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InternationalBusiness 1

InternationalBusiness 1

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Published by: Sham on Mar 04, 2012
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Impediments to the Sale of Know-How

Consider the case of oil refining companies such as
British Petroleum and Royal Dutch Shell. Historically,
these firms pursued backward vertical FDI to supply
their British and Dutch oil refining facilities with crude

Generalizing from this example, the prediction is that
backward vertical FDI will occur when a firm has the
knowledge and the ability to extract raw materials in
another country and there is no efficient producer in that
country that can supply raw materials to the firm.

Investment in Specialized Assets

Another strand of the market imperfections argument
predicts that vertical FDI will occur when a firm must
invest in specialized assets whose value depends on
inputs provided by a foreign supplier. In this context, a
specialized asset is an asset designed to perform a


specific task and whose value is significantly reduced in
its next-best use.

Consider the case of an aluminum refinery, which is
designed to refine bauxite ore and produce aluminum.
Bauxite ores vary in content and chemical composition
from deposit to deposit. Each type of ore requires a
different type of refinery. Imagine that a US aluminum
company must decide whether to invest in an aluminum
refinery designed to refine a certain type of ore. Assume
further that this ore is available only through an
Australian mining firm at a single bauxite mine.

Implications for Business

The implications of the theories of horizontal and vertical
FDI for business practice are relatively straightforward.
First, the location-specific advantages argument
associated with John Dunning does help explain the
direction of FDI, both with regard to horizontal and
vertical FDI.

Firms for which licensing is not a good option tend to be
clustered in three types of industries:

1.High-technology industries where protecting firm-
specific expertise is of paramount importance and
licensing is hazardous.
2.Global oligopolies, where competitive
interdependence requires that multinational firms
maintain tight control over foreign operations so
that they have the ability to launch coordinated


attacks against their global competitors (as Kodak
has done with Fuji).
3.Industries where intense cost pressures require that
multinational firms maintain tight control over
foreign operations (so they can disperse
manufacturing to locations around the globe where
factor costs are most favorable to minimize costs).


Chapter Seven

The Political Economy of Foreign Direct Investment


The government of a source country for FDI also can
encourage or restrict FDI by domestic firms. In recent
years, the Japanese government has pressured many
Japanese firms to undertake FDI. The Japanese
government sees FDI as a substitute for exporting and
thus as a way of reducing Japan's politically
embarrassing balance of payments surplus. In contrast,
the US government has, for political reasons, from time
to time restricted FDI by domestic firms.

Political Ideology and Foreign Direct Investment

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