MGT520 - International Business - Lecture Handout 37

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FOREIGN DIRECT INVESTMENT

Reasons for Host Nation Intervention:

Balance of Payments:

  1. Many governments see intervention as the only way to keep their balance of payments under control.
  2. Countries get a balance-of-payments boost from initial FDI flows into their economies. Local content requirements can lower imports, providing a balance-of-payments boost. Exports generated by production resulting from FDI can help the balance-of-payments position.
  3. When companies repatriate profits, they deplete the foreign exchange reserves of their host countries; these capital outflows decrease the balance of payments. To avoid this, the host nation may prohibit or restrict the no domestic company from removing profits.
  4. Alternatively, host countries conserve their foreign exchange reserves when international companies reinvest their earnings in local manufacturing facilities. This improves the competitiveness of local producers and boosts a host nation’s exports—improving its balance-ofpayments position.

Obtain Resources and Benefits:

Access to Technology:

Nations encourage FDI in technology because it increases productivity and competitiveness.

Management Skills and Employment:

FDI allows talented foreign managers to train local managers in how to operate the local facilities—this is important for former communist nations that lack skilled managerial talent. Some of these managers will also go on to establish their own businesses.

Reasons for Home Nation Intervention:

There are fewer concerns regarding the outflow of FDI among home nations because they tend to be prosperous, industrialized nations.

Reasons for discouraging outward FDI:

  1. Investing in other nations sends resources out of the home country and can lessen investment at home.
  2. Outgoing FDI may damage a nation’s balance of payments by reducing exports otherwise sent to international markets.
  3. Jobs resulting from outgoing investments may replace jobs at home.

Reasons for promoting outgoing FDI:

  1. Outward FDI can increase long-run competitiveness (e.g., Japanese use FDI and partnering as learning opportunities).
  2. Nations may encourage FDI in “sunset” industries, those that use outdated and obsolete technologies or employ low-wage workers with few skills.

Implications for Business:

  1. The market imperfections theory suggests that exporting should be preferred to licensing and horizontal FDI as long as transport costs are minor and tariff barriers are trivial. If that is not the case, then firms should consider licensing and FDI.
  2. FDI is more costly than licensing, but may be the most reasonable option. Figure 6.6 presents a decision tree suggesting when licensing, FDI, and exporting are most appropriate.
  3. Licensing tends not to be a good option in high technology industries where protecting firm specific know-how is critical, in industries where a firm must carefully coordinate and orchestrate its worldwide activities, or where there are intense cost pressures.

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