government policies, including import restrictions and quotas, incentives on exports, tax regimes, and government’s participation in trade etc, FDI is often employed as a strategic tool for international business expansion.
Internalization Theory
When the know-how, technology, skills, or trade secrets available with a firm are crucial to the firm’s competitive advantage, it needs to protect such knowledge base within the organization. Therefore, it expands internationally by way of FDI.
International Product Life Cycle Theory
The theory provides an explanation as to why the production locations are shifted across countries and suggests that an MNE prefers those countries for investment as manufacturing locations that have market size large enough to support local production.