11

Foreign Direct Investment in Foreign Direct Investment in Transition Economies: Transition Economies:

Strengthening the Gains from Strengthening the Gains from IntegrationIntegration

By Saul EstrinBy Saul EstrinLSELSE

and and

Klaus MeyerKlaus MeyerUniversity of BathUniversity of Bath

Notes for Presentation of UN Conference: “Strengthening Integration of the Economies in Transition into the World Economy through Economic Diversification”

Not to be quoted without permission of the authors

April 4th 2008

22

ObjectiveObjectiveTo review the literature in order to understand To review the literature in order to understand factors leading factors leading MNEsMNEs to invest in transition to invest in transition economieseconomiesTo analyze the impact of their investment, in To analyze the impact of their investment, in terms of the impact on local firms and via terms of the impact on local firms and via horizontal and vertical horizontal and vertical spilloversspilloversTo provide policy recommendations for host To provide policy recommendations for host economies about how to influence FDI to economies about how to influence FDI to increase diversification and integration of the increase diversification and integration of the transition economies of South Eastern Europe transition economies of South Eastern Europe and the CISand the CIS

33

Outline of PresentationOutline of PresentationIntroductionIntroductionThe pattern of FDI into transition economiesThe pattern of FDI into transition economiesThe determinants of FDI to transition economiesThe determinants of FDI to transition economiesThe potential impact of FDIThe potential impact of FDI–– MacroMacro--economiceconomic–– Horizontal Horizontal spilloversspillovers–– Vertical Vertical spilloversspillovers–– DiversificationDiversification

The impact of FDI on Transition EconomiesThe impact of FDI on Transition Economies–– On acquired firmsOn acquired firms–– SpilloversSpillovers

Policy implicationsPolicy implications

44

IntroductionIntroductionFDI undertaken by FDI undertaken by MNEsMNEs in pursuit of their own in pursuit of their own strategies, not consideration of political or strategies, not consideration of political or development agendasdevelopment agendasGhemawatGhemawat (2007) identifies three MNE (2007) identifies three MNE strategies in global economystrategies in global economy–– Adaptation:Adaptation: adjusting to differences around the world adjusting to differences around the world

and activity locally in each countryand activity locally in each country–– Aggregation:Aggregation: centralizing parts of their operations centralizing parts of their operations

regionally or globally for scale economies and to regionally or globally for scale economies and to integrate innovationintegrate innovation

–– Arbitration: Arbitration: moving goods/services from high to low moving goods/services from high to low cost areas i.e. cost areas i.e. offshoringoffshoring, global sourcing, global sourcing

55

Nature and pattern of FDI in Nature and pattern of FDI in transition economiestransition economies

Level of FDI to transition economies relatively Level of FDI to transition economies relatively low in early years (Table 1)low in early years (Table 1)FDI highly concentrated to Czech republic, FDI highly concentrated to Czech republic, Hungary and Poland initiallyHungary and Poland initiallyIncrease in FDI to CIS and Balkans since 2000, Increase in FDI to CIS and Balkans since 2000, but still highly concentrated to resource rich but still highly concentrated to resource rich economies (Russia, Azerbaijan, Kazakhstan)economies (Russia, Azerbaijan, Kazakhstan)SectoralSectoral distribution in Bulgaria and Russia. distribution in Bulgaria and Russia. Most FDI to tertiary sector. In Russia, oil and gas Most FDI to tertiary sector. In Russia, oil and gas predominated initially (tables 2 and 3)predominated initially (tables 2 and 3)

66

Table 1: FDI Flows to Transition Economies ($Table 1: FDI Flows to Transition Economies ($bnbn))

1.01.03.63.63.23.21.31.30.20.22.32.31.01.0---- Azerbaijan Azerbaijan

6.66.64.24.22.12.12.62.62.82.85.25.23.03.00.10.1--KazakhstanKazakhstan

5.45.41.71.71.41.40.70.70.80.82.52.51.21.20.20.2-- UkraineUkraine

0.20.215.415.48.08.03.53.52.72.715.715.76.36.31.61.6Of which Of which ––RussiaRussia

12.412.413.713.75.35.35.05.04.84.830.430.412.812.8--CISCIS

1.51.51.01.01.31.30.10.10.20.21.01.0-- SerbiaSerbia

6.66.66.46.41.81.81.11.11.11.14.34.31.11.10.10.1-- RomaniaRomania

2.62.62.72.72.12.10.90.90.80.81.81.80.30.30.10.1-- BulgariaBulgaria

10.010.05.45.43.93.93.93.95.85.814.614.65.05.011-- PolandPoland

3.13.13.73.70.90.92.62.63.63.68.18.110.210.233-- HungaryHungary

11.611.63.93.91.91.98.38.35.45.49.19.15.55.51.71.7Of which Czech Of which Czech RepRep

29.529.516.316.38.38.321.521.517.517.562.562.524.924.966Eastern EuropeEastern Europe

200520052004200420032003200220022001200119971997--000019931993--6619901990--22

Source: UN (2002), EBRD Transition Report, various years

77

Table 2: FDI Flows in Selected Transition Table 2: FDI Flows in Selected Transition

Economies by Sector (% share), 2000Economies by Sector (% share), 2000

Source: UN (2002)

4.49.3FDI flow ($bn)

29.936.66.6- transport

19.58.07.0- trade

0.621.145.0- finance

67.777.374.7Tertiary Sector

18.54.44.0- food

31.622.320.5Secondary Sector

10.00.30.7- mining

10.70.41.8Primary Sector

RussiaPolandBulgaria

88

Table 3: Table 3: SectoralSectoral Distribution of FDI Stocks, 2000 Distribution of FDI Stocks, 2000 (% shares)(% shares)

Source: UN (2002)

27.59.912.3- transport/communication

10.716.919.2- trade

1.320.37.3- finance

46.259.945.7Tertiary

39.351.9Secondary

15.16.51.2- mining/petrol

15.66.81.4Primary Sector

RussiaPolandBulgaria

99

Determinants of FDI in transition Determinants of FDI in transition economieseconomies

Develop and test formal econometric model of factors Develop and test formal econometric model of factors driving FDIdriving FDILiterature indicates key determinants includeLiterature indicates key determinants include–– Host economy Host economy locationallocational factors i.e.factors i.e.

Institutional developmentInstitutional developmentMarket sizeMarket sizeInput costsInput costsInvestment riskInvestment risk

–– Source economy factors i.e.Source economy factors i.e.Size (scale economies)Size (scale economies)Level of developmentLevel of developmentCostsCosts

–– Differences between source and host economy e.g.Differences between source and host economy e.g.Distance (transaction cost)Distance (transaction cost)

1010

Determinants of FDI in transition Determinants of FDI in transition economieseconomies

Bevan and Estrin (B&E) (2004) and Bevan, Estrin and Bevan and Estrin (B&E) (2004) and Bevan, Estrin and Meyer (BEM (2004) test these ideasMeyer (BEM (2004) test these ideasUse FDI flow from source to host economy in a year as Use FDI flow from source to host economy in a year as observation pointobservation pointSource economies = EU15Source economies = EU15Host economies = transition economies in Central and Host economies = transition economies in Central and Eastern Europe, Balkans plus Russia and UkraineEastern Europe, Balkans plus Russia and UkraineGravityGravity--type model based around GDP of host and type model based around GDP of host and source economy, distance, unit source economy, distance, unit laborlabor costs and costs and ““riskrisk””(B&E) or institutional development (BEM)(B&E) or institutional development (BEM)Risk measured by risk ratingsRisk measured by risk ratingsOther controls include trade and capital costsOther controls include trade and capital costsInstitutional development measured by EBRD transition Institutional development measured by EBRD transition indicatorsindicators

1111

FindingsFindingsPositive significant effects from source and host Positive significant effects from source and host GDP and distance GDP and distance –– gravity effects (table 4)gravity effects (table 4)Unit Unit laborlabor costs effect negative and significantcosts effect negative and significantFDI and trade found to be complementaryFDI and trade found to be complementaryNo effect of host economy risk on FDINo effect of host economy risk on FDIHowever, institutional development matters, However, institutional development matters, notably privatization, banking sector notably privatization, banking sector development, trade liberalization and legal development, trade liberalization and legal institutionsinstitutionsCompetition policy not significantCompetition policy not significant

1212

Table 4: Determinants of FDI inflows to transition economiesTable 4: Determinants of FDI inflows to transition economies

187.88187.88197.52197.52Wald Wald χχ22

0.23180.23180.21630.2163overalloverall

0.26720.26720.27120.2712betweenbetween

0.13570.13570.13390.1339RR22: within: within

198198198198No. of groupsNo. of groups

829829981981No. of obs.No. of obs.

(0.88)(0.88)(1.20)(1.20)

134.72134.72160.40160.40ConstantConstant

((−−1.86)1.86)((−−2.19)2.19)

−−255.15255.15**−−272.29272.29****ULCULCijij

((−−4.52)4.52)((−−4.28)4.28)

−−0.060.06******−−0.060.06******DistanceDistanceijij

(0.33)(0.33)(0.53)(0.53)

0.510.510.690.69riskriskjj

(1.71)(1.71)(1.46)(1.46)

293.37293.37**221.70221.70tradetradejj

(0.52)(0.52)(0.55)(0.55)

0.330.330.320.32rrijij

(10.45)(10.45)(10.65)(10.65)

0.0030.003******0.0030.003******GDPGDPjj

(3.72)(3.72)(3.66)(3.66)

0.020.02******0.020.02******GDPGDPii

FDIFDIijij (lagged form)(lagged form)FDIFDIijij (levels)(levels)Independent variableIndependent variable

1313

How might FDI affect performance How might FDI affect performance and integrationand integration

Parent MNE= country of origin= industry= organizational centralization= size & experience

FDI Project= subsidiary role= mode of entry= centralization= knowledge management= …

Local Firms= intra-industry spillovers= inter-industry spillovers= absorptive capacity= entrepreneurship= clusters…

Knowledge

Linkage effects

Competition

Macro-economy= balance of payment= capital stock= employment...

Social Issues= ’ethical’ business

practices= labour standards = wages...

Institutions= policy framework= FDI laws= competition laws= educational system...

Natural environment= pollution havens = global standards...

1414

Potential effects of FDI on host Potential effects of FDI on host economyeconomy

1.1. MacroMacro--economyeconomy–– Endogenous growth models indicate that Endogenous growth models indicate that

FDI might increase growth, provided FDI might increase growth, provided sufficient sufficient ““absorbtiveabsorbtive capacitycapacity”” (human (human capital) capital) –– see see BorensteinBorenstein et al., et al., 19981998

–– FDI impacts positively several macroFDI impacts positively several macro--policy policy variables: balance of payments, variables: balance of payments, employment, investment, exportsemployment, investment, exports

1515

Potential positivePotential positive spilloversspilloversHorizontalHorizontal

–– Knowledge diffusion by demonstrationKnowledge diffusion by demonstration effectseffectsLocalLocal firm firm observe technologyobserve technology and and managerial practicesmanagerial practices and and thus adopt itthus adopt it......

–– Knowledge diffusion by movementKnowledge diffusion by movement of employeesof employeesEmployees are trainedEmployees are trained in MNE, and in MNE, and take uptake up jobs in jobs in local local firmsfirms, , oror set set up their ownup their own business ...business ...

–– Access to export marketsAccess to export marketsUtilizing channels and reputation build by MNEUtilizing channels and reputation build by MNE

–– Local Supplier industries and markets for specialized Local Supplier industries and markets for specialized inputs supporting an industryinputs supporting an industry

Indirect benefits for firms in the same industryIndirect benefits for firms in the same industryVerticalVertical

–– Vertical linkages (as supplier or customer)Vertical linkages (as supplier or customer)Direct knowledge transferDirect knowledge transferEconomies of scaleEconomies of scale

1616

Potential negative spilloversPotential negative spillovers

HorizontalHorizontal–– Attraction of theAttraction of the most most productive resourcesproductive resources

Highly qualified workers may leave local firms because MNE pay Highly qualified workers may leave local firms because MNE pay betterbetter

–– Loss of market shareLoss of market share and and excess excess capacitycapacityMainly a shortMainly a short--term effect as capacities cannot be adjusted term effect as capacities cannot be adjusted immediatelyimmediately

VerticalVertical–– Reliance on imported components (existing suppliers of Reliance on imported components (existing suppliers of

the MNE) and displacement of local suppliersthe MNE) and displacement of local suppliers–– Dependency relationshipsDependency relationships

1717

Horizontal Horizontal spilloversspillovers: : Study Study designdesign

““knowledge flowsknowledge flows …… leave no paper trailleave no paper trail by by which they which they may be measuredmay be measured and and trackedtracked”” ((KrugmanKrugman 1991: 531991: 53). ).

knowledge spillovers are difficultknowledge spillovers are difficult to to quantifyquantify..

Indirect measurementIndirect measurement: : –– RelateRelate performance performance changes ofchanges of potential recipient potential recipient firms firms

empiricallyempirically to to the presence ofthe presence of FDI in FDI in the the same industrysame industry. . –– Knowledge spillovers are measuredKnowledge spillovers are measured by by changeschanges in in local firms local firms

productivityproductivity and and the influence ofthe influence of FDI to FDI to the share of foreignthe share of foreign--owned firmsowned firms in in the industrythe industry

–– The predominantThe predominant approach in approach in the literature ofthe literature of FDI FDI spilloversspillovers: : 38 studies 38 studies worldwideworldwide

1818

Horizontal Horizontal spilloversspillovers: 38 : 38 studiesstudies16 16 on developingon developing//emerging economiesemerging economies, , –– PositivePositive effects: e.g. effects: e.g. BlomstromBlomstrom (several studies) and (several studies) and KokkoKokko (1996) on (1996) on

Mexico, Mexico, KokkoKokko et al.et al. (1996) on Uruguay, (1996) on Uruguay, SjoholmSjoholm (1999) on Indonesia, (1999) on Indonesia, and and Chuang & LinChuang & Lin (1999) on Taiwan. (1999) on Taiwan.

–– NegativeNegative effects, e.g. effects, e.g. AitkenAitken & Harrison& Harrison (1999) on Venezuela 1976(1999) on Venezuela 1976--89 , 89 , KathuriaKathuria (2000) India 1975(2000) India 1975--89.89.

–– InsignificantInsignificant effectseffects, e.g. , e.g. Haddad & HarrisonHaddad & Harrison (1993), Morocco 1985(1993), Morocco 1985--89 or 89 or KuglerKugler (2001) on Columbia 1974(2001) on Columbia 1974--98.98.

12 12 onon transition transition economieseconomies, , –– PositivePositive effects: e.g. effects: e.g. LiuLiu (2002) in China, (2002) in China, YudayevaYudayeva et al.et al. (2000) in (2000) in

Russia, Russia, SinaniSinani & Meyer& Meyer (2002) in Estonia(2002) in Estonia–– NegativeNegative effects, e.g. effects, e.g. KoningKoning (2001) for Bulgaria, Romania and (2001) for Bulgaria, Romania and DjankovDjankov

& & HoekmanHoekman (2001) on the Czech Republic(2001) on the Czech Republic10 10 on developed countrieson developed countries. . –– PositivePositive effects: e.g. effects: e.g. CavesCaves (1974) for Australia, (1974) for Australia, GlobermanGloberman (1979) on (1979) on

Canada, Canada, Liu et al.Liu et al. (2002), (2002), HaskelHaskel et al.et al. (2002) both on the UK, (2002) both on the UK, –– NegativeNegative effects, e.g. effects, e.g. Barrios et al.Barrios et al. (2001) and (2001) and Flores et al.Flores et al. (2000) for (2000) for

Southern European countriesSouthern European countries

1919

Horizontal Horizontal spilloversspillovers: 38 : 38 studiesstudiesCrossCross--sectionalsectional data (19) versus panel data data (19) versus panel data analysis analysis (19, (19, mainlymainly recent recent studies). studies).

Firm Firm levellevel data (24) versus data (24) versus industryindustry levellevel data (14) as unit data (14) as unit of analysisof analysis

Spillovers received by domestic firms only (23) versus spilloverSpillovers received by domestic firms only (23) versus spillovers s received by domestic and foreign firms (15).received by domestic and foreign firms (15).

Foreign presence (spillover proxy) is measured the share of foreForeign presence (spillover proxy) is measured the share of foreign ign firms firms –– in industry employment (13), in industry employment (13),

–– in industry sales/output/value added (11),in industry sales/output/value added (11),

–– industry equity and other definitions (14). industry equity and other definitions (14).

LocalLocal firm performance firm performance –– thethe dependenddependend variable variable –– is is measuredmeasured by by –– output, output, value added orvalue added or sales per sales per employeeemployee (15), (15),

–– the the growthgrowth of of output, output, value added or value added or sales (13), sales (13),

–– or otheror other measuresmeasures (10). (10).

20203.1***3.1***2.7***2.7***11.6***11.6***9.7***9.7***41414343Panel data Panel data

8.3***8.3***10.5***10.5***18.6***18.6***22.6***22.6***23232626CrossCross--Section Section data data

1.41.42.2**2.2**1.41.42.2**2.2**22222222Developed Developed EconomiesEconomies

4.8***4.8***5.2***5.2***16.4***16.4***15.0***15.0***19192121Transition Transition EconomiesEconomies

4.2***4.2***7.2***7.2***12.6***12.6***19.5***19.5***23232626Developing Developing EconomiesEconomies

TTww(7)(7)

TT(6)(6)

TTww(5)(5)

TT(4)(4)

ExcludinExcluding outliers g outliers

(3)(3)

All All (2)(2)

Excluding outliers Excluding outliers All StudiesAll StudiesNr of Nr of observationsobservations

Groups of Groups of StudiesStudies

(1)(1)

The effect of spillovers on firm productivity:Composite t-statistic without (T) & with (Tw) weights

2121

Why would results vary? Why would results vary? Different contextsDifferent contexts

Level of Economic DevelopmentLevel of Economic Development–– Developing and Transition Economies may Developing and Transition Economies may

need more of what MNE are willing to giveneed more of what MNE are willing to give

Time TrendTime Trend–– Technological change may imply diminishing Technological change may imply diminishing

effect in recent years (e.g. due to tighter IPR)effect in recent years (e.g. due to tighter IPR)

2222

Horizontal Horizontal spilloversspillovers: : MetaMeta--analysisanalysis

6464646464646464No ObservationsNo Observations

--4.33**4.33**((--2.65)2.65)

--3.49*3.49*((--1.97)1.97)

--3.50*3.50*((--1.68)1.68)

--3.60**3.60**((--2.04)2.04)

ConstantConstant

0.550.55(0.74)(0.74)------Dummy if Growth of Dep. Dummy if Growth of Dep.

Variable Variable

--0.190.19((--0.25)0.25)------Dummy if Level of Dep. Variable Dummy if Level of Dep. Variable

--0.850.85(0.96)(0.96)----Dummy Spillover is share in Dummy Spillover is share in

equityequity

----0.0560.056((--0.08)0.08)----Dummy Spillover is share in Dummy Spillover is share in

employmentemployment

------0.090.09((--0.14)0.14)--Dummy Domestic firms onlyDummy Domestic firms only

1.86*1.86*(1.89)(1.89)

1.351.35(1.43)(1.43)

1.59*1.59*(1.77)(1.77)

1.59*1.59*(1.76)(1.76)

Dummy Industry level dataDummy Industry level data

2.03***2.03***(3.09)(3.09)

2.06***2.06***(3.53)(3.53)

1.78***1.78***(2.89)(2.89)

1.77***1.77***(2.87)(2.87)

Dummy CrossDummy Cross--Section v. Panel Section v. Panel DataData

1.471.47(1.420(1.420

1.411.41(1.37)(1.37)

1.451.45(1.20)(1.20)

1.491.49(1.38)(1.38)

Dummy Transition CountriesDummy Transition Countries

1.021.02(1.55)(1.55)

0.750.75(1.13)(1.13)

1.051.05(1.64)(1.64)

1.06*1.06*(1.68)(1.68)

Dummy Developing CountriesDummy Developing Countries

--0.0240.024((--0.53)0.53)

--0.0460.046((--0.90)0.90)

--0.0240.024((--0.52)0.52)

--0.0260.026((--0.59)0.59)

Average time period of studyAverage time period of study

0.51**0.51**(2.05)(2.05)

0.470.47(1.60)(1.60)

0.440.44(1.57)(1.57)

0.45*0.45*(1.74)(1.74)

Log(NLog(N))

2323

SpilloversSpillovers: : MetaMeta--analysisanalysis

Predicted t-value

Predicted t-statistic by study characteristics

-0.44

0.500.61

0.93 0.95

0.04

1.40

0.86

-0.09

2.34

-0.19

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0

n=20,000Dev EcTrans Ec T = 1970Spillover = equityDV = growthCS dataIndustry data, n=145Trans Ec, Spillover = equity, DV = growth

Dev C, T = 1970

Study Characteristics

t-st

atis

tics

Base Case

2.57=1%

1.96=5%1.645=10%

Base Case = Developed Country, 1995 data, n = 3425, panel data, firm level data

2424

Figure 2: MetaFigure 2: Meta--analysis of horizontal analysis of horizontal spilloversspillovers: : Predicted tPredicted t--statistics by characteristics of the studystatistics by characteristics of the study

-2

-1.5

-1

-0.5

0

0.5

1

1.5

2

2.5

0 2 4 6 8 10 12 14 16 18 20 22 24 26

GDP per capita, in 1000 USD

Pred

icte

d t-s

tatis

tics

Model 2Model 3

Indi

a 4

54Ch

ina

949

Mor

occo

119

7Ru

ssia

177

5

Esto

nia

3996

Hun

gary

460

6

Mex

ico

5935

Gre

ece

1027

1

Spai

n 14

338

Italy

186

30

UK

240

75Ir

elan

d 24

902

2525

Sources of variation in FDI impactSources of variation in FDI impact

Industry specific factorsIndustry specific factorsEntry mode:Entry mode:–– JV JV –– sharing resources of two partners can sharing resources of two partners can

increase increase spilloverspillover–– Greenfield projects Greenfield projects –– create new businesses create new businesses

and direct impact on employmentand direct impact on employment–– Acquisitions Acquisitions –– change performance and change performance and

spilloversspillovers for existing firmsfor existing firms

2626

Evidence on the impact of FDI on Evidence on the impact of FDI on Enterprise PerformanceEnterprise Performance

–– Based on Estrin Based on Estrin et. al, et. al, 2007 survey on TFP2007 survey on TFP–– Three categories of paper (C1Three categories of paper (C1--3) 3) –– focus on C1 focus on C1

(large samples, control for selection and panel data (large samples, control for selection and panel data methods)methods)

–– Focus on TFP measures of firm performanceFocus on TFP measures of firm performance–– 9 C1 studies of TFP: all show privatization to foreign 9 C1 studies of TFP: all show privatization to foreign

owners increases TFPowners increases TFP–– Holds in countries with stronger and weaker Holds in countries with stronger and weaker

institutions (e.g. Hungary versus Russia)institutions (e.g. Hungary versus Russia)–– Domestic private ownership raises TFP but effect is Domestic private ownership raises TFP but effect is

quantitatively smaller than for foreign ownershipquantitatively smaller than for foreign ownership

2727

Evidence on the impact of FDI on Evidence on the impact of FDI on transition economiestransition economies

Horizontal Horizontal SpilloversSpillovers–– We have seen, evidence is contradictoryWe have seen, evidence is contradictory

Meyer and Meyer and SinaniSinani, 2007, find no significant effect for , 2007, find no significant effect for transition economies, which are on the declining part of the transition economies, which are on the declining part of the UU--shaped curveshaped curve

Vertical Vertical SpilloversSpillovers–– Empirically difficult to identify because requires Empirically difficult to identify because requires

detailed inputdetailed input--output data; output data; JovorcikJovorcik 2004 does find 2004 does find evidence of background linkages in Lithuania. Intraevidence of background linkages in Lithuania. Intra--industry effects smallindustry effects small

2828

Policy conclusionsPolicy conclusionsDirect effect of FDI on host firms positive Direct effect of FDI on host firms positive ––higher TFP, productivity, profitabilityhigher TFP, productivity, profitabilitySpilloversSpillovers –– perhaps greater potential from perhaps greater potential from vertical than horizontal vertical than horizontal –– depends on depends on absorptive absorptive capacity, entrepreneurship capacity, entrepreneurship and bargaining and bargaining power to accrue benefits to local firmpower to accrue benefits to local firmPolicy implication at three levels Policy implication at three levels –– institutional institutional environment, to facilitate maximum environment, to facilitate maximum spilloversspilloversand to increase trade integration and and to increase trade integration and diversificationdiversification

2929

Policy conclusions 1: Policy conclusions 1: Institutional environmentInstitutional environment

Since FDI clearly benefits performance of Since FDI clearly benefits performance of recipient firms, need to understand factors recipient firms, need to understand factors encouraging greater FDIencouraging greater FDIImproved institutional environment Improved institutional environment –– notably notably legal arrangements, reduced corruption, strong legal arrangements, reduced corruption, strong property rights enforcementproperty rights enforcementReduced business risk Reduced business risk –– sound macrosound macro--economic economic policies, e.g. fiscal and monetary policypolicies, e.g. fiscal and monetary policyPrivatization, allowing foreign firms to participatePrivatization, allowing foreign firms to participatePerhaps not competition policy!Perhaps not competition policy!

3030

Policy conclusions 2:Policy conclusions 2:SpilloversSpillovers

Literature stresses role of Literature stresses role of absorbtiveabsorbtive capacity capacity which links to quality of human capital, and of which links to quality of human capital, and of management, highlights role of education and management, highlights role of education and management training policiesmanagement training policiesSpilloversSpillovers rely on transfer of rely on transfer of laborlabor, skills and , skills and know how to new firms, which requires low know how to new firms, which requires low barriers to entry in barriers to entry in laborlabor and product markets, and product markets, e.g. support for entrepreneurship, flexible e.g. support for entrepreneurship, flexible laborlabormarketsmarkets

3131

Policy conclusions 3:Policy conclusions 3:Global integration and diversificationGlobal integration and diversification

Considerable evidence that trade Considerable evidence that trade openness and FDI work together. Trade openness and FDI work together. Trade liberalization enhances FDI, and openness liberalization enhances FDI, and openness increases the increases the spilloverspillover benefits from FDIbenefits from FDIKey is to create an environment to which Key is to create an environment to which value enhancing value enhancing MNEsMNEs wish to come and wish to come and in which local firms and workers are able in which local firms and workers are able to maximise the to maximise the spilloverspillover benefits from benefits from their investmenttheir investment

3232

Integration, Diversification and Integration, Diversification and MNE StrategyMNE Strategy

MNEsMNEs invest abroad to achieve their own invest abroad to achieve their own strategic goals, not those of the host economystrategic goals, not those of the host economyGhemewatGhemewat’’ss three strategies of three strategies of MNEsMNEs point to point to policies for governments seeking to increase policies for governments seeking to increase integration and diversificationintegration and diversificationAdaptation and Aggregation: requires Adaptation and Aggregation: requires governments to liberalize local markets and governments to liberalize local markets and open up to tradeopen up to tradeArbitration: requires governments to encourage Arbitration: requires governments to encourage export export centeredcentered production on the basis of local production on the basis of local resources e.g. low cost resources e.g. low cost laborlabor, to provide a global , to provide a global base for base for MNCsMNCs