determinants of foreign investment

Topics: Investment, Macroeconomics, Foreign direct investment Pages: 11 (3769 words) Published: February 22, 2014


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Determinants of Foreign Direct Investment flow in developing countries.

Abstract:
In this paper we will explore different factors responsible for variation inforeign direct investment to developing countries. With the brief introduction of FDI and what are the factors in the host country which attracts inflow of Foreign Direct Investment. This study is based on the findings of different researches, different literatures are studied to find out the determinant that motivates the movement of foreign direct investment in an economy. Main/more frequently stated/studied determinants in these researches are openness to the international market, market size, tax rate, exchange rate, infrastructure development, institutions, labor cost, GDP, inflation and political risk. These determinants are found to have significant impact on the flow of FDI towards developing countries or on investor’s decision to invest.

Introduction:
Financing their investments is always a problem that developing countries have to face as their national savings are not enough for financing. They have continuous need of foreign investments which could be direct investments or indirect investments. Primarily developing countries used to take loan form international banks but after the debt crises in 1980s lending by commercial banks was no more an option, so to attract foreign capital, many countries modified their investment policies. Then FDI seemed to be a good option for getting foreign capital and avoiding debt related risks (Demirhan & Masca, 2008; Demirhan & Masca, 2008). Movement of capital internationally can be noted as of two types. Firstly, lending and borrowing internationally which is time based trade. Countries having enough capital exports for future consumption at an interest rate. Current consumptions are imported by borrowing country at same price (Krugman, P.R., & Obstfeld, 1997).Whereas the second form of capital movement is in different form known as Foreign Direct Investment (FDI) which, in other words, is the foreign ownership of factories, lands, mines or productive assets. Countries can get many benefits by attracting international investment as FDI is not only the stable or least risky form of foreign inflows but it also bring with it new technologies and employment opportunities in the recipient country (Mottaleb, K., & K., 2010). Developed countries are step ahead of developed countries in receiving FDI, in 2012 flow of FDI in developing countries was US$680 while in developed countries; it was up to US$1.3 trillion in 2012. Thus there is a domination of developed country in attracting FDI.Secondly, from the developing countries only few were able to attract major part of FDI and maximum of them apparently failed in attracting FDI(World Investment Report 2012: Towards a New Generation of Investment Policies, 2012). Now the question is why this FDI inflow is projected more towards some developing countries, what are the factors that determine the inflow of FDI or what are the determinants of FDI in developing countries? This paper attempts to find out the factors in the economies that affects the movement of FDI in a specific economy/country. Also the relationship of these factors( GDP Growth Rate, Inflation rate, Real Exchange rate, External debt, Labour cost, Return on investment in host country, Infrastructure development, Institutions and availability of skilled labor force) with the inflow of FDI in a country.

Literature review:
What is the FDI and what determines flow of FDI?
Investment made outside the home country by a company is FDI, where company makes long term investment in international production hoping to get profits for long time. FDI give rise to internationalized production, these are the investments that involve some control over the firm which has been acquired or created in host country. It is the control over the investment which is the main feature that...
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