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Foreign Direct Investment

2. What is FDI?. 3 components:Equity capitalReinvested earningsIntra-company loansWill all of this data actually be available for analysis?. 3. Defining Characteristics of MNEs. LargerMore productiveStrongerUsually already export/import? What are the implications for firm's ability to rais

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Foreign Direct Investment

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    1. 1 Foreign Direct Investment General Definition Direct investments in productive assets in a foreign country. Practical Definition Many countries differentiate between portfolio investment and FDI using the 10% rule. Often, requires investment ? 10% of total capital of company to be considered FDI. Note: using rules other than 10% doesn’t have a qualitative impact on overall measurements of FDI. Why? Ex: UK used 20% rule until 1997Note: using rules other than 10% doesn’t have a qualitative impact on overall measurements of FDI. Why? Ex: UK used 20% rule until 1997

    2. 2 What is FDI? 3 components: Equity capital Reinvested earnings Intra-company loans Will all of this data actually be available for analysis?

    3. 3 Defining Characteristics of MNEs Larger More productive Stronger Usually already export/import ? What are the implications for firm’s ability to raise capital?

    4. 4 Why do FDI? Arbitrage market imperfections. Leverage firm strengths.

    5. 5 Trade Barriers Why would these lead to FDI? More generally, this shows that government policies towards specific industries can have a profound impact on domestic & foreign investment in those industries. De facto barriers also exist.

    6. 6 Imperfect Labor Market Output = function (capital, labor). Capital is largely location-invariant. Salaries vary widely by location. Non-salary costs associated with labor.

    7. 7 Intangible Assets Internalization theory of FDI: MNEs conduct FDI in order to retain control of intangibles while enjoying benefits of larger markets. My data: all companies have intangibles =7.7% of tangibles (sd = 15.6%); mnes 9.1% (sd = 14.1%); non-mnes 6.8% (sd = 16.4%). This uses intangibles = adv + r&d.My data: all companies have intangibles =7.7% of tangibles (sd = 15.6%); mnes 9.1% (sd = 14.1%); non-mnes 6.8% (sd = 16.4%). This uses intangibles = adv + r&d.

    8. 8 Vertical Integration What is it? How does it change competitive landscape? Backward vs. forward Interesting twist: double marginalization if and only if also have monopoly power.

    9. 9 Product Life Cycle Not same in all countries Example: land-lines vs. cell phones. Example: cell phones in Japan vs. US. Reflects high initial importance of R&D. Later, total costs are more important. This leads to FDI in lower cost countries.

    10. 10 Product Life Cycle

    11. 11 World FDI Inflows & Outflows 2001 saw a 51% decline in inflows and 55% drop in outflows. 1st drop in inflows since 91 and in outflows since 92.2001 saw a 51% decline in inflows and 55% drop in outflows. 1st drop in inflows since 91 and in outflows since 92.

    12. 12 Global Inflows of FDI 1993-2001

    13. 13 Global Outflows of FDI 1993-2001

    14. 14 Net Global Inflows of FDI 1993-2001

    15. 15 Sectoral Allocation of FDI General rules – averaged over time & countries so take cautiously: 35.6% to manufacturing 47.4% to services 17.0% to primary products

    16. 16 Forms of FDI Greenfield investment Build new production facilities in foreign country. M&A Buy existing businesses in foreign countries WFOE vs. JV Some countries specify 2+ types of JVs. M&A = 82% of all FDI in 2001 vs. 74% in 1990. Textbook says ~50%. Not sure any of these #s are truly accurate. So just note that M&A is the dominant form of FDI.M&A = 82% of all FDI in 2001 vs. 74% in 1990. Textbook says ~50%. Not sure any of these #s are truly accurate. So just note that M&A is the dominant form of FDI.

    17. 17 Interpreting FDI Transfer ownership of productive assets to more efficient owners. or Leverage comparative advantage by moving to more suitable locations. Which theory do you believe in? Data supports 1st theory overall but 2nd theory for resource-intensive industries.Which theory do you believe in? Data supports 1st theory overall but 2nd theory for resource-intensive industries.

    18. 18 Markets’ View of FDI Are there synergistic gains? (i.e. 1+1 > 2?) Multinationality is positively correlated with firm’s market value because of intangibles. Consistent with internalization theory of FDI. Morck & Yeung (“Why Investors Value Multinationality”, Journal of Business, 1991)

    19. 19 FDI & Exchange Rates Empirical data indicate that exchange rates: may influence M&A FDI. have little/no influence on greenfield investments. Why?

    20. 20 Consequences for Host Countries Positive Direct: Technology transfer; increased employment; higher salaries (~20% common). Indirect: Enhances market competitiveness; may lower domestic prices; improve quality of labor force. Negative Direct: reduce market power of domestic firms; profits shipped to MNE’s home country; foreign firms gain domestic influence.

    21. 21 Consequences for Home Countries Technological innovation. Foreign trade expansion positively correlated to outward FDI ? mixed net impact on labor market. Profit remittance from overseas investments. Not always a positive. Why?

    22. 22 Policy Changes that Promote FDI World Trade Organization (WTO) Bilateral Investment Treaties (BITs) ? Illustrates political sensitivity of certain industries/countries.

    23. 23 Political Risk Difficult to measure but fundamental to a full understanding of a market’s projected development. Macro risk – affects all FDI in host country. Micro risk – affects only certain industries or types of firms.

    24. 24 Hedging Political Risk Geographic diversification Minimize exposure Form JVs with local companies. Form/join international consortium to make investments. Use local financing. Insurance against political risk.

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