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FI3503 > Lecture 1 > Flashcards

Lecture 1 Flashcards

1
Q

FDI

A
  • Foreign direct investment
  • the process whereby residents of one country (the home country) acquire ownership of assets for the purpose of controlling the production,distribution and other activities of a firm in another country (the host country).
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2
Q

Methods of establishing presence in foreign Markets

A
  • International trade
  • international Licensing
  • international distribution and production
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3
Q

international trade

A
  • produce goods in home country and export finished goods to host country
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4
Q

International licensing

A

Licensing a foreign company to use the technology or know-how or a trademark for a fee

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5
Q

International distribution and production

A

a firm establishes distribution and production facility abroad and exercises control i.e. FDI

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6
Q

Types of FDI

A
  • Horizontal FDI
  • vertical FDI
  • Conglomerate FDI
  • Greenfield investment
  • cross-border M&A
  • Joint ventures
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7
Q

Horizonal FDI:

A
  • undertaken for the purpose of horizontal expansion to produce the same or similar kinds of goods abroad (in the host country) as in the home country
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8
Q

Vertical FDI

A

undertaken for the purpose of adding a stage in the production process that comes earlier (backward vertical FDI) or later than the firm’s principal processing activity (forward vertical FDI).

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9
Q

Conglomerate FDI:

A

involves both horizontal and vertical FDI

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10
Q

Greenfield investment

A
  • establishes new production, distribution or other facilities in the host country
  • Beneficial for host country as it creates new jobs and increases production capacity
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11
Q

Cross-border Mergers and Acquisitions

A
  • acquire or merge with an established firm in the host country
  • Can be politically sensitive due to ownership and control of domestic assets being transferred to foreigners.
  • Less welcomed by host country as they might not increase production capacit
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12
Q

Joint Ventures

A
  • establish a joint venture with an established firm in the host country.
  • Each party contributes its assets, either tangible or intangible, such as technology, ability to raise finance, existing customer base, knowledge of local market, law and regulations.
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13
Q

Theories of FDI

A
  • Hymer’s (1976) industrial organization hypothesis
  • Location hypothesis of FDI
  • The internalisation hypothesis
  • The Eclectic or OLI theory (John Dunning)
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14
Q

industrial organization hypothesis

A
  • Hymer’s (1976)
  • Firms engage in FDI when they possess some firm-specific advantages (ownership advantage) over and above that possessed by indigenous competitors in the host country
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15
Q

examples of firm-specific advantages

A
  • Better access to cheap finance than domestic competitors
  • Superior managerial and organizational capabilities
  • Superior technology and information
  • Privileged access to raw materials or final goods markets
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16
Q

Location Hypothesis of FDI

A
  • Firms engage in FDI in order to access some immobile factors of production abroad at a lower cost.
  • Due to the immobility of these factors of production some countries have locational advantages, hence attract more FDIs than others.
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17
Q

Examples of immobile factors of production are

A
  • Human capital.
  • Natural resources.
  • Infrastructure, e.g. transportation, communication
  • Political, legal and institutional environment
  • The size and development of the financial system
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18
Q

Location advantages and disadvantages (Developing countries)

A
  • High potential for economic growth
  • Low wages, low average productivity
  • High country/political risk
  • Underdeveloped financial system
  • Weak/little support for protection of property right and contract enforcement
19
Q

Location advantages and disadvantages (Developed countries)

A
  • Strong support for protection of property right and contract enforcement
  • Sophisticated financial systems
  • More mature/competitive markets
  • High wages, high productivity
20
Q

The internalisation hypothesis

A
  • firms replace market transactions at certain stages of production process with internal (intra-firm) transactions, e.g., transactions between affiliated entities
  • internalisation hypothesis explains the choice of FDI as the favoured mode of foreign activity rather than cross-border licensing
21
Q

Internalising parts of the production facility enables firms to:

A
  • exert full control over final product’s quality
  • avoid unexpected interruption to supplies due to time lag and cost of buying/selling market transactions for production input/output.
22
Q

The Eclectic or OLI theory

A
  • Developed by John Dunning
  • integrates the three theories
  • For a firm to indulge in FDI, three conditions must be met (OLI)
23
Q

OLI

A
  • The firm of one nationality possesses some ownership advantages (O) over those of other nationalities
  • It’s more beneficial for the firm to use these advantages than license them to domestic firms in the host country (internalisation advantages (I))
  • It’s in the firm’s best interest to combine the O and I advantages with the factors of production located in the host country (location advantages (L))
24
Q

Motives of FDI

A
  • Natural resource seeking
  • Market seeking
  • Efficiency seeking
  • Strategic asset seeking
25
Q

The natural resource seeking motive

A

Acquire specific resources:
- Of higher quality at a lower real cost than could be obtained in their home country
- unavailable in their home country
- Natural resource seekers aim to gain competitive advantages by saving costs and securing a stable supply source.
- FDI of this kind is also referred to as vertical FDI

26
Q

MNE

A

multi-national-enterprises

27
Q

The resource seeking motive

A
  • Physical resources such as fossil fuels, agricultural products (FDI investors are mainly primary producers and manufacturing companies)
  • Low-cost unskilled or semi-skilled labour (FDI investors are mainly manufacturing companies from labour
  • intensive sectors. Finished goods are then exported).
  • Technological capabilities, specialised management skills, marketing expertise (many companies from emerging countries investing in industrialised countries are seeking this kind of resource).
28
Q

Market seeking motive

A
  • Exploit a foreign market by supplying goods/services to the host country and/or exporting goods/services to the nearby area
29
Q

FDI market seekers’ main objectives

A
  • protect their existing market share
  • exploit new markets
  • or establish physical presence in the leading markets served by its competitor
30
Q

Market seekers FDI bypasses the problems associated with:

A
  • Host country’s barriers to international trade
  • The cost and time lag of transportation
  • Tailoring products and services to meet local demands.
31
Q

Efficiency seeking motive

A
  • To capitalise on the benefits of common ownership and governance either of diversified production activities or of similar production activities in diversified regions.
  • Usually undertaken by large, experienced and diversified MNEs
  • FDIs geared toward achieving efficiency of scale, scope or diversification of risk.
  • For example, an efficiency seeker can integrate production facilities in widely dispersed regions to take advantage of country
    -specific production factor endowments, thereby achieving global synergy
32
Q

strategic asset seeking

A
  • to promote their long-term strategic objectives by transforming core competency and competitive position
  • Many FDIs of this kind are undertaken by cross-border M&As
33
Q

Foreign assets acquired are in many cases knowledge-based resources and believed to

A
  • Enhance the acquirer’s global or regional competitive edge, e.g., acquire a foreign supplier to take control of the market for inputs
  • Weaken that of their competitors, e.g., merge with a foreign competitor to drive another competitor out of business
34
Q

Example of strategic asset seeking

A

China’s Lenovo Group acquired IBM’s PC business in a deal worth approximately £1 billion in 2005. The deal added to the acquiring company’s existing global portfolio of assets, making them the world’s third largest PC manufacturer.

35
Q

Natural resource seeking OLI

A

O - Capital, technology, access to markets; size and bargaining strengths
L - Natural resources, transport and communications infrastructure; tax and other incentives
I - To ensure stability of supplies; to control markets

36
Q

Market seeking

A

O - Capital, technology, information, management and organisational skills; ability to generate brand loyalty;R&D capacity
L - market size and characteristics; government policy
I - A desire to reduce transaction or information costs, to protect property rights; buyer ignorance or uncertainty

37
Q

Efficiency seeking

A

O - Access to markets; economies of scope, geographical diversification and/or clustering,

L - Economies of product or process specialisation and concentration Low labour costs; incentives to local production by host governments; a favourable business environment

I - Gains from economies of common governance The economies of vertical integration and horizontal diversification

38
Q

Strategic asset seeking

A

O - Strategic asset seeking Opportunities for synergy with existing assets
L - Technology, organisational, and other assets in which firm is deficient I - Economies of common governance; improved competitive or strategic advantages; to reduce or spread risks

39
Q

The benefits and costs of FDI

A
  • Output growth.
  • Employment, wages and income inequality
  • Technology advances.
  • Market structure.
  • Environment and the quality of life
40
Q

Inward FDI promotes economic growth in many different ways:

A
  • Increases the total capital accumulation.
  • increases tax revenues
  • improves the trade balance- improves efficiency and technological progress
  • Stimulate investment by local firms (crowding-in effects)
  • Spill-over knowledge to local firms, e.g., employees formerly trained by MNEshired to local firms, either by observing and or by reverse-engineer.
41
Q

The effects of FDI: Employment, wages and income inequality (1)

A
  • Indirect effects: whether a foreign affiliate sources its production inputs from local firms.
  • Empirical evidence in the literature is mixed. Effects of inbound FDI on employment vary across countries, industries, types and motives of investments.
42
Q

The effects of FDI: Employment, wages and income inequality (2)

A
  • In general, MNEs pay higher wages in the host country in which they operate but this is not the case in every circumstance Chinese firms pay lower wages for both skilled and unskilled workers compared with both domestic firms and other foreign investors in Sub-Saharan African countries (Coniglio et al.,2015) - A foreign affiliate’s ability to pay higher wage than local firms represents one of their
  • advantages.* The growth of inbound FDI has unintended consequence for the host country’s incomeinequality as the wages of more-skilled workers increase relative to those of less-skilledworkers
43
Q

The effects of FDI: Employment, wages and income inequality (3)

A

Feenstra and Hanson (1997) explain the rising income inequality in Mexico induced byinbound FDI:* Production at home (USA) uses high-skilled labour* Production overseas (Mexico) uses low-skilled labour (which is high-skilledfrom the recipient country’s perspective)Þ Demand for high-skilled labour rises in both home and host countries.Þ In the regions of Mexico where FDI was most concentrated, growth in FDI can account for over50 percent of the increase in the share of skilled labour in total wages that occurred during thelate 1980s

44
Q

The effects of FDI: technology

A

FI3503 (11 decks)

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