Academic journal article European Journal of Interdisciplinary Studies

The Effects of Foreign Direct Investments for Host Country's Economy

Academic journal article European Journal of Interdisciplinary Studies

The Effects of Foreign Direct Investments for Host Country's Economy

Article excerpt

1. Introduction: The Benefits of FDI for Host Country's Economy

Developing counties, emerging economies and countries in transition, due to advantages related to FDI have liberalized their FDI regime and followed best policies to attract investment. It has been recognized that the maximizing benefits of FDI for the host country can be significant, including technology spillovers, human capital formation support, enhancement of competitive business environment, contribution to international trade integration and improvement of enterprise development. Moreover, further than economic benefits FDI can help the improvement of environment and social condition in the host country by relocating 'cleaner' technology and guiding to more socially responsible corporate policies. All of these benefits contribute to higher economic growth, which is the main instrument for alleviating poverty in those economies. However, the economic impact of FDI is difficult to measure with accuracy. Benefits of FDI do not increase automatically and equally across counties, sectors and local communities. These benefits vary from one country to another and are difficult to be separated and measured. Where FDI entry has large (non-marginal) effects, measurement is even more difficult: there is no precise method of specifying counterfactual (i.e. what would have happened if a TNC or TNCs had not made a particular investment or investments). The assessment of the development effects of FDI generally resorts to one of two approaches. One is the econometric analysis of the relationship between inward FDI and various measures of economic performances. The second is a qualitative analysis of various aspects of TNCs' impacts, without any attempt at calculating a precise relationship or rate of return (UNCTAD, 2006). The latter approach, which is the one adopted in the discussion of host-country impact below, includes, in particular, a consideration of the ways in which the unique characteristics of TNCs interact with the unique characteristics of countries (Dunning, 1993).

1.1. Resource - Transfer Effects

Foreign direct investment can make a positive contribution to a host economy by supplying capital, technology and management resources that would otherwise not be available. Such resource transfer can stimulate the economic growth of the host economy (Hill, 2000).


As far as capital is concern, multinational enterprises (MNEs) invest in long-term projects, taking risks and repatriating profits only when the projects yield returns. The free flow of capital across nations is likely to be favoured by many economists since it allows capital to seek out the highest rate of return. Many MNEs, by virtue of their large size and financial strength, have access to financial resources not available to host- country firms. These funds may be available from internal company sources, or, because of their reputation, large MNEs may find it easier to borrow money from capital markets than host-county firms would (Hill, 2000).

Jenkins and Thomas (2002) argue that FDI can contribute to economic growth not only by providing foreign capital but also by crowding in additional domestic investment; so it increases the total growth effect of FDI. Bosworth and Collins (1999) provide evidence on the effect of capital inflows on domestic investment for 58 developing countries between 1978-95. They distinguish among three types of inflows: FDI, portfolio investment, and other financial flows (primarily bank loans).They found that about half of each dollar of capital inflow translates into an increase in domestic investment. According to them an increase of a dollar in capital inflows is associated with an increase in domestic investment of about 50 cents. (Both capital inflows and domestic investment are expressed as percentages of GDP.)

Once the capital inflows take the form of FDI, there is a near one-to-one relationship between the FDI and the domestic investment. …

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