4.5: Foreign direct investment and economic development

Definitions

Foreign direct investment (FDI) is a long-term direct investment made by a company based on one country, into a company based in another country.
Multinational corporation (MNC) is a company that has productive units in more than one country.

Long-term investment by private multinational companies in countries overseas.
Occurs in two ways:
- MNC’s build new plants or expand their existing plants in foreign countries.
- MNC’s merge or buy existing firms in foreign countries.

Developing countries are rich in natural resources → MNCs have an opportunity to raise profits from using the technology and expertise to extract natural resources.
Some developing countries, such as India, China, Brazil, have growing markets → MNCs have better access to large no. of potential customers.
Lower production costs in developing countries → Allows firms to sell at a lower price and make higher profits.
Governments in developing countries have less stricter government regulations → Makes it easier to set up businesses → Lowers production costs.

Helps fills the savings gap in developing countries → Might lead to economic growth.
MNCs can provide employment, education and training in the country → Improves the skills level of the workforce and managerial capabilities.
Developing countries have greater access to research and development, technology, marketing expertise → Enhance industrialization.
Increased earnings and employment → Multiplier effect → Stimulate economic growth.
Host government can use the tax revenue earned from MNCs profits to invest in infrastructure, improve public services → Improves growth and promotes development.
If MNCs buys existing firms in developing countries, they inject foreign capital → Increases aggregate demand in the economy.
MNCs can improve the physical and financial infrastructure of the developing country’s economy, or persuade the government to improve the infrastructure.
Existence of MNCs can provide more choice and lower prices for consumers.
MNC activities + Liberalized trade → More allocatively efficient of world’s resources.

MNCs tend to use their own management teams, uses low-skilled labor and provides no education and training → Limits the access to new technologies for developing countries.
MNCs have too much power because of their size, gain large tax advantages and subsidies → Reduces potential government income in developing countries + Exert too much influence on decisions made by institutions such as WTO.
MNCs take advantage of low tax reward in developing countries for their profits → Governments potentially lose a large portion of their revenue.
MNCs operate in a place where legislation on pollution isn’t very effective → Reduces private costs + Creates external costs → Damages the environment of the country.
MNCs take advantage of poor labor laws → Allows exploitation of workers in terms of low wage levels and poor working conditions.
Extraction of resources and leaving the country after receiving it → Unrest in the host country as locals might see as profits from their resources are being used for foreigners rather than the local people.
MNCs tend to use capital intensive production method → Doesn’t improve levels of employment in the country.
The actual money earned by the owners of the firm, purchased by the MNCs, may not be used in the developing country’s economy.
MNCs may repatriate their profits → They send the profits earned from the host country and send it back to the country of origin.