You are on page 1of 21

Foreign direct investment (FDI) in its classic definition, is defined as a company from

one country making a physical investment into building a factory in another country. Its
definition can be extended to include investments made to acquire lasting interest in
enterprises operating outside of the economy of the investor.[1] The FDI relationship
consists of a parent enterprise and a foreign affiliate which together form a Multinational
corporation (MNC). In order to qualify as FDI the investment must afford the parent
enterprise control over its foreign affiliate. The UN defines control in this case as owning
10% or more of the ordinary shares or voting power of an incorporated firm or its
equivalent for an unincorporated firm; lower ownership shares are known as portfolio
investment.

History

In the years after the Second World War global FDI was dominated by the United States,
as much of the world recovered from the destruction brought by the conflict. The US
accounted for around three-quarters of new FDI (including reinvested profits) between
1945 and 1960. Since that time FDI has spread to become a truly global phenomenon, no
longer the exclusive preserve of OECD countries. FDI has grown in importance in the
global economy with FDI stocks now constituting over 20 percent of global GDP.[citation
needed]

US International Direct Investment Flows[2]

Period FDI Outflow FDI Inflows Net

1960-
$ 42.18 bn $ 5.13 bn + $ 37.04 bn
69

1970-
$ 122.72 bn $ 40.79 bn + $ 81.93 bn
79

1980-
$ 206.27 bn $ 329.23 bn - $ 122.96 bn
89

1990-
$ 950.47 bn $ 907.34 bn + $ 43.13 bn
99
2000-
$ 1,629.05 bn $ 1,421.31 bn + $ 207.74 bn
07

Total $ 2,950.69 bn $ 2,703.81 bn + $ 246.88 bn

Foreign Direct Investment


Consistent economic growth, de-regulation, liberal investment rulse,
and operational flexibility are all the factors that help increase the
inflow of Foreign Direct Investment or FDI.

FDI or Foreign Direct Investment is any form of investment that earns interest in
enterprises which function outside of the domestic territory of the investor.

FDIs require a business relationship between a parent company and its foreign
subsidiary. Foreign direct business relationships give rise to multinational corporations.
For an investment to be regarded as an FDI, the parent firm needs to have at least
10% of the ordinary shares of its foreign affiliates. The investing firm may also qualify
for an FDI if it owns voting power in a business enterprise operating in a foreign
country.

Types of Foreign Direct Investment: An Overview

FDIs can be broadly classified into two types: outward FDIs and inward FDIs. This
classification is based on the types of restrictions imposed, and the various
prerequisites required for these investments.

An outward-bound FDI is backed by the government against all types of associated


risks. This form of FDI is subject to tax incentives as well as disincentives of various
forms. Risk coverage provided to the domestic industries and subsidies granted to the
local firms stand in the way of outward FDIs, which are also known as “direct
investments abroad.”

Different economic factors encourage inward FDIs. These include interest loans, tax
breaks, grants, subsidies, and the removal of restrictions and limitations. Factors
detrimental to the growth of FDIs include necessities of differential performance and
limitations related with ownership patterns.

Other categorizations of FDI exist as well. Vertical Foreign Direct Investment takes
place when a multinational corporation owns some shares of a foreign enterprise,
which supplies input for it or uses the output produced by the MNC.

Horizontal foreign direct investments happen when a multinational company carries out
a similar business operation in different nations.

Foreign Direct Investment is guided by different motives. FDIs that are undertaken to
strengthen the existing market structure or explore the opportunities of new markets
can be called “market-seeking FDIs.” “Resource-seeking FDIs” are aimed at factors of
production which have more operational efficiency than those available in the home
country of the investor.

Some foreign direct investments involve the transfer of strategic assets. FDI activities
may also be carried out to ensure optimization of available opportunities and
economies of scale. In this case, the foreign direct investment is termed as “efficiency-
seeking.”

Definition of Foreign Direct Investment

Foreign direct investment is that investment, which is made to serve the business interests of the
investor in a company, which is in a different nation distinct from the investor's country of
origin.

A parent business enterprise and its foreign affiliate are the two sides of the FDI relationship.
Together they comprise an MNC. The parent enterprise through its foreign direct investment
effort seeks to exercise substantial control over the foreign affiliate company. 'Control' as
defined by the UN, is ownership of greater than or equal to 10% of ordinary shares or access
to voting rights in an incorporated firm. For an unincorporated firm one needs to consider an
equivalent criterion.

Ownership share amounting to less than that stated above is termed as portfolio investment
and is not categorized as FDI.

Classification of Foreign Direct Investment

Foreign direct investment may be classified as Inward or Outward.

Foreign direct investment, which is inward, is a typical form of what is termed as 'inward
investment'. Here, investment of foreign capital occurs in local resources.

The factors propelling the growth of Inward FDI comprises tax breaks, relaxation of existent
regulations, loans on low rates of interest and specific grants. The idea behind this is
that, the long run gains from such a funding far outweighs the disadvantage of the
income loss incurred in the short run. Flow of Inward FDI may face restrictions from
factors like restraint on ownership and disparity in the performance standard.

Foreign direct investment, which is outward, is also referred to as “direct investment abroad”.
In this case it is the local capital, which is being invested in some foreign resource. Outward
FDI may also find use in the import and export dealings with a foreign country. Outward FDI
flourishes under government backed insurance at risk coverage.

Benefits of Foreign Direct Investment


One of the advantages of foreign direct investment is that it helps in the economic
development of the particular country where the investment is being made.

This is especially applicable for the economically developing countries. During the decade of
the 90s foreign direct investment was one of the major external sources of financing for most
of the countries that were growing from an economic perspective. It has also been observed
that foreign direct investment has helped several countries when they have faced economic
hardships.

An example of this could be seen in some countries of the East Asian region. It was observed
during the financial problems of 1997-98 that the amount of foreign direct investment made in
these countries was pretty steady. The other forms of cash inflows in a country like debt flows
and portfolio equity had suffered major setbacks. Similar observations have been made in Latin
America in the 1980s and in Mexico in 1994-95.

Foreign direct investment also permits the transfer of technologies. This is done basically in the way
of provision of capital inputs. The importance of this factor lies in the fact that this transfer of
technologies cannot be accomplished by way of trading of goods and services as well as
investment of financial resources. It also assists in the promotion of the competition within the
local input market of a country.

The countries that get foreign direct investment from another country can also develop the
human capital resources by getting their employees to receive training on the
operations of a particular business. The profits that are generated by the foreign direct
investments that are made in that country can be used for the purpose of making contributions
to the revenues of corporate taxes of the recipient country.

Foreign direct investment helps in the creation of new jobs in a particular country. It also helps
in increasing the salaries of the workers. This enables them to get access to a better lifestyle
and more facilities in life. It has normally been observed that foreign direct investment allows
for the development of the manufacturing sector of the recipient country.

Foreign direct investment can also bring in advanced technology and skill set in a country.
There is also some scope for new research activities being undertaken.

Foreign direct investment assists in increasing the income that is generated through revenues
realized through taxation. It also plays a crucial role in the context of rise in the productivity of
the host countries. In case of countries that make foreign direct investment in other countries
this process has positive impact as well. In case of these countries, their companies get an
opportunity to explore newer markets and thereby generate more income and profits.

It also opens up the export window that allows these countries the opportunity to cash in on
their superior technological resources. It has also been observed that as a result of receiving
foreign direct investment from other countries, it has been possible for the recipient countries
to keep their rates of interest at a lower level.

It becomes easier for the business entities to borrow finance at lesser rates of interest. The
biggest beneficiaries of these facilities are the small and medium-sized business enterprises.
Foreign Direct Investment among
Countries

Movement of Foreign Direct Investment across countries in the world in the last couple of years
presents an interesting phenomenon. FDI increased by 5% worldwide in the year 2007. Ireland
recorded a drop of 5% in new Foreign Direct Investment projects. The corresponding fall for jobs
created was 40%.

As per data released by a global consultancy firm, cross-border FDI flow increased by 5.1% the
world over in 2007 and stood at US$947 billion. Estimates put the number of FDI projects
announced in 2007 at 11,574.

In Ireland 87 companies announced 98 investment projects in 2007. It was a 5% slid from


comparable 2006 figures. Ireland attracted foreign capital investment to the tune of $2.06 billion in
2007.

IT services and Software were the key areas accounting for a lion's share of the FDI flow into
Ireland in 2007. The big players in the field of FDI flow to Ireland in 2007 comprised Royal Bank of
Scotland, Wyeth and IBM.

Dublin, Shannon and Cork roped in most of the inward investments in Ireland. In 2007 Ireland
recorded a new trend, of high value sectors of the economy registering an increased investment
flow.

In 2007 China succeeded in retaining its 2006 ranking as the country in the world, which attracted
the highest level of multinational investment. The number of FDI related projects stood at 1,171.
The level of investment in 2007 stood at US$90 billion in comparison to the US$116 billion that was
registered in 2006. China also recorded substantial job creation in 2007. Out of an estimated 1.2
million jobs created in the Asia-Pacific region, 366,000 were credited to China.

In 2007 USA stood second in terms of number of projects, which stood at 783. It was however
placed in the third position in regards to the associated investment value, which stood at US$46.8
billion. In terms of jobs created USA was way back in the sixth position with a figure of 107,141.

As compared to 2006 India slid one place to the third position in terms of projects, which numbered
676. In terms of jobs created India dropped to the second position in 2007 from being the first in
2006. Jobs created stood at 246,361. In comparison to 2006 it was a 45% decline in job creation
for the Indian job market in 2007.

UK was at fourth position in terms of number of projects, which were 622 in 2007. In comparison to
2006, 2007 saw a sharp decline in the projected investment value (which stood at US$18.7 billion)
and in the number of employment generated (which was 50,000).

The two UK regions accounting for the highest amount of FDI flow in 2007 were South East England
and London. They accounted for over 300 projects in that period.

2007 effectively saw UK regaining its hold as knowledge based economy. The emphasis shifted from
factors like incentives and low costs to issues like skills, business opportunities, R&D and regulatory
environment.

The same kind of trend was reflected by other front ranking Western European nations like
Germany and France.

Growth of investment in Europe in 2007 was largely powered by the Eastern European nations and
stood at US$291 billion.
In 2007 Russia retained its position as the leading destination in Europe for FDI regarding
investment and job creation.

Spain, Poland and Romania were the other European nations, which gave a good performance in
2007 and were enlisted within the top 10 performing nations.

With the global economy facing the brunt of financial instability in 2008, FDI is projected to become
an important instrument for fostering global job creation and investment of capital.

The challenge for policy makers in 2008 is to build up a business environment, which is competitive
as well as flexible. Economic policies of nations need to be conducive for investment. Side by side
they need to possess an efficient regulatory framework for the promotion of market security as well
as the disbursement of long run economic benefits among the populace

Low Income Countries in Global FDI


Race

The situation of foreign direct investment has been relatively good in the recent times with
an increase of 38%. Normally, the foreign direct investment is made mostly into the
extractive industries. However, now the foreign direct investors are also looking to pump
money into the manufacturing industry that has garnered 47% of the total foreign direct
investment made in 1992.

However, the situation has not been the same in the countries with a middle income range. The
middle income countries have not received a steady inflow of foreign direct income coming
their way. The situation is comparatively better in the low income countries. They have had an
uninterrupted and continually increasing flow of foreign direct investment. It has been
observed that the various debt crises, as well as, other forms of economic crises have had less
effect on these countries.

These countries had lesser amounts of commercial bank obligations, which again had been
caused by the absence of proper financial markets, as well as the fact that their economies
were not open to foreign direct investment. During the later phases of the decade of 70s the
Asian countries started encouraging foreign direct investments in their economies. China has
received the most of the foreign direct investment that was pumped into the countries with low
income. It accounted for as much as 86% of the total foreign direct investment made in the
lower income countries in 1995.

The economic liberalization in China started in 1979. This led to an increase in the foreign direct
investment in China. In the years between 1982 and 1991 the average foreign direct
investment in China was US$ 2.5 billion. This average increased by seven times to
become US$ 37.5 billion during 1995. A significant amount of the foreign direct
investment in China was provided in the industrial sector. It was as much as 68%. Around 20%
of the foreign direct investment of China was made in the real estate sector. During the same
period Nigeria had been the second best in terms of receiving foreign direct investment.

In the recent times India has risen to be the third major foreign direct investment destination
in the recent years. Foreign direct investment started in India in 1991 with the initiation of the
economic liberation. There were more initiatives that enabled India to garner foreign direct
investments worth US$ 2.9 billion from 1991 to 1995. This was a significant increase from the
previous twenty years when the total foreign direct investment in India was US$1 billion. Most
of the foreign direct investment made in India has been in the infrastructural areas like
telecommunications and power. In the manufacturing industry the emphasis has been on
petroleum refining, vehicles and petrochemicals.

Vietnam is a low income country, which is supposed to have the same potential as China to
generate foreign direct investment. The foreign direct investment laws were introduced in
Vietnam in 1987-88. This led to an increase in the foreign direct investment made in the
country. The amount stood at US$ 25 million in 1993 compared to US$ 8 million in 1993. This
amount increased by 3 times after the USA removed its economic sanctions in 1994. The gas
and petroleum industries were the biggest beneficiaries of the foreign direct investment.

Bangladesh started receiving increasing foreign direct investment after 1991, when the
economic reforms took place in the country. After 1991 it was possible for foreign companies to
set up companies in Bangladesh without taking permission beforehand. The foreign direct
investment rose from US$ 11 million in 1994 to US$ 125 million in 1995. As per the available
statistics the manufacturing industry, comprising of clothing and textiles took up 20% of the
total approved foreign direct investment. Food processing, chemicals and electric machinery
were also important in this regard. The increase in the foreign direct investment in Ghana was
remarkable as well. The figures increased from US$11.7 million, on an average, from 1986 to
1992 to US$ 201 million, on an average, from 1993 to 1995. This improvement was brought
about by the privatization of the Ashanti Goldfields.

Disadvantages of Foreign Direct


Investment

The disadvantages of foreign direct investment occur mostly in case of matters related to
operation, distribution of the profits made on the investment and the personnel. One of
the most indirect disadvantages of foreign direct investment is that the economically backward
section of the host country is always inconvenienced when the stream of foreign direct
investment is negatively affected.

The situations in countries like Ireland, Singapore, Chile and China corroborate such an
opinion. It is normally the responsibility of the host country to limit the extent of impact that
may be made by the foreign direct investment. They should be making sure that the entities
that are making the foreign direct investment in their country adhere to the environmental,
governance and social regulations that have been laid down in the country.
The various disadvantages of foreign direct investment are understood where the host country
has some sort of national secret – something that is not meant to be disclosed to the rest of
the world. It has been observed that the defense of a country has faced risks as a result of the
foreign direct investment in the country.

At times it has been observed that certain foreign policies are adopted that are not appreciated
by the workers of the recipient country. Foreign direct investment, at times, is also
disadvantageous for the ones who are making the investment themselves.

Foreign direct investment may entail high travel and communications expenses. The
differences of language and culture that exist between the country of the investor and
the host country could also pose problems in case of foreign direct investment.

Yet another major disadvantage of foreign direct investment is that there is a chance that a
company may lose out on its ownership to an overseas company. This has often caused many
companies to approach foreign direct investment with a certain amount of caution.

At times it has been observed that there is considerable instability in a particular geographical
region. This causes a lot of inconvenience to the investor.

The size of the market, as well as, the condition of the host country could be important
factors in the case of the foreign direct investment. In case the host country is not well
connected with their more advanced neighbors, it poses a lot of challenge for the investors.

At times it has been observed that the governments of the host country are facing problems
with foreign direct investment. It has less control over the functioning of the company that is
functioning as the wholly owned subsidiary of an overseas company.

This leads to serious issues. The investor does not have to be completely obedient to the
economic policies of the country where they have invested the money. At times there have
been adverse effects of foreign direct investment on the balance of payments of a country.
Even in view of the various disadvantages of foreign direct investment it may be said that
foreign direct investment has played an important role in shaping the economic fortunes of a
number of countries around the world.

Determinants of Foreign Direct


Investment

One of the most important determinants of foreign direct investment is the size as well as
the growth prospects of the economy of the country where the foreign direct
investment is being made.

It is normally assumed that if the country has a big market, it can grow quickly from an
economic point of view and it is concluded that the investors would be able to make the most
of their investments in that country.

In case of foreign direct investments that are based on export, the dimensions of the host
country are important as there are opportunities for bigger economies of scale, as well as spill-
over effects.

The population of a country plays an important role in attracting foreign direct investors to a
country. In such cases the investors are lured by the prospects of a huge customer base.

Now if the country has a high per capita income or if the citizens have reasonably good
spending capabilities then it would offer the foreign direct investors with the scope of excellent
performances.

The status of the human resources in a country is also instrumental in attracting direct
investment from overseas. There are certain countries like China that have taken an active
interest in increasing the quality of their workers.

They have made it compulsory for every Chinese citizen to receive at least nine years of
education. This has helped in enhancing the standards of the laborers in China.

If a particular country has plenty of natural resources it always finds investors willing
to put their money in them. A good example would be Saudi Arabia and other oil rich countries
that have had overseas companies investing in them in order to tap the unlimited oil resources
at their disposal.

Inexpensive labor force is also an important determinant of attracting foreign direct


investment. The BPO revolution, as well as the boom of the Information Technology companies
in countries like India has been a proof of the fact that inexpensive labor force has played an
important part in attracting overseas direct investment.

Infrastructural factors like the status of telecommunications and railways play an important
part in having the foreign direct investors come into a particular country.

It has been observed that if the infrastructural facilities are properly in place in a country then
that country receives a substantial amount of foreign direct investment. If a country has
extended its arms to overseas investors and is also able to get access to the international
markets then it stands a better chance of getting higher amounts of foreign direct investment.

It has been observed in the recent years that a couple of countries have altered their stance
vis-a-vis overseas investment. They have reset their economic policies in order to suit the
interests of the overseas investors.

These companies have increased the transparency of the legal frameworks in place. This has
been done so that the overseas companies can understand the implications of their investment
in a particular country and take the appropriate decisions.

Foreign Direct Investment and


Economic Development
Foreign direct investment has a major role to play in the economic development of the host
country. Over the years, foreign direct investment has helped the economies of the
host countries to obtain a launching pad from where they can make further improvements.

This trend has manifested itself in the last twenty years. Any form of foreign direct investment
pumps in a lot of capital knowledge and technological resources into the economy of a country.

This helps in taking the particular host economy ahead. The fact that the foreign direct
investors have been able to play an important role vis-a-vis the economic development of the
recipient countries has been due to the fact that these countries have changed their economic
stances and have allowed the foreign direct investors to come in and improve their economies.

It has often been observed that the economically developing as well as underdeveloped
countries are dependent on the economically developed countries for financial assistance that
would help them to achieve some amount of economical stability.

The economically developed countries, on their part, can help these countries financially by
investing in these countries. This financial assistance can be channelized into various sectors of
the economy. The channelization is normally done on the basis of the requirements of
particular sectors.

It has been observed that the foreign direct investment has been able to improve the
infrastructural condition of a country. There is ample scope of technological development of a
country as well. The standard of living of the general public of the host country could
be improved as a result of the foreign direct investment made in a country. The health
sector of many a recipient country has been benefited by the foreign direct
investment. Thus it may be said that foreign direct investment plays an important role in the
overall economic and social development of a country.

It has been observed that the private sector companies are not always interested in
undertaking activities that help in improving the infrastructure of the country. This is because
the gains form these infrastructural activities are made only in the long term; there are no
short term benefits as such.

This is where the foreign direct investment can come in handy. It can also assist in helping
economically underdeveloped countries build their own research and development
bases that can contribute to the technological development of the country. This is a very crucial
contribution as most of these countries are not able to perform these functions on their own.
These assistances come in handy, especially in the context of the manufacturing and services
sector of the particular country, that are able to enhance their productivity and ultimately
advance from an economic point of view.

At times foreign direct investment could be provided in form of technology. Else, the money
that comes in a country through the foreign direct investment can be utilized to buy or import
technology from other countries. This is an indirect way in which foreign direct investment
plays an important part in the context of economic development. Foreign direct investment can
also be helpful in assisting the host countries to set up mass educational programs that help
them to educate the disadvantaged sections of the society. Such assistance is often provided
by the non-governmental organizations in the form of subsidies. The developing countries can
also tackle a number of healthcare issues with the help of the foreign direct investment.
Foreign Direct Investment Policies

The foreign direct investment policies are the various rules and regulations that have been
laid down by the various countries in order to regulate the overseas investment that is
being made in a country.

The foreign direct investment policies take an important part in determining the amount of
foreign direct investment that comes in a country. These policies play an important part in the
decision making process of the foreign direct investors.

They are normally affected by the foreign direct investment policies that are in place in a
country and make their decision based on these policies. If the policies are suitable enough for
the companies they go ahead with their investment.

The foreign direct investment policies provide the various conditions under which foreign direct
investment may be made in a country. They also state the various situations where exception
would be made to the allowances that are provided to the foreign direct investors.

The foreign direct investment policies are reviewed on a regular basis. The changes that are
made to the policies are also notified through a variety of means like the press notes for
example. There is also some mention in the policies about the various ways in which foreign
direct investment may be made in various sectors.

There are certain conditions where the investors need to seek permission from the various
authoritative figures like the national government or any other entity that is
responsible for looking after the various affairs that are related to foreign direct
investment.

The foreign direct investment policies are made mainly by entities that are responsible for
looking after the matters related to foreign direct investment in a country. The policies may
also be formulated by organizations that are meant to promote the country as foreign direct
investment destination. There are certain objectives behind the foreign direct investment
policies. The makers of these policies have two broad objectives – to promote the investment
opportunities that are present in the country to the overseas investors and strike a balance
between the overseas and local investors.

These policies also have various proposals that are made in order to improve the policies
that are in place for administering the foreign direct investment policies. These
proposals are important as they help in improving the foreign direct investment policy
situations and amend them so that they can appeal to the overseas investors. This would lead
to an increase in the foreign direct investment that is coming into the country. The foreign
direct investment policies also state the various areas where a country's government would not
allow foreign direct investment to be made. Some of those areas are real estate and housing,
gambling, lottery business, betting and chit funds for example.
Certain countries have formulated a number of foreign direct investment acts. These acts lay
down the various conditions where certain companies have to seek permission from important
authorities in order to receive foreign direct investment of any form and shape. There are
certain companies that are granted such permissions but only after they complete certain
formalities.

These formalities also need to be observed even after the permission has been provided to
these companies as far as foreign direct investment is concerned. The various options in which
an overseas investor can gain entry into the market of a country for the purposes of making
foreign direct investment are also mentioned in these foreign direct investment policies.

Foreign Direct Investment and


Infrastructure Development

One of the many areas in which foreign direct investment can benefit a country or any
entity, for that matter, is that of development of infrastructure. It has been observed
over the years, that a lot of countries as well as other recipients of direct investment from
overseas entities have used that money in order to develop the infrastructural facilities at their
disposal.

All the various types of infrastructure that are at the disposal of a country like health or
education, for example, may be benefited by foreign direct investment.

Technological infrastructure is one of the many areas in which foreign direct investment is
meant to benefit a country. With the help of foreign direct investment being made in a country
the government can construct, as well as, improve the existing technological tools at their
disposal.

This in turn also plays a very crucial role in the economic development of a country as this
technological advancement assists a country in upgrading its industries and thus helps them to
face the challenges of the contemporary global economy.

Foreign direct investment is also capable of upgrading the health infrastructure of a particular
country. This could be done by way of providing high-end equipments or medicines.

Such investment is normally made by the world level organizations in countries that
are economically backward and have no or little medical infrastructure to speak of. For
years, the World Health Organization, as well as the World Bank and the International
Monetary Fund have been providing a number of the economically backward countries, all over
the world and especially in Africa, with money and medicines in order to eradicate critical
diseases or improve the medical infrastructure in place.

They have also been sponsoring public health awareness programs that make people aware
about critical diseases that need to be eradicated. In India, for example, pulse polio and HIV
prevention measures have been at the center of such activities.

Communication infrastructure is an important area where the foreign direct investment can
come in handy. The money that is invested in a country by overseas entities can be used for
the construction of roads, railways and bridges.

These facilities are used for establishing connections with the remote areas of a country and
for transporting important services to these parts like medicines and aids at times of floods or
other natural disasters. A lot of construction groups are taking active interest in developing the
communicational infrastructure of other countries.

Foreign direct investment is also used for the purpose of educating the unskilled labor force
that is present in a country. In India during the later stages of 80s and 90s there was a
situation whereby there was a huge labor force but it was mostly unskilled and was employed
in the unorganized sector.

It was possible with the help of the financial assistance from the overseas direct investors to
train these people so that they may be capable of being recruited into the industry. Foreign
direct investment is also useful for executing mass educational programs that can educate
those people who remain out of the bounds of conventional and institutional education as they
are not able to afford it or it may not be available in their areas.

Inflows in Foreign Direct Investment

The United States of America has been doing well as far as foreign direct investment is
concerned. It is presently one of the major recipients of foreign direct investment in
the world. However, this position of the USA is corroborated by the decent performance of the
economically developed countries as far as receiving foreign direct investment is concerned.

During the year 2006 the foreign direct investment made in the economically developed
countries has been $800 million. This has been an improvement of 48%.

The amount of foreign direct investment made in the United Kingdom has also been on the
higher side compared to the previous years. The 25 members of the European Union have
received 45% of the total foreign direct investment made in the year 2006.

The foreign direct investment in the members of the Organization for Economic Co-operation
and Development has been far from being impressive. The foreign direct investments made in
these countries have been on a downward slope since 2003.

This situation has been brought about by the relatively unimpressive economic
performance of the significant members of this association in the recent times.
Such a recession in the performance has acted as a hindrance to the external and the internal
investors. The foreign direct investors have not been interested in the companies of these
countries. With regards to foreign direct investment the condition of Japan has been critical in
the recent times. In the year 2006 Japan experienced its first negative cash inflow in 17 years.

In Africa the foreign direct investment has touched new heights. More than $38 billion has
been invested in the recent years and this is a record in itself. This has happened owing to the
increase in the foreign direct investment that is being made in countries that have high oil and
other natural resources.

It has been observed that these countries have been receiving foreign direct investment from
the economically developed, as well as developing countries. The mergers and acquisitions in
the first six months of 2006 have also been three times higher than what they were in the
similar time in 2005. However, it has also been seen that countries that have lesser natural
resources have lesser foreign direct investment.

In the Caribbean and the Latin American region the rate of foreign direct investment has been
on the wane. Mexico and Brazil are the leading countries in this region as far as foreign direct
investment is concerned. The inflows have increased by 6% in Brazil and in Mexico the rate has
been steady.

Chile has experienced a 48% increase in the foreign direct investment being made in their
country. This has been owing to the fact that the mining industry of Chile has had the lion's
share of the reinvested earnings. However, the foreign direct investments made in Argentina
and Chile have gone down by 30% and 52% respectively.

In the countries like Bolivia, Venezuela and Ecuador the governmental stance towards the
extractive industries has changed. They are now pushing for increased revenues, as well as
governmental control. This is expected to have a negative effect on the investors.

In Asia and Oceania the foreign direct investment has been on the higher side. The figure for
2006 was $230 billion and this was an improvement of 15% from 2005. China, Hong Kong and
Singapore have been the leading investment destinations in this area.

In the South Asian region, China and India have been the leading investors. India has invested
twice that what it did in 2005. India has also experienced unprecedented levels of foreign
direct investment in the country. In the West Asian region, countries like Turkey and others
that have vast oil reserves have also been receiving high foreign direct investment.

Foreign Direct Investment in 2007

In the year 2007, world has witnessed an improvement in the total foreign direct
investment by 17.8% compared to 2006. In 2006 the figure was 1305.9 billion dollars
and in 2007 the figure became 1537.9 billion dollars.
Among the developed economies of the world Netherlands has had the highest percentage
increase in the foreign direct investment received. It got 104.2 billion dollars in 2007 compared
to 4.4 billion dollars in 2006. This was an improvement of 2285.1% .

The second in this case has been France, which has collected foreign direct investments worth
123.3 billion dollars, compared to 81.1 billion dollars in 2006. This is an improvement of
52.1%.

The economically developing countries have also been doing well in the recent years in the
context of receiving foreign direct investment. In the year 2006 they received 379.1 billion
dollars through foreign direct investment and in 2007 the amount went up to 438.4 billion
dollars.

This was an increase of 15.7%. The highest grosser in Africa was Morocco, who got 5.2 billion
dollars in 2007 compared to 2.9 billion. This was an increase of 78.6% from 2006. However,
the African continent has received only 35.6 billion dollars in 2007 compared to 35.5 billion
dollars in 2006.

This has meant an improvement of only 0.1%. In Africa the second country in terms of foreign
direct investment has been Egypt. It has earned 10.2 billion dollars in 2007 and in 2006 it had
earned 10 billion dollars by way of foreign direct investment.

In the Latin America and the Caribbean region there has been a marked improvement in the
foreign direct investment received by the country. In 2006 the figure was 83.8 billion dollars
and in 2007 the amount was 125.8 billion dollars.

The leader in this zone has been Brazil with a 99.3% increase in the foreign direct investment
received by Brazil. In 2006 the amount was 18.8 billion dollars and in 2007 the amount was
37.4 billion dollars. In this area Mexico has been the second highest grosser with a 92.9%
increase in the foreign direct investment. It had earned 36.7 billion dollars in 2007 compared
to 19 billion dollars in 2006.

In the Asia and Oceania area there was an improvement of 6.6%. In 2006 the foreign direct
investment was 259.8 billion dollars and in 2007 the amount was 277 billion dollars. Malaysia
has been the leader in Asia and Oceania with foreign direct investment worth 9.4 billion dollars
compared to the 6.1 billion dollars in 2006. This has meant an improvement of 54.4%.

As far as the transitional economies are concerned the foreign direct investment received by
them has been on the higher side in 2007 compared to 2006. In the year 2006 the amount
was 69.3 billion dollars and in 2007 the amount stood at 97.6 billion dollars.

This was an improvement of 40.8 billion dollars. The Russian Federation has been the highest
grosser in this region. It had earned 28.7 billion dollars in 2006 and in 2007 it earned 48.9
billion dollars by way of foreign direct investment. This was an improvement of 70.3%.

FDI IN INDIA AND US


India and the US have multi faceted relations in the field of politics, economics and
commerce. India-US economic relations in the form of bilateral investments and trade
constitute important elements in India-US bilateral relations particularly because India is now
the second fastest growing economy in the world and USA is the world's largest economy.

Economic Reforms introduced since 1991 have radically changed the course of the Indian
economy and has led to its gradual integration with the global economy. The effect of this
reform process on trade and investment relation with US is profound. USA is the largest
investing country in India in terms of FDI approvals, actual inflows, and portfolio investment.
US investments cover almost every sector in India, which is open for private participants.
India's investments in USA are picking up. USA is also India's largest trading partner. By 2003,
India became the 24th largest export destination for the US. In terms of exports to the US,
India now ranks eighteenth largest country.

US investment in India
With regards to FDI U.S. is one of the largest foreign direct investors in India. The stock of
actual FDI Inflow increased from U.S. $11.3 million in 1991 to US $4132.8 million as on August
2004 recording an increase at a compound rate of 57.5 percent per annum. The FDI inflows
from the US constitute about 11 percent of the total actual FDI inflows into India.

Top sectors attracting FDI from USA are: Fuels (Power & Oil Ref.) (35.93%), Telecommunications
(radio paging, cellular mobile & basic telephone services (10.56%) Electrical Equipment
(including Computer Software & Electronics) (9.50%), Food Processing Industries (Food
products & marine products) (9.43%), and Service Sector (Fin. & Non-Fin. Services) (8.28%).

India's investment in US
India's direct investment abroad was initiated in 1992. Streamlining of the procedures and
substantial liberalization has been done since 1995. As of now, Indian
corporate/Registered partnership firms are allowed to invest abroad upto 100% of
their net worth and are permitted to make overseas investments in business activity.

The overall annual ceiling on overseas investment and also the requirement of prior approval of
RBI for diversification of activity and for transfer by way of sales of shares have been done
away with. The need for opening up the regime of Indian investments overseas has been the
need to provide Indian industry access to new markets and technologies with a view to
increasing their competitiveness globally

Since 1996 and upto September 2004, the total approved Indian investment abroad
amounts to US $ 11083.11 mln, of which 60.9% has been the actual outflow. US share
($ 2080.367 mln.) constitutes 18.77% of the total approval. Since 1996, USA attracted highest
Indian direct investments (US$ 2080.367 mn) followed by Russia (US$ 1751.39 mn), Mauritius
(US$ 948.864 mn) and Sudan (US$ 912.03 mn). India's outgoing investments has been
largest in the field of manufacturing (54.8%) followed by non-financial services including
software development (35.4%).

In the current financial year 2004-05(April- August, 2004) actual outflows from India on
account of overseas investment was US$ 575.14 million as compared to US$ 384.49 million in
the corresponding period of last year. In the current year, USA attracted highest Indian direct
investments (US$ 125.4 mn) followed by Australia (US$ 116.33 mn), Kazakhstan (US$ 39.05
mn) and Hong Kong (US$ 28.49 mn). India's outgoing investments was largest in the field of
manufacturing at US$ 279.07 million followed by non-financial services (including software
development) at US$ 75.27 million, Others at US$ 61.27 million and Trading Sector at US$
30.3 million. The returns on account of repatriation of dividend, royalty, consultancy fee etc.
from overseas JV/WOS during April-August, 2004 amounted to US$ 40.87 million.

The US investor community is increasingly sharing confidence in the future of the Indian
economy presently. The growing synergy between the two countries in the technology sectors
and mutually shared respect for democracy, rule of law and well established business practices
have considered the two countries natural business partners from time to time.

Foreign Direct Investment in India

FDI has helped the Indian economy grow, and the government continues to encourage
more investments of this sort – but with $5.3 billion in FDI in 2004 India gets less than
10% of the FDI of China.

Foreign direct investment (FDI) in India has played an important role in the development of the
Indian economy. FDI in India has – in a lot of ways – enabled India to achieve a certain degree of
financial stability, growth and development. This money has allowed India to focus on the areas that
may have needed economic attention, and address the various problems that continue to challenge
the country.

India has continually sought to attract FDI from the world’s major investors. In 1998 and 1999, the
Indian national government announced a number of reforms designed to encourage FDI and present
a favorable scenario for investors.

FDI investments are permitted through financial collaborations, through private equity or
preferential allotments, by way of capital markets through Euro issues, and in joint ventures. FDI is
not permitted in the arms, nuclear, railway, coal & lignite or mining industries.

A number of projects have been announced in areas such as electricity generation, distribution and
transmission, as well as the development of roads and highways, with opportunities for foreign
investors.

The Indian national government also provided permission to FDIs to provide up to 100% of the
financing required for the construction of bridges and tunnels, but with a limit on foreign equity of
INR 1,500 crores, approximately $352.5m.

Currently, FDI is allowed in financial services, including the growing credit card business. These
services include the non-banking financial services sector. Foreign investors can buy up to 40% of
the equity in private banks, although there is condition that stipulates that these banks must be
multilateral financial organizations. Up to 45% of the shares of companies in the global mobile
personal communication by satellite services (GMPCSS) sector can also be purchased.

By 2004, India received $5.3 billion in FDI, big growth compared to previous years, but less than
10% of the $60.6 billion that flowed into China. Why does India, with a stable democracy and a
smoother approval process, lag so far behind China in FDI amounts?

Although the Chinese approval process is complex, it includes both national and regional approval in
the same process.

Federal democracy is perversely an impediment for India. Local authorities are not part of the
approvals process and have their own rights, and this often leads to projects getting bogged down
in red tape and bureaucracy. India actually receives less than half the FDI that the federal
government approves.
Sectoral Performance through
Inflows of Foreign Direct
Investment

As per the reports of the UNCTAD or United Nations Conference on Trade and Development,
it is pretty clear that the sectoral performance of the inflows of foreign direct
investment is not always as good as it is expected to be.

For example, in 1999 the foreign direct investment in India went down to 2.2 billion dollars
compared to 2.6 billion dollars in 1998.

This should not have been the case as the economic liberalizations had been effected and a
better performance was being expected on the foreign direct investment front. This is all the
more surprising in the context of the fact that the foreign direct investment made in India had
gone up from 2.4 billion dollars in 1996 to 3.6 billion dollars in 1997.

During the same period in 1998, the total foreign direct investment made in the world has
experienced a major rise. The amount had gone up to 644 billion dollars and this was an
increase of 40%. In 1999 the total foreign direct investment of the world reached 865 billion
dollars.

It was an increase of 27%. The foreign direct investment in the health sector has picked up in
the recent years. This has been, to a large extent, owing to the General Agreement on Trade in
Services, which has sought to liberalize the trading of services.

This agreement recognizes the foreign direct investment to be an important part of the trade
agreements. However, there are some important areas in this case that need to be
looked at and considered carefully. The various details of the agreement like the
commodities and type of negotiation are extremely important in this case and the performance
of the foreign direct investment would depend highly on these factors.

There has been a huge amount of foreign direct investment in the power markets around the
world. This is applicable for the economically developing as well as developed countries. As far
as the economically developing countries are concerned the Chinese power sector has been
one of the major names.

During 2002 the Chinese power sector received 52.7 billion dollars in foreign direct investment.
The United States of America is one of the leading names when it comes to receiving foreign
direct investment in the economically developed countries is concerned. However, it is
expected that in the near future China would leave the USA behind in terms of receiving
foreign direct investment in the power sector.

The sectoral performance of the foreign direct investment in case of the service sector has
been comparatively limited in the economically developing countries. This is all the more
applicable for the countries in the South-East Asian region like Sri Lanka, Bangladesh, India,
Nepal, and Pakistan.

All of these countries, with the exception of Nepal, have liberalized certain sections of their
service sectors for the foreign direct investors. This has also reflected in the sectoral
performance statistics of the foreign direct investors in the country. Overall, in 2005 the South-
East Asian countries have received 30 billion dollars in foreign direct investment and the
investments have mostly been in the financial, telecommunications, construction and
transportation service sectors.

Trends in Global Foreign Direct


Investment

Flow of Foreign Direct Investment has grown faster over recent past. Higher flow of Foreign
Direct Investment over the world always reflect a better economic environment in the
presence of economic reforms and investment-oriented policies.

Global flow of foreign direct investment reached at a record level of $ 1,306 billions in the year 2006.
Increase in FDI was largely fuelled by cross boarder mergers and acquisitions (M&As). FDI in 2006
increased by 38% than the previous year.

Most of the developing and least developed countries worldwide equally participated in the process of
direct investment activities.
 FDI inflows to Latin American and Caribbean region increased by 11 percent on an average in
comparison to previous year.
 In African region FDI inflows made a record in the year 2006.
 Flow of FDI to South, East and South East Asia and Oceania maintained an upward trend.
 Both Turkey and oil rich Gulf States continued to attract maximum FDI inflows.
 United States Economy, being world’s largest economy also attracted larger FDI inflows from Euro
Zone and Japan.

The following diagram shows the annual Growth of FDI inflows over the
world:
Higher inflows of FDI to a country largely generates employment in the nation. FDI in manufacturing
sector creates more employment opportunities than to any other sectors.

For the year 2006, countries such as Luxembourg, Hong Kong China, Suriname, Iceland and Singapore
ranked in the top of Inward performance Index Ranking of the UNCTAD.

Over recent years most of the countries over the world have made their business environment
investment friendly for absorbing global opportunities by attracting more investable funds to the
country

Steps to attract FDI

Promotional efforts to attract foreign direct investment (FDI) have become the important point of
competition among developed and developing countries. This competition is also maintained when
countries are adopting economic integration at another level. While some countries lowering
standards to attract FDI in a "race to the bottom," others praise FDI for raising standards and
welfare in recipient countries.

There are several trends, which are reinforcing traditional impulses for foreign direct investment that
is access to natural resources, markets, and low-cost labor. With the rise of globalization
technological progress allows for the separation of production into more discrete phases across
national barriers. Expansion in Information and communication technologies, Improvement in
logistics necessarily allow production to be close to markets while taking advantage of the specific
characteristic of individual production locations.

Countries have adopted their respective policies for attracting more investment. Some countries rely
on targeted financial concessions like tax concessions, cash grants and specific subsidies. Some
countries focus on improving the infrastructure and skill parameter and creating a base meet the
demands and expectations of foreign investors. Others try to improve the general business climate
of a country by changing the administrative barriers and red tapism. Many governments have
created state agencies to help investors through this administrative paperwork. Finally most of the
countries have entered into international governing arrangements to increase their
attractiveness for more investment.

"Better Investment Climate" Need of the Hour.

Sound investment climate is crucial for economic growth. Microeconomic reforms aimed at
simplifying business regulations, strengthening property rights, improving labor market flexibility,
and increasing firms' access to finance are necessary for raising living standards and reducing
poverty in a country.

Reform is necessary for creating an investment-oriented climate. Reform management matters as


investment climate reforms are done politically. They often favor unorganized over organized groups
and the benefits tend to accrue only in the long term, while costs are felt up front. Political decisions
play a significant role in this context.

Each and every countries over the globe are stepping forward to change the climate for attracting
more investment. Opening up of doors by most of the nations have compelled them for adopting
reforms.