FDI and Development Where do We Stand?

1. FDI and DevelopmentWhere do We Stand? Kiichiro Fukasaku Tokyo, 4 December 2001

2. Structure of the Presentation • Introduction • Some stylised facts • Putting theory at work • Empirical evidence • Main conclusions

3. Introduction • FDI is one of the defining features of globalisation over the last two decades. • Heterogeneity of FDI (by sector, by destination and by motivation of investors) • Renewed interest in the development dimension of FDI • Further trade and investment liberalisation • New growth theory • Data and measurement

4. Some Stylised Facts

5. Trends in World Merchandise Exports and FDI Outflows (average annual growth rates)

6. Trends in FDI Inflows, Cross-border M&As and Privatisation($ billion)

7. Share of Manufacturing in Total FDI Stock- the United States, 1986 and 2000

8. Net FDI Source and Recipient Countries($Billion, three year average 1998-2000)

9. Net FDI Source and Recipient Countries($Billion, three year average 1991-1993)

10. Five Main Areas of Interest • FDI-growth nexus • FDI-trade linkages • FDI and technology transfer • FDI, privatisation and corporate governance • Host-government policies for attracting FDI

11. A Critical Question forEmpirical Analysis • Why are some developing countries more able to take advantage of the gains from trade and investment liberalisation than others?

12. Putting theory at work

13. Benefits of FDI for Host Countries • FDI brings financial resources for domestic capital formation. • FDI increases production, employment and trade, quantitatively and qualitatively. • FDI transfers technologies, hard and soft.

14. International transfer oftechnology through: • Imports of new capital and differentiated intermediate goods • Learning by exporting • Trade in technology (patents, licensing) • FDI

15. FDI transfers technologies through: • Intra-firm spillovers within a MNE • Intra-industry spillovers in a host country • Vertical linkages • Horizontal linkages (reverse engineering, competition) • Training workers, investing in human resources and R&D • Inter-industry spillovers in a host country

16. Growth impact of FDI • Short-term impact of KF on Y (FF > 0) • ‘Crowding in or out’ ? (FHF > 0 or < 0) • Long-term impact of KF on Y through: • A,H,F and 

17. Empirical evidence

18. FDI-growth nexus (1) • A majority view: FDI does make a positive contribution to both income growth and TFP in host countries. • Reverse causality, omitted variables, heterogeneity. • Threshold externalities: Developing countries need to have reached a certain threshold of development before being able to capture the benefits associated with FDI (see next).

19. FDI-growth nexus (2) • Income level (Blomström et al. 1994) • Educational attainment (Borenzstein et al. 1998) • Local technological capabilities (de Mello 1999, Xu 2000) • Local financial markets (Alfaro et al. 2001, Hermes-Lensink 2000) • Crowding in or out (Asia vs. other areas, Agosin-Mayer 2000)

20. FDI-trade linkages (1) • A majority view: FDI and trade are more complementary than substituting in the North-South context. • Data constraints (US, Japan and Sweden) • Aggregation, causality and endogeneity • Conceptual issues (volume vs. price)

21. FDI-trade linkages (2) • Aggregation (product, industry and macro) • product-level substitution (Blonigen 1999) • industry-level complementarity (Kawai-Urata 1995) • Causality (time precedence, inconclusive) • Endogeneity (FDI-exports both endogenous) • Costs of operating abroad (Amiti-Wakelin 2000, Clausing 2000, Fukasaku-Kimura 2001).

22. FDI-trade linkages (3) • Horizontal FDI tends to substitutes exports, depending on the degree of scale economies relative to trade costs. On the other hand, vertical FDI tends to complement exports, as the home country supplies headquarters services and/or intermediate products to the host country (the ‘knowledge-capital’ model of the MNE).

23. FDI and technology transfer (1) • Intra-firm technology transfer: the host-country conditions matter (e.g. income level, past experience on industrialisation - Urata-Kawai 2000) • Efficiency gains from technological spillovers to local firms would not occur automatically. • Competition matters in local markets (Okamoto, 1999)

24. FDI and technology transfer (2) • Blomström-Persson (1983, Mexico 1970) • Haddad-Harrison (1983, Morocco 1985-89) • Blomström-Sjöholm (1998, Indonesia 1991) • Kokko et al. (1996/2001, Uruguay 1988) • Aitken-Harrison (1999, Venezuela 1976-89) • Djankov-Hoekman(1999, Czech, 1992-96) • Haskel et al. (2001, UK 1973-92)

25. FDI and technology transfer (3) • Both relative and absolute technological capabilities - Perez (1998, Italy 1989-91) Foreign presence affects positively the productivity growth of domestic firms in specialist and scale-intensive sectors (e.g. chemical, machinery, metal, automobile), but not in science-based sectors (e.g. pharmaceutical, IT/electronic).

26. Privatisation • Privatisation have provided a major channel of FDI inflows in both E. Europe and Latin America in the 1990s. • Initial assessment in both OECD and non-OECD countries: overall positive. • But, implementation and regulatory challenges are great. • Power crisis in California, railway crisis in UK.

27. Host-government policies (1) • The importance of host-government policies for attracting FDI and reaping full benefits associated with FDI is clear. • Motives of foreign investors and host-country “fundamentals’ • Costs of investment incentives

28. Host-government policies (2) • A comparative survey of FDI regimes in Asia and Latin America • Legal and policy framework for FDI appears to be more open in Latin America than in Asia. • Wide differences across countries in Asia in terms of control at the entry phase and negative lists as well as the approach to IPRs

29. Main conclusions (1) • Host-government policies matter. • More discussion is needed as to how policies work (or do not work). • Traditional incentive-based measures are costly for developing countries facing severe resource constraints.

30. Main conclusions (2) • The establishment of a multilateral framework of rules on FDI helps increase the collective welfare of host countries (prisoners’ dilemma). • A regional approach to taking more constructive, rules-based policies to FDI: EU, NAFTA, MERCOSUR, FTAA, ASEAN Investment Area, APEC.