Topic Name :
Foreign Direct Investment
Submitted by :
Komal Manoj Patil
MBA Finance ( JDBIMS )
Introduction :
Foreign direct investment (FDI) is the process whereby residents of one country acquire ownership of assets in another country for the purpose of controlling the production, distribution and other activities of a firm in that country.
In the global economy, different countries pay a great deal of attention to foreign direct investment, as these investments play a key role in economic development. Among the main advantages of FDI can be mentioned technology transfer, promotion of competition in the country, creation of new jobs, growth of host countries etc.
It brings about the benefits of providing advance technology spill over, a new source of capital inflows, products and process into the host countries. In addition, the specialized knowledge and the managerial expertise of the foreign firm can be widely transferred into the host country. Foreign direct investment has fluctuated over time in response to the changes in the investment environment.
Objective :
1. To study Foreign Direct Investment (FDI)
2. To identify the role and importance of Foreign Direct Investment (FDI )
1. Factors Affecting FDI
As per Koy, 2018 following are the factors affecting FDI
• Market size
Host countries should possess a market size that is large enough to meet the requirements of satisfactory domestic demand for products to allow production to take place in the host country.
Reduction in the cost of entry through the economy’s scale can be exploited in larger markets.
Market factor is mainly used as a determinant of FDI flow to the manufacturing sector.
Exchange rate
There are two reasons why the level of the exchange rate in the host country can affect the flow of FDI from foreign investors into the country. First, devaluation in the currency of the host country leads to the reduction in the production cost of the foreign investor in terms of the home country’s currency, therefore, MNCs who are export-oriented can reap a large profits from it. Second, the exchange rate can influence the purchasing power of MNCs in acquiring domestic assets expressed in local currency.
Corporate tax rate
Corporate tax rate is an important factor that points to the attractiveness of the host country in attracting foreign direct investors. A decrease in the tax level in the host country is a valuable incentive for FDI in the country
Cost of Borrowing
The higher the interest rates in the host country, the greater the attractiveness of the country as host to FDI. Large amounts of fund can be raised from the financial system in the host country, so that the higher cost of capitals of host the country can negatively affect the amount of FDI flow into the host country.
2. Foreign direct investments and employment
According to Suyunov, A. (2022), A growing body of literature investigated the link between FDIs and their impact on the unemployment rate. There are a vast number of empirical studies reporting positive effects on employment resulted from FDI inflow. Affecting primarily through the transfer of capital and technology, the FDI can affect productivity since businesses’ employment decisions, which influences overall employment, are primarily determined by labour productivity.In this case, FDI inflows do not result in job creation. As foreign enterprises take control of local companies, they introduce technological advancements and automation to increase firm performance that drive job destruction due to the replacement of labour with robots.
3. Relationship Between FDI and Economic Growth
Saravanan (2021) says, FDI inflows are undeniable on the grounds that it adds to monetary development through an expansion in profitability by giving new speculation, better, advancements and administrative abilities to the host nations, However, the impact of FDI on local venture is an issue of concern in light of the fact that there is a probability of dislodging of residential capital because of rivalry from outside financial specialists with their unrivaled innovations and aptitudes. As a major aspect of advancement nations, South Asian economies were additionally worried about issues relating to outside private capital inflows and exchange progression at first. Notwithstanding, they later moved to change their exchange and venture strategies to incorporate different speculation motivators, especially, for remote financial specialists. In this way, it is essential to investigate the effect of FDI on the development procedure, quantitatively, in South Asian economies for a superior comprehension about the linkages among FDI and financial development.
4. FDI Inflows to Emerging Markets and Commodity Exporters
Chipalkatti (2021) says, For emerging markets, the climate risk variable (GCRI) is not significant. The coefficient on CO2PC is positive and significant, suggesting that emerging markets with higher carbon emissions are incrementally associated with higher FDI inflows. In the case of the governance variable, the coefficient on GOVERN is not significant indicating that governance does not matter for FDI inflows to these emerging market economies. Finally, the coefficient on the human development variable (HDI) is significantly negatively associated with FDI inflows indicating that higher levels of HDI deter FDI inflows to middle- and low-income emerging market economies relative to the full sample of countries. Trade openness (TRADEGDP) does not impact FDI inflows.
5. COVID-19 Pandemic and FDI
Camino-Mogro ( 2021 ) says, Due to Covid-19, a simultaneous demand and supply shock, affected international trade, where FDI flows began to decline because of the uncertainty surrounding the reaction of markets to the lockdown and the duration of the lockdown in each country. This decline began in developed economies but affected mainly developing countries. A recent report by the ECLAC (2020) mentions that the crisis caused by COVID-19 has strongly affected FDI and that these effects can be long lasting. These effects were felt more strongly in 2020 because of the different transmission mechanisms that was negative. In this sense, we expect that COVID-19 would have a negative impact on FDI flows worldwide, particularly in developing economies because of their limited capacity to manage crises properly.
6. Relationship between Institutional Quality and FDI
Chen,2021 says First, on the basic relationships between institutional quality and FDI, substantial studies have concluded that institutional quality significantly and positively affects FDI. Second, prior studies primarily employed various data to investigate the effects of various indicators of institutional quality on FDI.
Hypotheses
According to the discussion of the extant literature above, the institutional quality may be vital in appealing to FDI in that favorable administration infrastructure, such as high productivity, is regarded as playing a pivotal role in introducing sustainable foreign investment. On the contrary, low institutional quality, such as poor administrative institutions, will generate extra expenses when investing in overseas countries, given, for instance, the cost of political risks and corruption . Thus, this study puts forward the following hypothesis:
Hypothesis 1 (H1).
The improvement in institutional quality plays a significantly positive role in promoting FDI.
Hypothesis 2 (H2).
The promoting effects of institutional quality on FDI are greater in economic
integration areas.
Hypothesis 3 (H3).
The launch of the BRI positively and significantly contributes to FDI.
7. Effects of Inward Foreign Direct Investment
Hintošová 2021, says that from a host country perspective, several often contradictory effects are connected with inward FDI.
FDI is particularly beneficial for countries with restricted domestic resources to raise funds in international capital markets. Besides capital transfers, FDI is usually connected with a supply of other sources such as technology or managerial skills. Local companies can thus engage in joint projects with foreign investors that would be unattainable for them alone. New operation facilities developed through these projects may then substantially reduce the need to import produced items and at the same time foster exporting. All these effects should subsequently positively affect the balance of payments of the host country as well as its economic growth.
8. Positive and negative effects of inward FDI on a host country
Positive Effects Negative Effects
capital formation wage income inequality
technology or managerial skills transfer increased imports
networking with local companies repatriation of profits
favorable balance of payments and economic growth brain drain
9. Development of Inward Foreign Direct Investment in the World
Hintosova 2021 provides a basic worldwide overview of inward FDI flows and stocks in recent decades. For comparison purposes, inward FDI under the conditions of developed, developing and transition countries are distinguished. In most of the observed period, the drivers of the inflow of foreign direct investment in the world were developed economies. They have been considered as attractive targets for inward FDI due to their favorable political environment, dynamic economies, stable institutions and wealthy domestic markets . However, the trend changed in 2014 when, for the first time, FDI inflows to developing countries exceeded FDI inflows to developed countries, possibly also due to natural resource endowment as one of the significant factors positively determining FDI inflows .
10. FDI IN INDIA
Sukhadolets, says India, like China, is open to FDI, but it is not as susceptible to foreign technology. India has many free trade zones. Because of poor infrastructure, the impact of FDI varied greatly across sectors in regions of India. The research confirmed that the improvement in per capita income, private consumption expenditure, globalization index, and currency value appreciation played a crucial role in increasing FDI inflows into India (Sharma and Kautish 2020). Poverty (PL) was more than halved, from 35% (2005) to 15% (2020), The construction sector investments in 2005–2020 accounted for a significant share of the GDP at 25–30%. Thus, in a linear relationship, we did not observe a change in poverty based on FDI and investment in construction, but cause-and-effect relationships recorded a change in PL and GDP.
In recent years, the Indian Government has been proactively involved in reducing regulatory complexity, strengthening legal institutions and streamlining administrative systems to create a conducive business environment for foreign investors. The results of this study have several implications for policymakers. Over the years, India has successfully improved institutional quality by offsetting high entry (EoSB) and exit barriers (RI), easing trade across borders, overcoming labor market rigidities, and reducing domestic policy uncertainty to facilitate business operations and decrease business costs. Most of the reforms have positive implications for foreign investors but have yet to show a significant impact on FDI inflows. India needs to facilitate business operations and protect foreign investors by further enhancing the institutional quality and significantly promoting free-market mechanisms and an effective legal system to attract more inward FDI
Conclusion
Investment is very important in the development of the economy and is the main factor of economic growth.
FDI is becoming increasingly important for economic growth. Our main conclusion is that, in fact, human capital exerts a positive and significant impact on attracting FDI.
The study also revealed perception of corruption as a major obstacle to boosting foreign investment in the country & gives to governments, institutions and firms an internationalization model for attraction of FDI, that incorporates a Support Structure of FDI Policy, Business facilitators and the more important factors to support the attraction of FDI, the economic determinants, to help and accelerate the economic recovery
References
Koy, P. W., Yahya, M. H., Rahman, R., & Abdul Razak, A. H. (2013). The effect of china and the factors affecting foreign direct investments in asean countries. International Journal of Management Studies, 20(1), 77-108. Retrieved from https://www.proquest.com/scholarly-journals/effect-china-factors-affecting-foreign-direct/docview/2582131722/se-2
Krasniqi, S., & Mehmeti, I. (2021). Role of foreign direct investment in banking sector and their impact on employment: Kosovo case. International Journal of Business Ecosystem & Strategy, 3(1), 50-58. doi:http://dx.doi.org/10.36096/ijbes.v3i1.241
Suyunov, A. (2022). Do foreign direct investments and bank credits affect employment in uzbekistan? Journal of Economics and Development, 24(2), 98-111. doi:http://dx.doi.org/10.1108/JED-06-2021-0082
Saravanan, S., Sukumar, S. N., Raagavendaran, S., & Shammy, T. (2021). Impact of covid-19 on foreign direct investment in india. Turkish Journal of Computer and Mathematics Education, 12(11), 622-626. Retrieved from https://www.proquest.com/scholarly-journals/impact-covid-19-on-foreign-direct-investment/docview/2623918346/se-2
Chipalkatti, N., Quan Vu, L., & Rishi, M. (2021). Sustainability and society: Do environmental, social, and governance factors matter for foreign direct investment? Energies, 14(19), 6039. doi:http://dx.doi.org/10.3390/en14196039
Camino-Mogro, S., & Armijos, M. (2021). Short-term effects of COVID-19 lockdown on foreign direct investment: Evidence from ecuadorian firms. Journal of International Development, doi:http://dx.doi.org/10.1002/jid.3598
Dornean, A., Chiriac, I., & Rusu, V. D. (2022). Linking FDI and sustainable environment in EU countries. Sustainability, 14(1), 196. doi:http://dx.doi.org/10.3390/su14010196
Hintošová, A. B. (2021). Inward FDI: Characterizations and evaluation. Encyclopedia, 1(4), 1026. doi:http://dx.doi.org/10.3390/encyclopedia1040078
Sukhadolets, T., Stupnikova, E., Fomenko, N., Kapustina, N., & Kuznetsov, Y. (2021). Foreign direct investment (FDI), investment in construction and poverty in economic crises (denmark, italy, germany, romania, china, india and russia). Economies, 9(4), 152. doi:http://dx.doi.org/10.3390/economies9040152