4.5 The Role Of Foreign Direct Investment

Question 1

What is foreign direct investment?

Answer 1

FDI refers to the long term capital expenditure of multinational companies in overseas countries.

Question 2

What are multinational corporations?

Answer 2

MNCs are businesses that operate in two or more countries ie. they have operations outside of their home country.

Question 3

Why can FDI help improve economic development in LEDCs?

Answer 3

FDI is the money devoted by MNCs to business operations abroad. Globalisation and the promotion of free international trade by the WTO has encouraged a significant increase in foreign direct investment in LEDCs.

Question 4

Why do developed countries account for the last majority of the worlds FDI?

Answer 4

Because the largest MNCs are from the developer countries. MNCs have production plants or service operations in overseas countries. These MNCs have grown by using joint ventures and strategic alliances with firms in LEDCs this has resulted in a large increase in FDI in LEDCs.

Question 5

What is the amount of FDI dependent upon?

Answer 5

FDI expenditure is highly dependent on changes in the state of the world economy. During economic booms FDI tends to rise significantly as firms believe they can increase their profits by expanding overseas.

Question 6

What are the reasons MNCs expand into LEDCs?

Answer 6

Cheaper production costs
Economies of scale
Access to natural resources 
Increased sales revenue 
Avoiding trade barriers 
Logistical reasons
Financial incentives

Question 7

Why do MNCs expand into LEDCs for cheaper production costs?

Answer 7

Many MNCs have operations in LEDCs in order to exploit lower costs of production.

Question 8

Why do MNCs expand into LEDCs for economies of scale?

Answer 8

By operating on a larger scale due to a larger customer base MNCs are able to exploit economies of scale thereby reducing their unit costs of production. By operating in overseas markets MNCs are also able to achieve risk bearing economies.

Question 9

Why do MNCs expand into LEDCs for access to natural resources ?

Answer 9

MNCs are keen to expand into LEDCs because many LEDCs are well endowed in natural resources which can then be exploited.

Question 10

Why do MNCs expand into LEDCs for increased sales revenue?

Answer 10

Access to fast growing economics with large populations present enormous opportunities for MNCs.

Question 11

Why do MNCs expand into LEDCs for avoiding trade barriers ?

Answer 11

By locating within the LEDCs the MNC is able to avoid trade barriers such as tariffs, quoits and administrative obstacles.

Question 12

Why do MNCs expand into LEDCs for logistical reasons?

Answer 12

MNCs locate overseas ro reuse delivery times to customers in LEDCs and emerging markets.

Question 13

Why do MNCs expand into LEDCs for financial incentives?

Answer 13

In order to attract FDI the governments of LEDCs often offer MNCs incentives to locate in their country including tax rebates, grants, subsidises and cheaper rents.

Question 14

What are the characteristics of LEDCs that attract FDI?

Answer 14

Low cost factor inputs - in many LEDCs an abundant supply of labour means relatively lower labour costs. In additions many LEDCs are rich in natural resources thus MNCs are attached to establish themselves insect countries.
A regulatory framework that favours profit repatriation - laws and regulations are usually less strict in LEDCs thereby allowing MNCs to be exempt from directives such as minimum wage laws and safety regulations.
Favourable tax rules - as LEDCs often compete to attract FDI favourable tax rules are granted to MNCs that locate in their country such as low rates of corporation tax or delayed tax payments.

Question 15

What are the advantages of FDI for LEDCs?

Answer 15

Major source of national incomes for LEDCs far more stable than financial aid, with long term benefits for LEDCs in the long run FDi in LEDCs helps to shift both the LRAS and AD curves to the right.
Higher national income resulting from FDI can help LEDCs to close their savings gap. As the level of savings in the LEDC increases more funds become available for investment in the economy with long term benefits to the country.
The profits generated form he investment of MNCs in an LEDC contribute to the country’s tax revenues.
FDI allows the transfer of technology and more efficient work practices from MEDCs to LEDCS.

Question 16

What are further advantages of FDI for LEDCs?

Answer 16

FDI and direct rivalry from MNCs can force domestic producers in the host country to become more efficient and competitive.
FDI by a MNC provides many employment opportunities in an LEDC this has the added benefits of skill transfer form MEDCs to LEDCs higher consumption expenditure and increased income tax revenue fro the government.
The presence of MNCs in LEDCs provides domestic households and firms with a wider range of choice. Increase competition can also lead to lower prices in the economy.
The potential presence of MNCs often encourages governments in LEDCs to incest in infrastructure MNCs many also helps to provide some of the funding for this, such investments help to benefit the country as a whole.

Question 17

What are the disadvantages of FDI for LEDCs?

Answer 17

Although FDI helps to create employment opportunities in LEDCs MNCs often bring in their own management teams whilst locally hired employees are low skilled workers. This reduces the benefits of skills transfer to the LEDCs.
The lenient regulatory framework in LEDCs means that MNCs oren exploit their positions by disregarding issues of health and safety at work and ignoring the external costs of their activities in LEDCs.
FDI from large MNCs makes domestic rivals less competitive due to the advantages enjoyed by the MNCs.
In most cases the profits generated by MNCs are repatriated to their home country rather than reinvested to further improve the facilities and infrastructure in LEDCs tis critics argue that MNCs exploit and profit from LEDCs without giving much back.

Question 18

What are the further disadvantages of FDI for LEDCs?

Answer 18

Some macs are criticised for having too much power when negotiating tax breaks and other financial incentives. Many LEDCs have very limited bargaining power as MNCs have the option to redirect their FDI to neighbouring LEDCs that are willing to offer better conditions.
Critics argue that the growing presence and power of MNCs creates a loss in the cultural political an economic identity of LEDCs in favour of economically developed nations.