Global Econ - Investment - lecture

8/9/2019 Global Econ - Investment - lecture

1/26

International Investment

Dr. Katherine Sauer

Global Economic Issues

ECON 241

1


2/26

Why do firms invest abroad?

Market Seeking:

- look for new buyers (if the home market is saturated,

then to increase sales expand to a new market)

- the product may be unique or superior to the products

in the foreign market- new investments overseas may bring higher returns than

undertaking additional investments at home

Resource Seeking:

- may be cheaper to produce via a foreign subsidiary

(either for sale in the foreign market or at home)

- could obtain superior or less costly access to inputs

2


3/26

Strategic Asset Seeking:

- foreign markets may offer access to new technology or

distribution networks

ex: a firm may partner with an existing foreign firm which

specializes in one aspect of the production process

Efficiency Seeking:

- firms look to put their investment money to its best use

- as economic conditions (e.g. free trade agreements,

exchange rate fluctuations) change, it can be beneficial tomove production to a different location

3


4/26

Types of foreign investment

1. Commercial Loans: loans from commercial banks to foreigngovernments or to businesses abroad

2. Official Flows: development assistance from developed to

developing nations

3. Foreign Direct Investment (FDI): the purchase or construction of

a tangible asset in another country

- greenfield = build new facilities / expand existing facilities

- mergers & acquisitions

- horizontal = access to new markets at the same

stage of production

- vertical = re-locate various stages of production

4


5/26

4. Foreign Portfolio Investment (FPI): investments that are more

easily traded, are usually less permanent, and usually do not

represent a controlling stake in an enterprise

FDI vs FPI

FPI tends to be more volatile than FDI.

-When a countrys economy is on the rise, FPI may increasevery quickly and can fuel rapid development, job creation,

and build wealth.

-When the economy faces a downturn or if returns dont

meet the investors expectations, the money can just as

quickly flow back out of the country.- FDI implies a controlling stake and physical assets so by

nature it is more stable.

5


6/26

Factors that influence FDI decisions

- rules/regulations for the entry and operation of foreign firms- standards of treatment of foreign affiliates as compared to the

treatment of the domestic firms

- functioning/efficiency of local markets

- trade policy and privatization policy

- restrictions on repatriating earnings/profits- business facilitation measures

- investment promotion

- incentives

- improvements to amenities- other measures to decrease the cost of doing business

- export processing zones

- tax breaks

6


7/26

Factors that influence FPI decisions

FPI decisions are usually tied to broad macroeconomic indicators:

- national economic growth rates- exchange rate stability

- general macroeconomic stability

- levels of foreign exchange held by central banks

- general health of the banking system

- liquidity of the stock/bond markets- interest rates

The policy environment also plays a role:

- ease of repatriating dividends/capital

- capital gains taxes

- regulation of the stock/bond markets

- quality of domestic accounting and disclosure system

- speed/reliability of dispute resolution system

- degree of protection of investors rights 7


8/26

Possible Effects of Foreign Investment

Foreign investment has the potential to generate employment, raiseproductivity, transfer skills and technology, enhance exports, and

contribute to the long-term economic development of developing

nations.

Positive Effects in the Host Country:

1. A country receives capital.

- A nation may have the demand and the resources needed

for production except for the capital.

8


9/26

capitalinflow

firm uses funds

for start up or

expansion

start up or expansion

leads to job creation

firms generateprofits

profits fuel furtherexpansion or

investments

9


10/26

2. Employment opportunities are created.

- As firms are started or expanded, jobs are created.

- Incomes increase.- Demand for goods increases.

- New opportunities for enterprise are triggered.

3. Production advantages are created.

- technology transfer: foreign firms may bring newproduction techniques the skills of the local workers are

increased

- productivity spill-over: foreign firms may bring new

methods or technologies which increases the productivity

of domestic firms (JIT)

10


11/26

- improved production process: production may be made

more efficient by purchasing elements from countries

with comparative advantage or economies of scale can berealized with access to a global market

- increased competitiveness in the domestic industry:

foreign competition keeps domestic firms competitive and

backward linkages can develop (the long termrelationships that develop between a foreign firm and other

firms in the host country)

- increased outward orientation: with foreign investment,

firms are more aware of opportunities that exist in other

foreign markets and may seek to export more (improves the

BoP)

11


12/26

Concerns for the Host Country:

1. problems managing capital flows

- sound financial system?

2. financial volatility

- exchange rate fluctuations?

3. contagion- herd effects if the investment climate in a similar country

sours, the host country may lose foreign investments as well

4. environmental damage

5. nationalistic concerns

- people feel uneasy about foreign control of aspects of the

domestic economy that are critical to a nations identity or

security12


13/26

Concerns to the domestic economy about shifting production abroad:

1. job loss- If firms in wealthier nations shut down and re-locate

production to a low cost area, domestic workers lose their

jobs.

- People may be unemployed or underemployed.

2. lower wages

- There may be downward pressure on wages domestically

because cheap labor is available elsewhere.

- An underemployed workforce draws lower wages.

(but lower wages put downward pressure on prices in general)

13


14/26

3. increase in imports

-When firms locate overseas, domestic production is lowerand imports may increase.

(these kinds of investment activities comprise a small % of

total investment estimated 10% of sales of US foreign

affiliates is from sales to the US)

4. exploitation of foreign workers

5. lower levels of investment domestically

14


15/26

Most economists agree that international investment can be a

powerful force for economic growth.

- Data analysis suggests that international investment iscorrelated with GDP growth.

Keep in mind:

Investment follows growth. To attract foreign investment, first acountry needs sound institutions in place.

The type of investment matters.

15


16/26

Reasons FDI has been increasing in recent decades:

1. technological advances- telecommunications and transportation advances make it

easier to do business across the globe

2. lure of profits

3. fall of BerlinWall / end of the ColdWar

- countries that were centrally planned have moved toward

market based economies investors can now expect a return

on investing in those areas

4. financial liberalization

- prior to the 1970s, many countries had strict limits on

investing overseas16


17/26

International Investment and Sweatshops

Multinational corporations (MNCs) may be attracted to developingnations for the cheap and available low-skilled labor. (resource

seeking) - garment industry

Workers are paid little and often endure poor working conditions.Why?

- to attract workers, firms need only offer

pay/conditions that are better than the alternatives

17


18/26

18


19/26

Isnt that exploitation?

No:

- the workers freely choose to work for low pay and in poor

conditions

- labor standards and minimum wages are different in different

nations

Yes:

-compared to the alternatives, working in a sweatshop isnt really

a choice

- there are some fundamental human rights with respect to

working conditions

19


20/26

Consider this sweatshops may just be economic starter jobs in

developing nations. (Japan, South Korea, Hong Kong, Singapore,

Taiwan, US)

- as export sector grows, positive economic effects are felt

throughout the economy

- as economies grow, policy reforms also take place

My concern is not that there are too many sweatshops, but that there

are too few.

- Jeffrey Sachs

20


21/26

On the other hand MNCs are earning billions of dollars in

profits. Dont they have some sort of social responsibility to

provide better conditions and higher wages for their workers?

- most workers who are employed in MNC owned and run

facilities do earn higher wages and work in better

conditions than are the norm in the local areas

- most MNC use sub-contractors for the vast majority of

their production

- the majority of documented sweatshop conditions arefound in facilities run by local sub-contractors

21


22/26

Even so, shouldnt the MNCs take measures to ensure that the

sub-contractors arent abusing their workers?

- Many of the big name corporations do attempt to

monitor the conditions in the sub-contractor facilities.

- Theyve adopted codes of conduct and specify steps

that local factories must take to be an approved facility.

22


23/26

Global auditing services have become a multi-million dollar

industry.

- Gap Inc. has 90 full time employees devoted tomonitoring.

- In 2005, 4,438 inspections in 2,118 facilities were

conducted. 62 factories lost approval.

-WalMart made 13,600 reviews of 7,200 facilities andbanned 141 factories from producing items forWalMart.

A new industry has sprung up in China consultants that

specialize in helping factories deal with audits from MNC

monitoring teams.

- often 2 or 3 sets of books are kept to hide violations

23


24/26

Given that many MNCs are attempting to monitor the working

conditions in their sub-contractor facilities, why all the boycottfuss?

- many people feel MNCs are still exploiting their workers

because the local minimum wages are so low

- a living wage is often advocated

- many people feel that MNCs are not doing enough to

monitor and improve the situations for workers in

developing nations

- early boycotts quite possibly resulted in many MNCs

addressing social responsibility issues and formulating

Codes of Conduct for sub-contracted facilities24


25/26

Many boycott advocates are now focused on getting MNCs to pay

higher wages to workers in developing nations.

Some possible effects of boycotts:

1. The boycott decreases the demand for an MNCs products so

the firm decides to pay higher wages to restore demand.

- workers are better off

- increased inequality between workers who work for

MNC sub-contractors and those in other jobs

- such prized jobs may then be allocated through

bribes, corruption, or favors

- if the price of the item being produced is unchanged:

- the firm has lower profits

- the firm may no longer find the developing nation

to be an attractive location for production25


26/26

- if the price of the item increases to reflect higher

production costs:

- consumers may be willing to pay the higher price

since the garment is sweatfree

- firms profits are unchanged

- consumers may be unwilling to pay the higher

price and the quantity demanded decreases- demand for workers also decreases

2. The boycott decreases demand for the item.

- the firms profits fall

- the firm may decrease its demand for workers

- workers lose jobs

3. Awareness is created for the issue.26

Documents

Global Econ - Investment - lecture