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Multinationals and Foreign Direct Investment

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Of the world's 100 largest economic entities, 51 are now corporations and 49 are ... Location advantages explain why firms choose FDI over exports. ... – PowerPoint PPT presentation

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Title: Multinationals and Foreign Direct Investment


1
Multinationals and Foreign Direct Investment
  • An Overview

2
Whats a corporation?
  • A legal entity created under the laws of a state,
    consisting of a person or group of people
    (shareholders)
  • Whats so special about a corporation?
  • Legally, a corporation is like a person
  • After birth, it is independent of its
    owners/investors it exists as a separate entity,
    even when shareholders die or sell their shares.
    It dies when the shareholders decide to dissolve
    it or merge it with another business.
  • While alive, the corporation has a variety of
    rights it can enter into contracts, sue, pay
    taxes separately from its owners, and do any
    other things necessary to conduct business.
  • It also has responsibilities the corporation,
    and not the shareholders, is liable for the
    business debts and obligations (limited
    liability).

3
Whats an MNE? Whats an MNC?
  • MNE multinational enterprise a firm, either
    incorporated or not, with productive activities
    crossing at least one national border.
  • MNC multinational corporation a corporation
    with productive activities located in at least
    two different nations.
  • Is an MNC a subcategory of MNE or the other way
    around?
  • Examples of productive activities
  • Extraction and assembly
  • Management
  • Research and development (RD)
  • Technical services
  • Bottom line MNEs (and MNCs) are firms involved
    in foreign direct investment (FDI).

4
Whats foreign direct investment (FDI)?
  • FDI
  • investment that attains a certain degree of
    managerial control over assets and operations in
    a foreign country
  • internationalization of production
  • 10 rule
  • According to the World Bank, a foreign investment
    counts as foreign DIRECT investment (FDI) when
    the investor controls more than 10 of the of the
    foreign subsidiary.
  • What does this rule really mean?
  • Home country
  • the country where the investment originates the
    country where the parent firm is located
  • Host country
  • The country that receives the investment the
    country where the subsidiary is located

5
Different types of FDI
  • Based on industry
  • Primary sector FDI
  • Investment in extractive industries and
    agriculture
  • Secondary sector FDI
  • Investment in manufacturing enterprises
  • Tertiary sector FDI
  • Investment in services, ranging from hospitality
    and tourism, to retail, to banking and finance.
  • Based on mode of integration
  • Vertically integrated FDI
  • Different stages of the production process WITHIN
    A FIRM are located in different countries.
    Examples?
  • Horizontally integrated FDI
  • The firm produces similar goods at different
    locations. Examples?
  • Based on firms goals
  • Resource-seeking
  • Efficiency-seeking
  • Market-seeking

6
Why bother with FDI?
  • There are approximately 64,000 MNEs in the world
    today. Their approximately 700,000 foreign
    affiliates employ some 53 million people (UNCTAD
    2007).
  • MNEs are powerful actors in the global arena
    (UNCTAD 2007)
  • The 100 largest MNEs now control about 20 percent
    of global foreign assets 300 MNEs now account
    for 25 of the worlds total assets.
  • As much as 40 percent of world trade now occurs
    within these top MNEs.
  • Of the world's 100 largest economic entities, 51
    are now corporations and 49 are countries.

7
Why bother with FDI?
  • FDI accounts for the largest share of
    cross-border capital transfers (WIR 2006)
  • FDI inflows reached US 1.2 trillion in 2006, up
    from US 916 billion in 2005. Of this, two-thirds
    (US 800 billion) went to developed countries
  • In 2006, inward stock of FDI to developing
    countries amounted to about one third of their
    GDP, compared to just 10 per cent in 1980.

8
FDI stock for some major countries at the end of
1997 (UNCTAD 1998)
  • Country Source (b) Host (b) Host FDI/GDP
  • U.S. 907.5 720.8 8.3
  • Japan 284.6 33.2 0.7
  • Germany 326.0 137.7 5.9
  • U.K. 413.2 274.4 20.5
  • Canada 137.7 137.1 22.0
  • Netherlands 213.2 127.9 30.4
  • Switzerland 156.7 56.5 18.0
  • France 226.8 174.2 10.1
  • Italy 125.1 78.5 7.4
  • Australia 52.4 126.3 29.7
  • R. of Korea 18.0 14.8 2.6
  • Thailand 3.8 23.1 11.6
  • China 20.4 217.3 24.7
  • Taiwan 34.2 19.8 7.3
  • India 0.6 11.2 2.6
  • Mexico 3.3 86.8 22.3

9
Why bother with FDI?
  • What do you think?

10
Why does FDI exist?
  • What do you think?
  • Because the costs firms pay to internationalize
    production are lower than the benefits.
  • What are some costs?
  • What are some benefits?
  • What do international business scholars think?
  • That the OLI framework explains the
    internationalization of production. (Dunning
    1981)
  • OLI stands for
  • Ownership advantages from going multinational
  • Location advantages from going multinational
  • Internalization advantages from going
    multinational

11
Why does FDI exist?
  • OLI stands for
  • Ownership advantages from going multinational
  • Location advantages from going multinational
  • Internalization advantages from going
    multinational
  • These advantages come from a firms proprietary
    assets, which have the following properties
  • the firm owns or can appropriate the assets or
    their services
  • they can differ in productivity from comparable
    assets owned by competing firms
  • the assets or their productivity are mobile
    across national markets
  • they may be depreciable, but their lifespan is
    not short relative to the horizon of the firms
    investment decision
  • What are some examples?

12
Why does FDI exist?Ownership advantages
  • The firm owns a proprietary asset, not available
    to other firms in the host country.
  • When it comes to FDI, such assets are
  • Technology
  • Managerial know-how
  • Marketing tools
  • Brand names

13
Why does FDI exist?Location advantages
  • The production processes that use the proprietary
    asset are efficiently distributed across national
    markets.
  • Efficient distribution asset is used so that it
    maximizes revenue and minimizes cost.
  • Efficient distribution depends on host country
    characteristics
  • input availability and cost
  • market size
  • transport costs
  • consumer incomes and preferences
  • policies that encourage or discourage FDI
  • quite importantly, the structure of trade
    barriers
  • Location advantages explain why firms choose FDI
    over exports.
  • How does each of the factors above affect the
    choice between FDI and trade?

14
Why does FDI exist?Internalization advantages
  • The use of the proprietary asset is more
    efficiently managed within the owning firm than
    by renting it to another firm.
  • This explains why a firm chooses FDI over
    licensing (selling access to) its technology or
    products to firms in other countries.
  • Benefits of licensing
  • Provides revenues without exposure to the costs
    of FDI.
  • Downside of licensing
  • Difficult to define and enforce contracts
  • Difficult to establish a market price for the
    license
  • Difficult to avoid opportunistic behavior by
    licensees
  • Given these benefits and downsides of licensing,
    under what circumstances do you think firms will
    prefer FDI?

15
Topics in the study of FDI Causes
  • The OLI framework describes the economic
    component of FDI.
  • Some of the political issues we study in
    conjunction with FDI are
  • Bargaining between host countries and MNCs
  • Ramamurti (2001)l Fagre and Wells (1982)
  • Political conditions in the host country
  • Regime type Li and Resnick (2003) Jensen (2003)
  • Government ideology Pinto and Pinto (2006)
    Jensen (2007)
  • Veto players Henisz (various years)
  • Relationships between host and home countries
    (investment treaties)
  • Tobin (2004) Milner (2005)
  • Host government policies
  • Expropriation Kobrin (1980, 1984) Minor (1994)
    Li (2007)
  • Regulation of FDI Pandya (2007)

16
Topics in the study of FDI Consequences
  • Macro-level consequences
  • Human welfare consequences
  • Effects on individual attitudes
  • Political consequences
  • (More on this next week)
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