The document provides an overview of chapters 8 and 9 from a textbook on business in today's global environment. Chapter 8 discusses foreign direct investment (FDI), including what FDI is, patterns of FDI flows and stocks, reasons why firms choose FDI over exporting or licensing, how governments and international institutions influence FDI, and implications for managers. Key topics covered include the definition of FDI, trends showing increasing FDI globally and among developing countries, and theories for why firms undertake FDI.

1. MBA 531
Business in Today’s Global
Environment
Overview of Week 3 Textbook Readings:
Chapters 8 and 9

2. Chapter 8
Foreign Direct
Investment

3. 8-3
What Is FDI?
Foreign direct investment (FDI) occurs
when a firm invests directly in new
facilities to produce and/or market in a
foreign country
 the firm becomes a multinational enterprise
FDI can be in the form of
 greenfield investments - the establishment of
a wholly new operation in a foreign country
 acquisitions or mergers with existing firms in
the foreign country

4. 8-4
What Is FDI?
The flow of FDI - the amount of FDI
undertaken over a given time period
 Outflows of FDI are the flows of FDI out of a
country
 Inflows of FDI are the flows of FDI into a
country
The stock of FDI - the total accumulated
value of foreign-owned assets at a given
time

5. 8-5
What Are The Patterns Of FDI?
Both the flow and stock of FDI have
increased over the last 35 years
 Most FDI is still targeted towards developed
nations
 United States, Japan, and the EU
 but, other destinations are emerging
 South, East, and South East Asia
especially China
 Latin America

6. 8-6
What Are The Patterns Of FDI?
FDI Outflows 1982-2012 ($ billions)

7. 8-7
What Are The Patterns Of FDI?
FDI Inflows by Region 1995-2011 ($ billion)

8. 8-8
What Are The Patterns Of FDI?
 The growth of FDI is a result of
1. a fear of protectionism
 want to circumvent trade barriers
2. political and economic changes
 deregulation, privatization, fewer restrictions on
FDI
2. new bilateral investment treaties
 designed to facilitate investment
4. the globalization of the world economy
 many companies now view the world as their
market
 need to be closer to their customers

9. 8-9
What Are The Patterns Of FDI?
Gross fixed capital formation - the total
amount of capital invested in factories,
stores, office buildings, and the like
 the greater the capital investment in an
economy, the more favorable its future
prospects are likely to be
So, FDI is an important source of capital
investment and a determinant of the future
growth rate of an economy

10. 8-10
What Are The Patterns Of FDI?
Inward FDI as a % of Gross Fixed Capital Formation 1992-2008

11. 8-11
What Is The Source Of FDI?
Since World War II, the U.S. has been the
largest source country for FDI
 the United Kingdom, the Netherlands, France,
Germany, and Japan are other important
source countries
 together, these countries account for 60% of
all FDI outflows from 1998-2011

12. 8-12
What Is The Source Of FDI?
Cumulative FDI Outflows 1998-2011 ($ billions)

13. 8-13
Why Do Firms Choose Acquisition
Versus Greenfield Investments?
Most cross-border investment is in the
form of mergers and acquisitions rather
than greenfield investments
 between 40-80% of all FDI inflows per annum
from 1998 to 2011 were in the form of
mergers and acquisitions
 but in developing countries two-thirds of
FDI is greenfield investment
 fewer target companies

14. 8-14
Why Do Firms Choose Acquisition
Versus Greenfield Investments?
Firms prefer to acquire existing assets
because
 mergers and acquisitions are quicker to
execute than greenfield investments
 it is easier and perhaps less risky for a firm to
acquire desired assets than build them from
the ground up
 firms believe that they can increase the
efficiency of an acquired unit by transferring
capital, technology, or management skills

15. 8-15
Why Choose FDI?
 Question: Why does FDI occur instead of
exporting or licensing?
1. Exporting - producing goods at home
and then shipping them to the receiving
country for sale
 exports can be limited by transportation
costs and trade barriers
 FDI may be a response to actual or
threatened trade barriers such as import
tariffs or quotas

16. 8-16
Why Choose FDI?
2. Licensing - granting a foreign entity the right to
produce and sell the firm’s product in return for
a royalty fee on every unit that the foreign
entity sells
 Internalization theory (aka market imperfections
theory) - compared to FDI licensing is less attractive
 firm could give away valuable technological
know-how to a potential foreign competitor
 does not give a firm the control over
manufacturing, marketing, and strategy in the
foreign country
 the firm’s competitive advantage may be based
on its management, marketing, and
manufacturing capabilities

17. 8-17
What Is The Pattern Of FDI?
 Question: Why do firms in the same industry
undertake FDI at about the same time and the
same locations?
 Knickerbocker - FDI flows are a reflection of
strategic rivalry between firms in the global
marketplace
 multipoint competition -when two or more enterprises
encounter each other in different regional markets,
national markets, or industries

18. 8-18
What Is The Pattern Of FDI?
 Question: But, why is it profitable for firms to
undertake FDI rather than continuing to export
from home base, or licensing a foreign firm?
 Dunning’s eclectic paradigm - it is important to
consider
 location-specific advantages - that arise from using
resource endowments or assets that are tied to a
particular location and that a firm finds valuable to
combine with its own unique assets
 externalities - knowledge spillovers that occur when
companies in the same industry locate in the same
area

19. 8-19
What Are The Theoretical
Approaches To FDI?
 The radical view - the MNE is an instrument of
imperialist domination and a tool for exploiting
host countries to the exclusive benefit of their
capitalist-imperialist home countries
 in retreat almost everywhere
 The free market view - international production
should be distributed among countries according
to the theory of comparative advantage
 embraced by advanced and developing nations
including the United States and Britain, but no country
has adopted it in its purest form

20. 8-20
What Are The Theoretical
Approaches To FDI?
 Pragmatic nationalism - FDI has both benefits
(inflows of capital, technology, skills and jobs)
and costs (repatriation of profits to the home
country and a negative balance of payments
effect)
 FDI should be allowed only if the benefits outweigh
the costs
 Recently, there has been a strong shift toward
the free market stance creating
 a surge in FDI worldwide
 an increase in the volume of FDI in countries with
newly liberalized regimes

21. 8-21
How Does FDI Benefit
The Host Country?
 There are four main benefits of inward
FDI for a host country
1. Resource transfer effects - FDI brings
capital, technology, and management
resources
2. Employment effects - FDI can bring jobs

22. 8-22
How Does FDI Benefit
The Host Country?
3. Balance of payments effects - FDI can help a
country to achieve a current account surplus
4. Effects on competition and economic growth -
greenfield investments increase the level of
competition in a market, driving down prices
and improving the welfare of consumers
 can lead to increased productivity growth, product
and process innovation, and greater economic
growth

23. 8-23
What Are The Costs Of
FDI To The Host Country?
 Inward FDI has three main costs:
1. Adverse effects of FDI on competition
within the host nation
 subsidiaries of foreign MNEs may have
greater economic power than indigenous
competitors because they may be part of
a larger international organization

24. 8-24
What Are The Costs Of
FDI To The Host Country?
2. Adverse effects on the balance of payments
 when a foreign subsidiary imports a substantial
number of its inputs from abroad, there is a debit on
the current account of the host country’s balance of
payments
2. Perceived loss of national sovereignty and
autonomy
 decisions that affect the host country will be made
by a foreign parent that has no real commitment to
the host country, and over which the host country’s
government has no real control

25. 8-25
How Does FDI Benefit
The Home Country?
 The benefits of FDI for the home country
include
1. The effect on the capital account of the home
country’s balance of payments from the inward
flow of foreign earnings
2. The employment effects that arise from
outward FDI
3. The gains from learning valuable skills from
foreign markets that can subsequently be
transferred back to the home country

26. 8-26
What Are The Costs Of
FDI To The Home Country?
1. The home-country’s balance of payments
can suffer
 from the initial capital outflow required to
finance the FDI
 if the purpose of the FDI is to serve the home
market from a low cost labor location
 if the FDI is a substitute for direct exports

27. 8-27
What Are The Costs Of
FDI To The Home Country?
2. Employment may also be negatively affected if
the FDI is a substitute for domestic production
 But, international trade theory suggests that
home-country concerns about the negative
economic effects of offshore production (FDI
undertaken to serve the home market) may not
be valid
 may stimulate economic growth and
employment in the home country by freeing
resources to specialize in activities where the
home country has a comparative advantage

28. 8-28
How Does Government
Influence FDI?
Governments can encourage outward FDI
 government-backed insurance programs to
cover major types of foreign investment risk
Governments can restrict outward FDI
 limit capital outflows, manipulate tax rules, or
outright prohibit FDI

29. 8-29
How Does Government
Influence FDI?
Governments can encourage inward FDI
 offer incentives to foreign firms to invest in
their countries
 gain from the resource-transfer and employment
effects of FDI, and capture FDI away from other
potential host countries
Governments can restrict inward FDI
 use ownership restraints and performance
requirements

30. 8-30
How Do International
Institutions Influence FDI?
Until the 1990s, there was no consistent
involvement by multinational institutions in
the governing of FDI
Today, the World Trade Organization is
changing this by trying to establish a
universal set of rules designed to promote
the liberalization of FDI

31. 8-31
What Does FDI
Mean For Managers?
Managers need to consider what trade
theory implies about FDI, and the link
between government policy and FDI
The direction of FDI can be explained
through the location-specific advantages
argument associated with John Dunning
 however, it does not explain why FDI is
preferable to exporting or licensing, must
consider internalization theory

32. 8-32
What Does FDI
Mean For Managers?
A Decision Framework

33. 8-33
What Does FDI
Mean For Managers?
A host government’s attitude toward FDI is
important in decisions about where to
locate foreign production facilities and
where to make a foreign direct investment
 firms have the most bargaining power when
the host government values what the firm has
to offer, when the firm has multiple
comparable alternatives, and when the firm
has a long time to complete negotiations

34. Chapter 9
Regional Economic
Integration

35. 8-35
What Is Regional
Economic Integration?
 Regional economic integration - agreements
between countries in a geographic region to
reduce tariff and non-tariff barriers to the free
flow of goods, services, and factors of
production between each other
 Question: Do regional trade agreements
promote free trade?
 In theory, yes, but the world may be moving toward a
situation in which a number of regional trade blocks
compete against each other

36. 8-36
What Are The Levels Of
Regional Economic Integration?
1. A free trade area eliminates all barriers to
the trade of goods and services among
member countries
 European Free Trade Association (EFTA) -
Norway, Iceland, Liechtenstein, and
Switzerland
 North American Free Trade Agreement
(NAFTA) - U.S., Canada, and Mexico

37. 8-37
What Are The Levels Of
Regional Economic Integration?
2. A customs union eliminates trade barriers
between member countries and adopts a
common external trade policy
 Andean Community (Bolivia, Colombia, Ecuador,
and Peru)
3. A common market has no barriers to trade
between member countries, a common
external trade policy, and the free movement of
the factors of production
 Mercosur (Brazil, Argentina, Paraguay, and
Uruguay)

38. 8-38
What Are The Levels Of
Regional Economic Integration?
4. An economic union has the free flow of
products and factors of production between
members, a common external trade policy, a
common currency, a harmonized tax rate, and
a common monetary and fiscal policy
 European Union (EU)
5. A political union involves a central political
apparatus that coordinates the economic,
social, and foreign policy of member states
 the EU is headed toward at least partial political
union, and the U.S. is an example of even closer
political union

39. 8-39
What Are The Levels Of
Regional Economic Integration?
Levels of Economic Integration

40. 8-40
Why Should Countries
Integrate Their Economies?
 All countries gain from free trade and investment
 regional economic integration is an attempt to exploit
the gains from free trade and investment
 Linking countries together, making them more
dependent on each other
 creates incentives for political cooperation and
reduces the likelihood of violent conflict
 gives countries greater political clout when dealing
with other nations

41. 8-41
What Limits Efforts
At Integration?
 Economic integration can be difficult because
 while a nation as a whole may benefit from a regional
free trade agreement, certain groups may lose
 it implies a loss of national sovereignty
 Regional economic integration is only beneficial
if the amount of trade it creates exceeds the
amount it diverts
 trade creation occurs when low cost producers within
the free trade area replace high cost domestic
producers
 trade diversion occurs when higher cost suppliers
within the free trade area replace lower cost external
suppliers

42. 8-42
What Is The Status Of Regional
Economic Integration In Europe?
 Europe has two trade blocs
1. The European Union (EU) with 27
members
2. The European Free Trade Area (EFTA)
with 4 members
 The EU is seen as the world’s next
economic and political superpower

43. 8-43
What Is The Status Of Regional
Economic Integration In Europe?
Member States of The European Union in 2012

44. 8-44
What Is The European Union?
 The devastation of two world wars on Western
Europe prompted the formation of the EU
 Members wanted lasting peace and to hold their own
on the world’s political and economic stage
 Forerunner was the European Coal and Steel
Community (1951)
 The European Economic Community (1957) was
formed at the Treaty of Rome with the goal of
becoming a common market

45. 8-45
What Is The European Union?
 The Single European Act (1987)
 committed the EC countries to work toward
establishment of a single market by December 31,
1992
 was born out of frustration among EC members that
the community was not living up to its promise
 provided the impetus for the restructuring of
substantial sections of European industry allowing for
faster economic growth than would otherwise have
been the case

46. 8-46
What Is The Political Structure
Of The European Union? The main institutions in the EU include:
1. The European Council - the ultimate controlling
authority within the EU
2. The European Commission - responsible for proposing
EU legislation, implementing it, and monitoring
compliance with EU laws by member states
3. The European Parliament - debates legislation
proposed by the commission and forwarded to it by the
council
4. The Court of Justice - the supreme appeals court for EU
law

47. 8-47
What Is The Euro?
The Maastricht Treaty committed the EU
to adopt a single currency
 created the second largest currency zone in
the world after that of the U.S. dollar
 used by 17 of the 27 member states
 Britain, Denmark, and Sweden opted out
since its establishment January 1, 1999,
the euro has had a volatile trading history
with the U.S. dollar

48. 8-48
Is The Euro A Good Thing?
 Benefits of the euro
 savings from having to handle one currency, rather
than many
 it is easier to compare prices across Europe, so firms
are forced to be more competitive
 gives a strong boost to the development of highly
liquid pan-European capital market
 increases the range of investment options open both
to individuals and institutions
 Costs of the euro
 loss of control over national monetary policy
 EU is not an optimal currency area

49. 8-49
Should The EU
Continue To Expand?
Many countries have applied for EU
membership
Ten countries joined in 2004 expanding
the EU to 25 states
In 2007, Bulgaria and Romania joined
bringing membership to 27 countries
Turkey has been denied full membership
because of concerns over human rights

50. 8-50
What Is The Status Of Economic
Integration In The Americas?
There is a move toward greater regional
economic integration in the Americas
The biggest effort is the North American
Free Trade Area (NAFTA)
Other efforts include the Andean
Community and Mercosur
A hemisphere-wide Free Trade of the
Americas is under discussion

51. 8-51
What Is The Status Of Economic
Integration In The Americas?
Economic Integration in the Americas

52. 8-52
What Is The North American
Free Trade Agreement?
 The North American Free Trade Area includes the
United States, Canada, and Mexico
 abolished tariffs on 99% of the goods traded between
members
 removed barriers on the cross-border flow of services
 protects intellectual property rights
 removes most restrictions on FDI between members
 allows each country to apply its own environmental
standards
 establishes two commissions to impose fines and
remove trade privileges when environmental
standards or legislation involving health and safety,
minimum wages, or child labor are ignored

53. 8-53
Is The North American
Free Trade Area Beneficial?
 Supporters of NAFTA claimed that
 Mexico would benefit
 from increased jobs as low cost production moves
south and will see more rapid economic growth as a
result
 the U.S. and Canada would benefit from
 access to a large and increasingly prosperous market
 the lower prices for consumers from goods produced
in Mexico
 low cost labor and the ability to be more competitive
on world markets
 increased imports by Mexico

54. 8-54
Is The North American
Free Trade Area Beneficial?
Critics of NAFTA claimed that
 jobs would be lost and wage levels would
decline in the U.S. and Canada
 pollution would increase due to Mexico's more
lax standards
 Mexico would lose its sovereignty

55. 8-55
Who Was Right?
Research indicates that NAFTA’s early
impact was subtle, and both advocates
and detractors may have been guilty of
exaggeration
NAFTA is credited with helping create
increased political stability in Mexico
Other Latin American countries would like
to join NAFTA

56. 8-56
What Is
The Andean Community?
The Andean Pact
 formed in 1969 using the EU model
 had more or less failed by the mid-1980s
 was re-launched in 1990, and now operates
as a customs union
 renamed the Andean Community in 1997
 signed an agreement in 2003 with Mercosur
to restart negotiations towards the creation of
a free trade area

57. 8-57
What Is Mercosur?
 Mercosur
 originated in 1988 as a free trade pact between Brazil
and Argentina
 was expanded in 1990 to include Paraguay and
Uruguay and in 2005 with the addition of Venezuela
 may be diverting trade rather than creating trade, and
local firms are investing in industries that are not
competitive on a worldwide basis
 initially made progress on reducing trade barriers
between member states, but more recently efforts
have stalled

58. 8-58
What Is The Central American
Trade Agreement And CARICOM?
 There are two other trade pacts in the Americas
 the Central American Trade Agreement –(CAFTA,
2005) - to lower trade barriers between the U.S. and
members
 CARICOM (1973) - to establish a customs union
 Neither pact has achieved its goals yet
 In 2006, six CARICOM members formed the
Caribbean Single Market and Economy (CSME)
- to lower trade barriers and harmonize macro-
economic and monetary policy between
members

59. 8-59
What Is Free Trade
Of The Americas?
 Talks began in April 1998 to establish a Free Trade of
The Americas (FTAA) by 2005
 The FTAA was not established and now support from the
U.S. and Brazil is mixed
 the U.S. wants stricter enforcement if intellectual
property rights
 Brazil and Argentina want the U.S. to eliminate
agricultural subsidies and tariffs
 If the FTAA is established, it will have major implications
for cross-border trade and investment flows within the
hemisphere
 would create a free trade area of 850 million people
who accounted for nearly $18 trillion in GDP in 2008

60. 8-60
What Is The Status Of
Economic Integration In Asia?
Various efforts at integration have been
attempted in Asia, but most exist in name
only
 Association of Southeast Asian Nations
(ASEAN)
 Asia-Pacific Economic Cooperation (APEC)

61. 8-61
What Is The Association Of
Southeast Asian Nations?
 The Association of Southeast Asian Nations
(ASEAN, 1967)
 currently includes Brunei, Indonesia, Malaysia, the
Philippines, Singapore, Thailand, Vietnam, Myanmar,
Laos, and Cambodia
 wants to foster freer trade between member countries
and to achieve some cooperation in their industrial
policies
 An ASEAN Free Trade Area (AFTA) between
the six original members of ASEAN came into
effect in 2003
 ASEAN and AFTA are moving towards establishing a
free trade zone

62. 8-62
What Is The Association Of
Southeast Asian Nations?
ASEAN Countries

63. 8-63
What Is The Asia-Pacific
Economic Cooperation?
The Asia-Pacific Economic Cooperation
(APEC)
 has 21 members including the United States,
Japan, and China
 wants to increase multilateral cooperation
 member states account for 55% of world’s
GNP, and 49% of world trade

64. 8-64
What Is The Asia-Pacific
Economic Cooperation?
APEC Members

65. 8-65
What Is The Status Of
Economic Integration In Africa?
Many countries are members of more than
one of the nine blocs in the region
 but, since many countries support the use of
trade barriers to protect their economies from
foreign competition, meaningful progress is
slow
The East African Community (EAC) was
re-launched in 2001, however so far, the
effort appears futile

66. 8-66
What Does Economic
Integration Mean For Managers?
 Regional economic integration
 opens new markets
 allows firms to realize cost economies by centralizing
production in those locations where the mix of factor
costs and skills is optimal
 But
 within each grouping, the business environment
becomes competitive
 there is a risk of being shut out of the single market
by the creation of a “trade fortress”