Foreign Direct Investment Introduction

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Foreign Direct InvestmentIntroduction

• Ivar Bredesen
• Associate Professor, Oslo University College

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Direct Foreign Investment and the Multinationals

• What do we mean by Foreign Direct Investment, FDI
• Who are the major sources and recipients of FDI
• How is FDI financed?
• What are the entry modes of FDI?

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Definitions

• Multinational Enterprises (MNEs) are firms which
  own a significant equity share (typically 50 or
  more) of another company operating in a foreign
  country
• The most common definition of FDI is related to
  the compilation Balance on Payment accounts and
  has been originally provided by IMF (1993) and
  subsequently endorsed by the OECD (1996). It is
  based on the ideas of lasting interest and
  influence on management

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OECD IMF Definition

• Foreign direct investment reflects the objective
  of obtaining a lasting interest by a resident
  entity in one economy (direct investor) in an
  entity resident in an economy other than that of
  the investor (direct investment enterprise).
  The lasting interest implies the existence of a
  long-term relationship between the direct
  investor and the enterprise and a significant
  degree of influence on the management of the
  enterprise. Direct investment involves both the
  initial transaction between the two entities and
  all subsequent capital transactions between them
  and among affiliated enterprises, both
  incorporated and unincorporated."  

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UNSNA Definition

• The United Nations System of National Accounts
  focuses on the concept of control.
• Foreign Controlled enterprises include
  subsidiaries with more than 50 owned by a
  foreign parent. Associates of which foreign
  ownership is 10-50 ... may be included or
  excluded by individual countries according to
  their qualitative assessment of foreign control."

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FDI vs. Portfolio Investment

• FDI is different from portfolio investment, which
  can de divested easily and do not have a
  significant influence on the management of the
  firm
• Thus, to create, acquire or expand a foreign
  subsidiary, MNCs undertake FDI

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FDI - preliminaries

• Home country (outward FDI) vs. Host country
  (inward FDI) both flows are registered in the
  balance of payments
• Flows are measured every given time interval,
  stocks are the sum of flows
• Horizontal FDI same sector, arises to access
  the markets for example due to some restrictions
  on exporting to the same market
• Vertical FDI upstream/downstream integration of
  suppliers or customers in order to take advantage
  of international factor price differentials

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Macro vs. Micro

• We get information on FDI from
• Macroeconomic data (GDP, Balance of Payments etc)
• Microeconomic data at the firm level (employment,
  sales for every firm etc)
• Models of FDI should be consistent with some of
  these facts

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Are MNCs important?

• In 2004, there are about 70 000 MNCs with 690
  000 foreign affiliates
• The most multinationalised countries in the
  world are Belgium, Luxembourg and Hong Kong, and
  India is among the lowest

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MNE activity

• How do we measure MNE activity?
• FDI flows per year
• FDI stock
• Foreign sales of FDI
• FDI as a share of capital formation

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FDi Inflows 1980 - 2004
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FDI share of gross fixed capital formation
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FDI/Exports ratio
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Indicators of FDI
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FDI flows by regions (2003 and 2004)
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FDI in Poland
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FDI as a share of GFCF
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Main entry modes

• Main modes of entry
• Merger and Acquisitions( M A) is the most
  common modality in developed economies
• Greenfield Investments (GF) dominate in
  developing nations, partly due to restrictions on
  MA activities

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FDI - preliminaries

• It is sometimes of interest to split flows into
  components
• Equity capital
• Reinvested earnings
• Intra-company loans

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FDI components
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FDI inflows top 20 economies
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What does micro data tell us?

• There are large differences across industries in
  the degree to which production and sales are
  accounted for by MNCs
• In particular, MNCs tend to be of greater
  importance in technology intensive industries,
  with indicators such as
• High level of RD/sales ratios
• Large share of professional and technical workers
  in their work force
• Products which are new or technically complex
• High level of product differentiation or
  advertising