7.1: Foreign Direct Investment in the World Economy

Question 1

What is the difference between the flow of FDI and the stock of FDI?

Answer 1

The flow of FDI refers to the amount of foreign direct investment undertaken over a specific time period (usually a year),

while the stock of FDI represents the total accumulated value of foreign-owned assets at a given time.

Question 2

What are outflows of FDI and inflows of FDI?

Answer 2

Outflows of FDI refer to the flow of foreign direct investment out of a country, while inflows of FDI represent the flow of foreign direct investment into a country.

Question 3

How have trends in FDI evolved over the past 25 years?

Answer 3

Over the past 25 years, both the flow and stock of FDI in the world economy have significantly increased.

The average yearly outflow of FDI increased from $250 billion in 1990 to $1.43 trillion in 2017.

Question 4

What contributed to the rapid growth of FDI compared to world trade and world output?

Answer 4

FDI grew faster than world trade and world output due to factors such as firms using FDI to circumvent potential trade barriers and political and economic changes in developing nations that encouraged FDI.

Globalization and the need to have a presence in multiple regions also played a role.

Question 5

How important is FDI in the global economy?

Answer 5

FDI is a crucial phenomenon in the global economy.

By 2017, the global stock of FDI had reached approximately $32 trillion, and foreign affiliates of multinational companies accounted for over one-third of all cross-border trade in goods and services.

Question 6

What encouraged FDI in many developing nations?

Answer 6

FDI in many developing nations was encouraged by the

shift toward democratic political institutions,

free market economies,

economic growth,

economic deregulation,

privatization programs open to foreign investors,

and the removal of restrictions on FDI.

These changes made these countries more attractive to foreign multinationals.

Question 7

How did the globalization of the world economy impact FDI?

Answer 7

The globalization of the world economy led many firms to view the entire world as their market.

They pursued FDI to establish a significant presence in various regions.

For example, a substantial portion of revenues and profits of firms in the S&P 500 index is generated abroad, creating pressure for greater FDI.

Question 8

Historically, where has most FDI been directed?

Answer 8

Historically, most FDI has been directed towards developed nations, with firms from advanced countries investing in these markets.

Question 9

Why has the United States been an attractive target for FDI?

Answer 9

The United States has been an attractive target for FDI due to its large and wealthy domestic markets, dynamic and stable economy, favorable political environment, and openness to foreign direct investment.

Question 10

Which developed nations in Europe have received significant FDI inflows?

Answer 10

The developed nations of Europe, such as the United Kingdom and France, have received significant FDI inflows, primarily from the United States and other European countries.

Question 11

How has FDI into developing nations and transition economies changed over time?

Answer 11

FDI into developing nations and transition economies, including Eastern Europe and the old Soviet Union, has increased significantly in recent years.

Question 12

What has driven the increase in FDI inflows into China?

Answer 12

China has become a major recipient of FDI due to its growing importance as an emerging economy.

It attracted about $60 billion of FDI in 2004, which rose steadily to reach a record $136 billion in 2017.

Question 13

Which regions in the developing world have attracted significant FDI inflows?

Answer 13

Southeast Asia and Latin America have attracted significant FDI inflows.

China is the leading recipient in Southeast Asia, while Brazil and Mexico are prominent in Latin America.

Question 14

What challenges does Africa face in attracting FDI?

Answer 14

Africa faces challenges in attracting FDI, including political unrest, armed conflict, frequent changes in economic policy, and competition from other regions. In 2017,

Africa received the smallest amount of inward investment among these regions.

Question 15

What economic shift did China’s leadership initiate in the late 1970s?

Answer 15

China’s leadership initiated a shift from a centrally planned socialist system to a more market-driven economy in the late 1970s.

Question 16

How has China’s economic growth been over the past four decades?

Answer 16

China has experienced sustained high economic growth rates of around 6-10 percent per year over the past 40 years.

Question 17

What is the historical trend of foreign investment in China?

Answer 17

Foreign investment in China started from a small base and increased significantly.

Between 1985 and 1990, it averaged $2.7 billion annually, surging to $40 billion annually in the late 1990s, making China the second-largest recipient of FDI inflows globally after the United States.

Question 18

How has China’s FDI inflow and stock changed over the years?

Answer 18

In 2016, FDI inflow into China reached $133 billion, and the total stock of FDI in mainland China grew from almost nothing in 1978 to $1.35 trillion in 2016, with an additional $1.6 trillion of FDI stock in Hong Kong.

Question 19

Why is China an attractive destination for FDI?

Answer 19

China’s attractiveness for FDI is due to its large population, representing the world’s largest market, and the historical difficulties posed by import tariffs, which made FDI necessary to access the market. \

China’s membership in the World Trade Organization (WTO) has lowered tariff rates but still makes FDI appealing.

Additionally, building guanxi (relationship networks), labor cost advantages, and tax incentives contribute to its attractiveness.

Question 20

What are some challenges foreign firms face when doing business in China?

Answer 20

Challenges include a less wealthy and sophisticated consumer market compared to developed nations, a highly regulated business environment, shifting tax and regulatory regimes, inexperienced or opportunistic local joint-venture partners, and concerns about protecting intellectual property rights.

Question 21

Which countries have consistently been the largest source countries for FDI since World War II?

Answer 21

Since World War II, the United States has consistently been the largest source country for FDI.

Other important source countries include the United Kingdom, France, Germany, the Netherlands, and Japan.

Question 22

What percentage of all FDI outflows for the years 1998-2018 did the top six source countries account for?

Answer 22

The top six source countries

(United States, United Kingdom, France, Germany, the Netherlands, and Japan)

collectively accounted for 60 percent of all FDI outflows for the years 1998-2018.

Question 23

Why have these top source countries dominated in FDI outflows historically?
(United States, United Kingdom, France, Germany, the Netherlands, and Japan)

Answer 23

These countries dominated FDI outflows historically because they were among the most developed nations with the largest economies after World War II.

They were home to many large and well-capitalized enterprises, and their history as trading nations naturally led them to seek foreign markets for economic expansion.

Question 24

How have Chinese firms evolved as foreign investors over the years?

Answer 24

Chinese firms have emerged as major foreign investors, with outward FDI increasing steadily.

In 2016, Chinese firms invested a record $196 billion, primarily in extractive industries in less developed nations.

They aimed to gain access to raw materials, as China is one of the world’s largest consumers.

More recently, Chinese firms have started turning their attention to more advanced nations, including the United States.

Question 25

What are the two main forms of FDI?

Answer 25

The two main forms of FDI are greenfield investments, which involve establishing a new operation in a foreign country, and acquisitions, which involve acquiring or merging with an existing firm in the foreign country.

Question 26

What percentage of FDI inflows were in the form of mergers and acquisitions between 1998 and 2017, according to UN estimates?

Answer 26

UN estimates suggest that between 40 to 80 percent of all FDI inflows were in the form of mergers and acquisitions between 1998 and 2017.

Question 27

How do FDI flows into developed nations differ from those into developing nations in terms of mergers and acquisitions?

Answer 27

In the case of developing nations, only about one-third or less of FDI is in the form of cross-border mergers and acquisitions.

This may be due to the relatively fewer target firms available for acquisition in developing nations.

Question 28

Why might firms prefer to acquire existing assets through mergers and acquisitions rather than undertake greenfield investments?

Answer 28

Firms may prefer acquisitions over greenfield investments because mergers and acquisitions are quicker to execute, they provide access to valuable strategic assets like brand loyalty, customer relationships, trademarks, patents, and distribution systems, and they allow for the transfer of capital, technology, or management skills to increase the efficiency of the acquired unit.

Question 29

What are some potential risks associated with mergers and acquisitions in the context of FDI?

Answer 29

While mergers and acquisitions can offer benefits, there is evidence that many fail to realize their anticipated gains, indicating potential risks.

The integration of different organizational cultures and management styles, regulatory challenges, and difficulties in achieving synergy are among the possible challenges.

Question 30

When deciding between a greenfield investment and an acquisition in a foreign country, what are some factors to consider?

Answer 30

When deciding between a greenfield investment (starting a new operation) and an acquisition (buying or merging with an existing firm) in a foreign country, several factors should be considered.

While acquisitions are typically quicker to execute, they often fail to deliver the anticipated advantages, with a failure rate between 50 and 83 percent.

The decision should take into account factors like the specific goals of the investment, the availability of suitable target firms, the integration challenges, regulatory considerations, and the potential for synergy.

Question 31

What has been the historical trend of Canada’s FDI inflows and outflows, and what factors have contributed to its FDI outflows?

Answer 31

Historically, Canada’s FDI inflows have been less than its outflows.

Canadian FDI outflows have grown significantly due to the rise of Canadian affiliates and subsidiaries, primarily in the United States.

Canadian companies have increasingly engaged in the global economy, with most overseas investments going to existing affiliates and subsidiaries for working capital purposes.

Acquisitions of foreign assets and companies have been the main driver of Canadian FDI outflows since 2002, reducing their traditional dependence on the United States.