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Unit 7: Foreign Direct Investment

foreign Direct investment in the World economy notes

The flow of FDI refers to the amount of FDI undertaken over a given time period (normally a
year). The stock of FDI refers to the total accumulation of foreign owned assets at a given time.
We also talk of outflows of FDI meaning the flow of FDI out of the country and inflows of FDI,
meaning the flow of FDI into a country.

The past 20 years have seen a marked increase in both the flow and stock of FDI in the world
economy. The average outflow of FDI is increased from about $25 billion in 1975 to a record of
$1.3 trillion in 2000. The flow of FDI not only accelerated over this last quarter, country load is
also accelerated faster than the growth in world trade. For example, between 1990 and 2000, the
flow of FDI for all countries increased about five fold, while world trade grew by some 82 percent
and world outflow by 23 percent. As a result of strong FDI flow, by 2000 the global stock of FDI
exceeded $5.7 trillion. In total, 63,000 parent companies had 6,90,000 affiliates in foreign markets
that effectively produced an estimated $14 trillion in global sales, nearly twice as high as the
value of global exports.

Did u know? The past 20 years have seen an increase of more than 1000% in flow and stock
of FDI in world economy.
FDI is growing more rapidly than world trade and world output for several reasons:

1. Fear of protectionist pressure despite the general decline in trade barriers, e.g, much of the
Japanese automobile companies’ investments in the United States during the 1980’s and
early 1990’s were driven towards reduction of exports from Japan, thereby removing trade
tensions between nations.
2. Dramatic political and economic changes that have been occurring in many of the world’s
developing nations, the general shift towards democratic political institutions and for market
economies has encouraged FDI Economic growth, economic deregulation, privatization
programs that are open to foreign investors and removal of many restrictions on FDI have
made Asia, Eastern Europe and Latin America more attractive to foreign investors.
3. Increase in the amount of bilateral investment treaties designed to protect and promote
investment between two countries, has been reflected in the decrease to facilitate FDI.
4. The globalization of the world economy is also having a great impact on the volume of
FDI.

5. Many firms believe, it is important to have production facilities base close to the major
customers. This too is creating pressures for greater FDI.

7.2 types of fDi

7.2.1 Horizontal fDi

Horizontal FDI is the investment in the same industry abroad as the firm operates at home.
Other things being equal, FDI is expensive because the firm must bear the costs of establishing
production facilities in a foreign country or of acquiring a foreign enterprise. FDI is risky because
of the problems associated with doing business in another culture where the “rules of the game”
may be very different. When a firm exports, it need not bear the costs of FDI, and the risks
associated with selling abroad can be reduced by using a native sales agent. Similarly, when a
firm licenses its know-how, it need not bear the costs or risks of FDI. Firms prefer FDI over either

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