1.

FOREIGN DIRECT
INVESTMENT
2. REGIONAL ECONOMIC
INTEGRATION
Lecture Four, 2nd 6th March

PAC, 2nd Semester 2014/2015

Foreign Direct Investment

(FDI)

Introduction

Host and Home country Perspectives of

FDI
Reasons/Determinants for FDI
FDI and Technology Transfer
Requirements of/for Technology Transfer
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Introduction
When a firm invests directly in facilities to
produce or market a product in a foreign
country
Start-up of new operations
Buying into existing companies ( purchases of
more than 10 % of existing companies)
Portfolio investments (stocks, bonds, etc)
FDIs are major avenues for foreign market
entry and expansion and may take two
forms green-field and acquisition

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Benefits and Costs of FDI

Benefits
Host country

Home country

Resource transfer effects

(technology, capital and
management)

BoP benefits if home

country creates demand for
home country exports of
capital equipment,
intermediate goods,
complementary products

Employment effect

Employment effects

Balance of payments effect

Learns valuable skills

through exposure to foreign
markets

Effect on competition and

economic growth

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Benefits and Costs of FDI

Costs
Host country

Home country

Adverse effects on competition

BoP suffers from the initial capital

outflow required to finance the
FDI

Adverse effects on balance of

payments

Current account of the BoP

suffers if the purpose of the
foreign investment is to serve the
home market from a low-cost
production location

National sovereignty and

autonomy

The BoP suffers if the FDI is a

substitute for direct exports

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Reasons/Determinants for
FDI
Marketing factors
Derived demand (herd behaviour), growth &
expansion, govt erected)

Barriers to trade

(circumventing barriers to
trade, domestic protection)

Cost factors
Investment climate

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Summary Table: major determinants of FDI

Marketing
Factors

Cost
Factors

Investment
Climate

General

Govt
erected
barriers to
trade

Desire to be
near source
of supply

General
attitude
toward
foreign
investment

Expected
higher profits

Preference of
local customers
for local
products

Availability of
Labour

Political
stability

Desire to
maintain share
of market

Availability of
raw materials

Limitation on
ownership

Desire to
advance
exports of
parent
company

Availability of
capital/technol
ogy

Currency
exchange
regulations

Need to
maintain close
customer
contact

Lower labour
costs

Stability of
foreign
exchange

Dissatisfaction
with existing
market
arrangements

Lower other
production
costs

Size of
market

Market growth

Export base
Desire to follow

Barriers to
Trade

Tax structure

Lower
Familiarity with
transport costs
country
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Financial (&

Other

FDI & Technology Transfer

Transfer of systematic knowledge for
the
manufacture of a product;
Application of a process;
Rendering of a service

Technology transfer occurs

Formally (licensing, JV, etc)
Informally (reverse engineering, diversions,
industrial espionage)

PAC, 2nd Semester 2014/2015

FDI: the shift to services

FDI is shifting away from extractive industries
and manufacturing, and towards services
The shift to services is being driven by:
The general move in many developed countries toward
services
The fact that many services need to be produced where
they are consumed
A liberalization of policies governing FDI in services
The rise of Internet-based global telecommunications
networks

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Requirements for Technology

Transfer
Availability of suitable technology
Social and economic conditions
favouring transfer
The willingness and ability of the
receiving party to use and adapt
technology
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Regional Economic
Integration
Introduction
Levels of integration
Case for and against regional
integration
EU integration
Other integration arrangements
Implications for managers
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Introduction
Agreements among countries in a
geographic region to reduce and
ultimately remove tariff and NTBs to the
free flow of goods, services and factors of
production between each other
Levels of integration

Free trade area

Customs union
Common market
Economic union
Political union

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Levels of Integration

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Free trade area

All barriers to the trade of goods and
services among member countries
are removed
Each determines its own trade
policies with regard to non-members
Most popular form of integration
NAFTA, EFTA

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Customs Union
Eliminates trade barriers between
member countries and adopts a
common external trade policy

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Common market
Has no barriers to trade between
member countries
Common external trade policy
Unrestricted movement of factors of
production between members (Immigration,
Emigration, cross border flows of capital
between members

Requires significant degree of harmony

and cooperation on fiscal, monetary and
employment policies
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Economic union

Requires a common currency

Harmonization of members tax rates
A common monetary and fiscal policy
Demands high degree of coordination
bureaucracy and the sacrifice of
significant amount of national
sovereignty to that bureauracy

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Political union
A central political apparatus
coordinates the economic, social and
foreign policy of the member states

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Forms of Economic
Integration
States of
Integration

Abolition of
tariffs &
quotas

Common
tariff &
quota
system

Abolition of
restrictions
on factor
movements

Harmonizat
ion &
Unification
of Eco.
Policies &
Institutions

Yes

No

No

No

Yes

Yes

No

No

Common
Market

Yes

Yes

Yes

No

Economic
Union

Yes

Yes

Yes

Yes

Free Trade
Area
Customs
Union

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Case for Regional

Integration
Economic case

Political case

Boost trade through specialization Linking neighboring economies

creates incentives for political
cooperation between countries
and reduces the potential for
violent conflict
FDI advantages (gains from the
free flow of trade and investment
between countries)

Enhances political leverage

through grouping of countries

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Case against Regional

Integration

Benefits determined by extent of trade

creation as opposed to trade diversion
Trade creation occurs:

1. when high cost domestic producers are replaced

by low-cost producers within the FTA
2. higher cost external producers are replaced by
lower cost external producers within the FTA

Trade diversion occurs:

When lower cost external suppliers are replaced by
higher cost suppliers within the FTA

A regional FTA will benefit the world only if

the amount of trade it creates exceeds the
amount it diverts
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European Integration up to mid 1980s

1948: Organization for European Economic
Cooperation (OEEC)
1952: European Coal & Steel Community
(ECSC)
1957: the European Economic Community
(EEC), (Treaty of Rome)
1967: ECSC & EEC and the European Atomic
Energy Community (EURATOM) merged to form
the European Community
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Provisions of the Treaty of Rome

Formation of a free trade area
Formation of a customs union
Formation of a common market
The adoption of a common agricultural policy
The creation of an investment fund to channel
capital from the more advanced to the less
developed regions of the community
Premise of the Treaty of Rome: That the mobility of
goods, services, labour and capital was(is)
important for economic prosperity
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EU Conflicts
Dismantling of trade barriers & competitiveness
Administration of the common Agric. Policy
Price-support system
Direct subsidies to farmers
Rebates to farmers who export or agree to store
farm products rather than sell them within the
community
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EU since the mid 1980s

Cumbersome procedures & restrictions on the
four freedoms
Dissatisfaction and growing global competition
Single European Act
Progress towards movement of goods
Less progress toward free movement of people
EU created and started in 1994 by the
Maastricht Treaty calling for a commitment to
economic and monetary union and move
toward pol. Union with common foreign and
security policy

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Integrated Europe:

Implications

Expected economic growth

Elimination of transactions costs and
gains from trade
Economies of large scale production
Gains from competition

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North American Economic Integration

1989: US-Canada Free Trade Agreement
1991: North American Free Trade
Agreement
Staggered elimination of duty & tariffs
NAFTA opposition
Labour
Environment

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Other Economic Alliances

Latin America
1961: Latin America Free Trade Association
(LAFTA) Elimination of trade barriers
1980: Latin America Integration
Association (LAIA)
1960: Central American Common Market
(CACM), Treaty of Managua

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Integration in Asia
1991: association of South Eastern
Asian Nations (ASEAN)

Asia Pacific Economic Cooperation

(APEC)
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Major Regional Trade Associations

Trade Association

Members

AFTA: ASEAN Free Trade Area

Brunei, Indonesia, Malaysia, Philippines, Singapore, Thailand,

Vietnam

ANCOM: Andean Common Market

Bolivia, Colombia, Ecuador, Peru, Venezuela

APEC: Asia Pacific Economic Cooperation

Australia, Brunei, Canada, Chile, China, Hong Kong,

Indonesia, Japan, Malaysia, Mexico, New Zealand,
Papua New Guinea, Philippines, Singapore, South Korea,
Taiwan, Thailand, United States

CACM: Central American Common Market

Costa Rica, El Salvador, Guatemala, Honduras,

Nicaragua, Panama

CARICOM: Caribbean Community

Antigua & Barduda, Bahamas, Barbados, Belize,

Dominica, Grenada, Guyana, Jamaica, Montserrat, St.
Kitts-Nevis, St. Lucia, St. Vincent, Suriname, TT,
Grenadines

ECOWAS: Economic Community of West African States

Benin, B. Faso, Cape Verde, Gambia, Ghana, Guinea, G.

Bissau, I. Coast, Liberia, Mali, Mauritania, Niger, Nigeria,
Senegal, Sierra Leone, Togo

EU: European Union

Austria, Belgium, Denmark, Finland, France, Germany,

Greece, Ireland, Italy, Netherlands, Luxembourg,
Portugal, Spain, Sweden, UK

EFTA: European Free Trade Association

Iceland, Liechtenstein, Norway, Switzerland

GCC: Gulf Cooperation Council

Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, UAE

LAIA: Latin American Integration Association

Argentina, Bolivia, Brazil, Chile, Colombia, Ecuador,

Mexico, Paraguay, Peru, Uruguay, Venezuela

MERCOSUR: Southern Common Market

Argentina, Brazil, Paraguay, Uruguay

NAFTA: North American Free Trade agreement

Canada, Mexico, United States

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Recent/emerging integration
arrangements
also referred to as mega-regional
agreements

BRICS: Brazil; Russia; India; China; South Africa

CETA: Canada-EU Comprehensive Economic and
Trade Agreement

RCEP: Regional Comprehensive Economic Partnership

TPP: Trans-Pacific Partnership
TTIP: Transatlantic Trade and Investment Partnership
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Economic Integration & the

International Manager

Create a vision of the outcome of the

change
Develop strategic response to the
changed environment for
competitiveness reasons
Company reorganization (ethnocentric: homemarket oriented; polycentric: individual foreign markets;
regio-centric/geocentric: larger areas, global markets
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