IPE-ESSAY-Giorgio-R xEffectsofFDIonDevelopingNationschangeshighlighted x
 

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International Political Economy

LLB/BIR

IPE Essay Topic

1

7: In a world of high capital mobility, how do foreign direct investment (FDI) inflows affect the domestic politics and economics of developing countries?

Since the Age of Imperialism developing countries have faced a number of hardships when it comes to setting up an effective government to rule their populations, instigate development, and become not just independent nations but moreover sustainable. Over the last decades more developed nations decided to invest in several developing nations, but to their surprise faced obstacles being the risk of expropriation of their investments. During the 70’s and 80’s there was a growing trend of expropriation on behalf of host countries receiving FDI, but this trend soon declined until quite recently when Venezuela nationalized oil companies and Bolivia expropriated the gas industry practically controlled by foreign investors in 2005 among other examples. With this in mind, we can come up with several questions to explain said events. Why did these governments decide to expropriate foreign direct investments, and further what is the effect of FDI inflows in the domestic politics and economies of host countries? Is it a possibility that the sole presence of FDI was a cause for its expropriation? In order to tackle these questions and ultimately address the political and economic effects of FDI on developing countries it is necessary to understand how it is allocated, present the reasons for which a government would choose to expropriate said investment, and analyze real life examples.

When an investor is deciding in which country to allocate his resources there are several factors which are to be taken into account. FDI connotes large amounts of capital, for which investors must assess the political and economic situation of the developing country of choice before allocating their funds in a business. In Latin America the three greatest recipients of FDI are Brazil, Chile, and Colombia while in Africa it is South Africa, the Republic of Congo, and Mozambique. Investors take into account the resources at hand and other factors that would make their investment fruitful. For example, Brazil has a market of nearly 210 million inhabitants and is less vulnerable to international crises due to its diversified economy, while Colombia is rich in natural resources and has enjoyed greater political stabilization thanks to the disarmament procedures of the FARC. What is important to grasp from this is that developing countries are very attractive destinations for FDI as they hold promising rewards, but there is always a risk to every business venture. Bolivia and Venezuela have proven to be the perfect examples for FDI going wrong. Both countries promised fruitful returns as each held specific features that are very attractive for investors, but due to the decisions taken by their significant heads of state these nations now find themselves at a limbo, as they are now limited in regards to their market possibilities. Venezuela possesses large oil reserves, a large size of domestic market and further extensive natural resources, but due to its uncertain legal system which allowed infringements to property rights, foreign currency controls and increasing regulations investors no longer want to allocate FDI. The same goes for Bolivia which holds the world’s largest reserve of lithium. In short, FDI has proven to be very beneficial for some countries such as Brazil and South Africa, while Bolivia and Venezuela seem to have come out in disadvantage, but why?

FDI can cause both positive and negative effects on the political and economic spectrums of a nation. On one hand they are beneficial as they provide capital, technology, managerial expertise, global marketing networks, and employment to a developing society and therefore stimulate its growth. On the other hand, they may also provoke negative effects such as an ambiguous effect on the balance of payments, the crowding out of scarce local savings, the suppression of local competition, and in some cases refusal to transfer technology. Out of those various factors the most interesting one seems to be the effects produced by balance of payments due to the fact that these can be either extremely beneficial or catastrophic for a country. In the best case scenario, a positive effect of balance of payments will produce an inflow of capital, serve as a substitute for imports, and consequently cause an inflow of payments from export of goods and services. In the worst case scenario, after an inflow of capital a reciprocal outflow develops from the earnings of the FDI. Further, the FDI can lead towards an increment in imports of inputs and intermediate goods from abroad, transfer pricing and profit repatriation.

With this in mind, in which case would these situations arise, and further what could trigger these specific outcomes? At the end of the day, it all comes down to the person in charge and the way in which they are running the FDI. Either it being the elites or the government itself who negotiate the terms of a contract for FDI to take place, the success of the venture, and further the kind of effects it will produce, depend largely on the interests and goals of the host actors as they are the ones who will ultimately decide the route which will be taken. Through the expropriation of FDI several have been the governments of developing countries that have gained grand amounts of income to do as they please, and because they hold this kind of power host characters seem to hold leverage over MNCs. Due to the international nature of the contracts being made concerning FDI, MNCs have to abide by the local legal system and regulations which not only disarms the corporation from being able to apply international standards, but moreover provides the host government with leverage enough to determine the definition of property rights and their application within their national territory. What’s worse is that neither expropriation nor the standard of compensation for said action have been legally addressed by international law which provides further coercive power to the local government when it comes to deciding either to expropriate FDI or not to (Easton & Gersovitz, 1983; Thomas & Worrall, 1994). Moreover, in the long-run expropriated ventures managed by the host country tend to perform in a less efficient manner and require continuous subsidies to stay afloat (Megginson & Netter, 2001; minor, 1994). This means that after expropriating FDI a country’s government may benefit from the short term benefits such as the sudden inflow of capital, but on the long-run expropriation seems not to be advisable for the population as a whole. FDI connotes extremely positive results if managed correctly through friendly cooperation between the local government and the investors, but when nationalization takes place governments falter to take care of the venture therefore causing negative effects.

Taking into consideration the undesirability of expropriation due to its negative connotations, what are then the incentives of a head of state to conduct the expropriation of FDI? Depending on the type of government at hand, the political interests of the governing political party, and further the time horizon of the head of state’s mandate the reasons behind the action of expropriation of FDI in developing countries can be determined (Li, 2009). Despite a common belief that authoritarian regimes are more beneficial for MNCs due to better entry deals caused by the lack of popular pressure, the repression of labor unions, and overall lower-cost workforces, in reality democracies are indeed better options for MNC’s. This is due to a stable political environment which gives the nation credibility, and friendlier international agreements and relations which will foster a better future for FDI expansion (Jensen, 2003). Consequently, it can be assumed that authoritarian regimes are less advantageous for FDI in comparison to democracies due to the risks of political instability and expropriation.

At the end of the day, the real incentive for expropriation lies in the time horizon of the head of states’ mandate. In the long-run, FDI ventures which have been expropriated have demonstrated to perform in a less efficient manner in comparison to previous stages in which they were under the control of MNCs. Therefore, when a leader decides to expropriate it is usually for short-run benefits (Geddes, 1994). For example, if a president is going to step down from office soon he is more likely to expropriate FDI in order to provide his political party with means to win the next election. On the other hand, if a leader has a long horizon mandate, he is more likely to leave FDI alone as a way to guarantee political and economic stability due to the long-run benefits of said ventures. This phenomenon is better explained by Olson’s stationary bandit effect which says that authoritarian governments that have a tight grip on power want to stay in office for a long time and therefore will protect property rights of MNCs as a way to ensure future gains from their subjects (McGuire & Olson, 1996; Olson, 1993). In short, the incentives which will lead a head of state to expropriate or non-nationalize depend mostly on the political context of their nation and the time they have left in office.

With that said in order to determine the effects of FDI in developing countries it is now time to analyze the actual policies being taken by the governments considering their declared regime types, their historical and political backgrounds, and further the degree of corruption in their systems. First of all, many are the developing countries that claim to be democracies, yet they do not act in the best interest of their populations and further violate their constitutions frequently. Once again Bolivia and Venezuela are perfect examples as both have experienced situations in which their presidents have changed the constitutions and have been accused of manipulating election results. In other words, despite of being recognized as democracies several developing countries do not enjoy the credibility factor typically attributed to this type of regime due to their unpredictable practices making their governments more likely to expropriate FDI in comparison to real democracies.

Second, in order to better understand the incentives of leaders to expropriate FDI the historical and political context of their governments must be taken into account. For example, Venezuela was a country which received a great deal of FDI during the 90’s and was one of the world’s largest producers of oil until Hugo Chavez took office and decided to nationalize foreign oil companies. Due to a grudge held against the United States and foreign powers Venezuela limited any sort of international involvement in its economy which led to a downfall of the country over the following years. Bolivia experienced a similar case after Evo Morales took office in 2005. Based on an anti-American sentiment mixed with a grudge founded since the age of colonization the novel indigenous government limited its commerce with international personalities and led to a decrease in its market size and further a destabilization of its economy. These are clear examples which portray deeper motives and incentives for the expropriation of foreign companies in developing nations being greed and revenge which are elements present in several official remarks done by these heads of state. Moreover, the most important motive and cause for expropriation which has not been addressed is corruption. Developing countries have been plagued with corruption since they were granted independence and even today scandals are being discovered in which governments are directly linked. When expropriating FDI leaders do not just seek a better position for their political parties in the next election, but rather take their own personal interests into account.

Overall, FDI can be either extremely fruitful for developing countries or particularly detrimental. There are countless differences between developing nations that enjoy the benefits of FDI in comparison to others countries which do not benefit as much, but at the end it all sums up to the political approach adopted by the heads of state. Brazil and South Africa have experienced clear cases of corporate corruption just like Venezuela or Bolivia, but the decision to nationalize and adopt a protectionist stance towards the world market is the difference between a nation that strives to grow in comparison to one that deals with internal upheaval and growing poverty. FDI can bring opportunity, development and cash inflow, but through the expropriation of this asset problems surge due to the lack of proper management and human capital. Foreign direct investment is mostly advisable for economies that are willing to maintain friendly relationships with MNCs as they will be productive and fruitful whilst nations that decide to expropriate will face negative outcomes. In short, the source of FDI related problems in developing countries is not the presence of FDI itself, but rather the government’s decision to expropriate and adopt protectionist measures.

References

· Bolivia: Foreign investment. (n.d.). Retrieved April 17, 2017, from

https://en.portal.santandertrade.com/establish-overseas/bolivia/investing-3

· Brazil: Foreign investment. (n.d.). Retrieved April 17, 2017, from

https://en.portal.santandertrade.com/establish-overseas/brazil/foreign-investment

· Chile: Foreign investment. (n.d.). Retrieved April 17, 2017, from

https://en.portal.santandertrade.com/establish-overseas/chile/foreign-investment

· Colombia: Foreign investment. (n.d.). Retrieved April 17, 2017, from

https://en.portal.santandertrade.com/establish-overseas/colombia/investing

· Congo: Foreign investment. (n.d.). Retrieved April 17, 2017, from

https://en.portal.santandertrade.com/establish-overseas/congo/investing-3

· Easton, J., & Gersovitz, M. (1983). Country risk: Economic aspects. In R. Herring

(Ed.), Managing international risk(pp. 75-108). Cambridge, UK: Cambridge University Press

· Geddes, B. (1994). Politician’s dilemma: Building state capacity in Latin America.

Berkeley: University of California Press.

· Jensen, N. M. (2003). Democratic Governance and Multinational Corporations:

Political Regimes and Inflows of Foreign Direct Investment. International Organization, 57(03). doi:10.1017/s0020818303573040

· Li, Q. (2009). Democracy, Autocracy, and Expropriation of Foreign Direct

Investment. Comparative Political Studies, 42(8), 1098-1127. doi:10.1177/0010414009331723

· McGuire, M. C., & Olson, M., Jr. (1996). The economics of autocracy and majority

rule: The invisible hand and the use of force. Journal of Economic Literature, 34, 72-96.

· Megginson, W., & Netter, J. (2001). From state to market: A survey of empirical

studies on privatization. Journal of Economic Literature, 39, 321-389.

· Mozambique: Foreign investment. (n.d.). Retrieved April 17, 2017, from

https://en.portal.santandertrade.com/establish-overseas/mozambique/investing-3?actualiser_id_banque=oui&id_banque=1

· South Africa: Foreign investment. (n.d.). Retrieved April 17, 2017, from

https://en.portal.santandertrade.com/establish-overseas/south-africa/foreign-investment

· Venezuela: Foreign investment. (n.d.). Retrieved April 17, 2017, from

https://en.portal.santandertrade.com/establish-overseas/venezuela/investing

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Effects of FDI on Developing Nations

Capital mobility is the ease at which money or capital can be moved from one country to another. In the current world there exist two types of worlds based on the economic power. These two worlds are; the developing or third world countries and the developed countries. The developed countries are economically powerful than the developed worlds. Developed countries include the United States of America and England while third world countries are mostly African countries. According to World Bank, a country is categorized as the third world based on a number of factors. The factors include; weak currency, the average wage per person in such a country being less than $1000 (Singh and Neelam,2016). More often the developed countries take advantage of developing countries because of their weak economic power and invest in the countries directly. There are four determinants of capital mobility. These factors include tax rates on capital, obstacles on capital movement, government policies and the flexibility of rates of exchange.

Developing countries or third world countries benefit from the direct capital investment from the developed counties. Just like in any field where the weak have to heavily depend on stronger players, it’s the same scenario when it comes to third world countries versus the developed countries when it comes to capital mobility. The developed countries greatly help developing countries up to a point where they determine the nature and direction of politics in such countries. It is a world where capitalism and imperialism is exhibited to its fullest. As a result do the developed countries dictate the nature of politics and economy of the developing countries in terms of policies and government regulations.

In any business, there has to be something to trade with. The situation of third world countries in terms of economic power is desperate thus such countries have to play according to the rules of the direct investors. At the point when a financial specialist is choosing in which nation to invest its assets, there are a few variables which are to be considered. Direct investment in form of direct investment implies a lot of cash flow, for purposes of financial specialist’s necessity survey the dogmatic and monetary circumstance of the third world nations of the decision before dispensing their assets in a business (UNDP, 2014). In South America, the biggest beneficiaries of direct investment are Colombia and Venezuela while in Africa it is Rwanda, Kenya, and Tanzania. Financial specialists consider the current assets and different elements that would make their venture productive. For instance, Kenya has a market of over a million tenants and it is defenseless against worldwide emergencies because of its broadened economy, while Colombia is rich in characteristic assets and has appreciated more prominent political adjustment on account of the demilitarization methodology of the FDI (Chakrabarti, et al 2017). What is essential to get a handle on from this is creating nations are exceptionally appealing goals for foreign investment. As they hold promising prizes, yet there is dependably a hazard to each business venture.

Kenya and Rwanda have turned out to be the ideal cases for foreign investment turning out badly. The two nations guarantee productive returns as each held particular highlights that are exceptionally alluring for investors, yet because of the choices taken by their heads of state, these countries now wind up at economic cross roads, as they are presently constrained with respect to their market conceivable outcomes. Sudan, for instance, has huge oil reserves, a vast size of the local market and further broad regular assets. However, because of its unverifiable legitimate framework which enabled violations to property rights, outside money controls and expanding directions financial specialists never again need to allow direct investment (Moss, Todd , Standley, and Birdsall,2004). The same goes for Kenya which holds the world’s biggest source of Soda ash. Direct investments have turned out to be extremely advantageous for a few nations, for example, Nigeria and Chad, while Venezuela appears to have turned out in detriment, however, there has to be a reason.

In view of this, in which case would these circumstances emerge, and assist what could trigger these particular results? Toward the day’s end, everything comes down to the individual in control and the manner in which they are running the capital received from direct investments? It is possible that being simply the economic power or the administration who arrange the terms of an agreement for the foreign investment policies to happen, the accomplishment of the economic deal, and further the sort of impacts it will cause, depend to a great extent on the goals and objectives of the public performing participants while are the nations that at last choose the course that might be considered. Via the confiscation of the disguised donations which in fact are the direct investments, a few have been the administrations of creating nations that have increased terrific measures of pay to do however they see fit, since they hold this sort of power and have characters that appear to hold use over the determination of the conditions of exchange. Because of the worldwide idea of the agreements being made concerning foreign investments, third world countries need to comply with the nearby legitimate framework and controls which not just incapacitates the partnership from having the capacity to apply universal guidelines.

Additionally, over the long term, dispossessed endeavors oversaw by the host nation have a tendency to perform in a less effective way and require persistent sponsorships to remain above water. This implies subsequent to confiscating overseas direct deal nations. Administration may profit by the transient advantages, for example, the unexpected influx of resources, however on the finality seizure appears null in the fitting of the populace overall. Foreign investments suggest amazingly positive outcomes if overseen accurately through agreeable collaboration between the governments involved and the speculators, however when nationalization happens governments flounder to deal along with the economic treaty along the agreed lines and thus causing negative impacts.

Thinking about the nuisance of seizure because of its undesirable connotations, whatever are the motivations of a head of state to lead the confiscation of direct foreign investments? Depending upon the sort of government within reach, the partisan wellbeing of the overseeing dogmatic gathering, and additional time prospects needed by a leader of a nation’s command with purposes for an act of seizure of direct investments from developed nations in third world countries might be resolved. Notwithstanding a typical conviction that authoritarian administration is more helpful for third world countries because of better section bargains caused by the absence of well-known weight, the restraint of worker’s parties, and general lower-cost workforces, truly vote based systems are surely better alternatives for developing worlds. This is because of a stable political condition which gives the country validity, and friendlier global understandings and relations which will cultivate a superior future for developing nations. Therefore, it can be accepted that dictator administrations are less beneficial for foreign investments in contrast with majority rule governments because of the dangers of political insecurity and confiscation.

The genuine motivating force for confiscation lies in the time prospect of the leader of states’ command. Over the long term, developed nations’ investments in developed countries’ ventures which have been confiscated have shown to perform in a less proficient way in contrast with past stages in which they were under the control of the third world nations. Along these lines, when an investor chooses to dispossess his or her investments, it is for the most part for short-run benefits. For instance, if a president will be departing from office soon he will probably confiscate the funds from developed nations keeping in mind the end goal to give his political gathering intends to win the following decision. Then again, if a pioneer has a long skyline command, he will probably allow a foreign investor to sit unbothered as an approach to ensure political and financial dependability because of the long-run advantages of said wanders. This economic deal is better clarified by the investment’s impact which says that dictator governments that have a tight grasp on control need to remain in office for quite a while and subsequently will secure property privileges of developing nations as an approach to guarantee future increases from their subjects. The motivations that can prime a crown of government to seize or a foreign investment be contingent generally on the partisan setting of his or her country and the period they ought to leftward in place of work

All things considered so as to decide the impacts of foreign investments from developed countries in developing nations it is currently time to break down the real strategies being taken by the legislatures considering their proclaimed administration composes, their authentic and political foundations, and further the level of defilement in their frameworks ( Erhan, et al, 2015). Most importantly, numerous of the third world nations that claim to be majority rule governments, yet they don’t act to the greatest advantage of their populations and further damage their constitutions living environment. Tanzania and Rwanda, for instance, are ideal cases as both have encountered circumstances in which their leaders have changed the constitutions and have been blamed for controlling decision that result from FDI. At the end of the day, in spite of being perceived as vote based systems a few nations third world loath the validity factor normally ascribed to this kind of administration because of their flighty works on making their legislatures more inclined to seize developed country’s investments in contrast with genuine majority rule governments.

Second, so as to better comprehend the motivating forces of developed nations to dispossess direct investment capital, the chronicled and political setting of their legislatures must be considered. For instance, Kenya was a nation which got a lot of capital from foreign countries amid the 90’s. Because of resentment held against the United States and remote forces Kenya restricted any kind of global contribution in its economy which prompted a defeat of the nation over the next years. Zimbabwe encountered a comparative case after Robert Mugabe sent away all the foreigners from his country. In light of hostility to America, assumption blended with resentment established since the season of colonization the creative indigenous government obliged its business with general personalities and incited a decrease in its market to appraise and facilitate a destabilization of its economy (Bertrand, Olivier, and Marie-Ann, 2016). These are clear representations which delineate further goals and stimuli for the seizure of remote associations in making nations being unquenchable and reprisal which are segments display in a couple of expert remarks done by these heads of state. Also, the most fundamental manner of thinking and cause for seizure which has not been had a tendency to is corruption. Making countries have been tormented by corruption since they were surrendered opportunity and even today corruption and faults are being found in which governments are straightforwardly connected. While dispossessing, foreign investors don’t simply look for a superior position for their political gatherings in the following race, yet rather consider their very own advantages.

Conclusion

Generally speaking, direct investment from powerful economies can be either to a great degree productive for third world nations or especially unfavorable. There are innumerable contrasts between third world countries that appreciate the advantages of direct investment from foreign developed nations in contrast with other nations which don’t profit to such an extent, however, toward the end, everything totals up to the political approach got by the heads of state. Kenya and Tanzania for example, have experienced clear cases of corporate pollution basically like Senegal or Ghana; however the decision to nationalize and grasp a protectionist position towards the world market is the difference between a nation that undertakings to create interestingly with one those game plans with inside change and creating poverty ( Gorodnichenko, Yuriy, Svejnar, and Terrel, 2014l). FDI can bring opportunity, headway and cash inflow, however, through the seizure of this favorable position issues surge due to the nonappearance of fitting organization and human capital (Lin and Nan, 2015). Remote direct wander is generally fitting for economies that will keep up well-disposed associations with developing nations as they will be beneficial and productive while countries that choose to dispossess will confront negative results. The source of FDI related issues in creating nations isn’t simply the nearness of the investing nation, but instead the administration’s choice to seize and embrace protectionist measures.

Works Cited

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Singh, Neelam. Outward FDI Type and Ownership Mode: The Effect on Home Country Exports. Focus: Journal of International Business 3.2 (2016): 11-34.

Chakrabarti, Rajesh, Krishnamurthy Subramanian, and Sasha Meka. Localization of FDI flows evidence on infrastructure as a critical determinant. Journal of Law, Finance, and Accounting 2.1 (2017): 205-246.

AfDB, O. E. C. D. “UNDP.(2014).” African economic outlook (2014).

Bertrand, Olivier, and Marie-Ann Betschinger. The Role of Infrastructure Aid in the FDI Entry Decision in Developing and Emerging Economies. Academy of Management Proceedings. Vol. 2016. No. 1. Briarcliff Manor, NY 10510: Academy of Management, 2016.

Artuç, Erhan, et al. “A global assessment of human capital mobility: the role of non-OECD destinations.” World Development 65 (2015): 6-26.

Gorodnichenko, Yuriy, Jan Svejnar, and Katherine Terrell. When does FDI have positive spillovers? Evidence from 17 transition market economies. Journal of Comparative Economics 42.4 (2014): 954-969.

Lin, Nan. Building a network theory of social capital. Social capital. Routledge, 2017. 3-28.