The International Business Environment - Essay Example

The International Business Environment Introduction In the present state of the global economic situation, the concept of Foreign Direct Investment (FDI) has attracted significant attention both domestically and globally. As such, FDI has been regarded as a vital element to consider in evaluating economic development of countries around the world, particularly developing ones. Different empirical studies reveal that the relationships that prevail between economic development and FDI are multifaceted. From a macro aspect, FDI indicators represent high productivity, employment situation, technological spillovers, and competitiveness. For the less developed countries, FDI represents access to international currencies and markets, higher exports, and a source of financing (Das 2012). This paper will critically evaluate overtime the variation over time both within a country and between countries the foreign direct investment (FDI) activity while using relevant theories. Discussion Foreign Direct Investment Flows Overview Research shows that FDI plays a vital role in promoting local firms. The efforts that countries make to help them attract FDIs result from the positive influences they have in an economy. FDI boosts productivity, transfer of technology, knowhow, managerial skills, unemployment reduction, international production systems, and access to foreign markets. In this case, FDIs should be considered as ways of realizing technological spillovers, which have significant contribution to the growth of an economy as opposed to the case of national investments (Bitzenis, et al. 2012). This practice leads to advanced technologies’ spillovers to local enterprises. Conversely, FDI has the potential of crowding out local firms, leading to negative impact to the economic development of a country. Various researchers stipulate that the positive effects associated with FDI are few, and that most of the resulting effects are negative. Though FDI is associated with particular positive effects, the relationship that prevails between them and economic development are inconsistent (Das 2012). The potential negative or positive effects resulting from FDI on an economy are also dependent on the sectors nature, in which an investment will be carried out. For instance, the benefits of mining and agricultural sectors are limited (Blonigen 2005). In case an international firm penetrates a given country, market failures are the ones that attract FDI and give such firms an opportunity to penetrate the market. Moreover, foreign investors believe that their superior knowledge and technology provides them with the opportunity to gain substantial market share. Though a large number of researchers have made efforts to explain the FDI phenomenon, it is not appropriate to say that a general theory is acceptable in this situation (Wei and Liu 2004). For instance, if perfect competition characterizes this world, then the idea of foreign direct investment would be non-existent. This means that if markets operate in an efficient manner, and that no barriers to entry prevail in matters of competition and trade, then international trade would be the only way of gaining access to international markets (Paulo and Bento 2009). For direct investment to take place, a form of distortion should be present. For instance, local companies normally have sufficient information regarding the economic climate, and in order for FDIs to succeed, two conditions should be fulfilled. Firstly, it is appropriate for foreign firms to have certain advantages that help them to note that a given investment opportunity is viable. Secondly, the markets that offer these advantages should be imperfect (Denisia 2010). Based on a macroeconomic standpoint, FDI refers to a situation whereby capital flows from one country to another, and are evident in the case of balance of payment. The determinants of interest in this case include revenues gathered from investments, and flow of capital and stocks. From a microeconomic perspective, the motivations for investment beyond borders are considered from an investors’ viewpoint. It also evaluates the consequences that the host country, country of origin, and the investor face due to operations of multinational firms as opposed to the case of investment stock and flows (Denisia 2010). Foreign Direct Investment Theoretical Framework Macroeconomic Theories of FDI From a macroeconomic perspective, FDI portrays the manner in which certain type of capital flows from one country to another and become evident in the case of balance of payments. Macroeconomic theories provide an explanation as to why investors from foreign nations are motivated to invest in a given host country (Soysa 2003). The macroeconomic variables that influence flow of capital in host countries include rate of economic growth, market size, GDP, political situation, natural resources, and infrastructure. Capital market theory is a major macroeconomic theory that governs foreign direct investments. This theory stipulates that interest rates are the major determinants of foreign direct investments. It mostly emphasizes on three major positions that encourage countries to invest in less developed countries. Firstly, the exchange rate of less developed countries is undervalued, meaning that the lower costs of production are the ones that drive investment in the host countries (Morgan and Katsikeas 2008). Secondly, less developed countries lack organized securities, meaning that long-term investments in less developed countries are mostly FDI as opposed to securities purchase. Thirdly, sufficient information lacks pertaining to the securities of host countries, favouring FDI as a way of controlling assets in host countries (Denisia 2010). Dynamic macroeconomic theory targets investments timing depending on the changes being observed in the macroeconomic situation. The macroeconomic environment encompasses domestic investment, GPD (gross domestic product), productivity, real exchange rate, and openness. These factors determine the manner in which FDI flows. According to this theory, the major long-term strategies that multinational firms embark on are based on FDIs. It shows the manner in which FDIs influence exchange rates, indicating that FDIs are aimed at reducing exchange rate (Singh and Jun 2007). Economic geography theory emphasizes on certain countries to indicate why international firms excel in certain nations. Countries differ based on natural resource availability, infrastructure, local demand, and state of the labour force among others. In this perspective, economic geography also evaluates the manner in which governments influence resources present in their jurisdiction by imposing certain policies, especially because economic analysis is governed by political boundaries (Lehmann 2006). As such, this theory provides an explanation as to why particular countries, regions, or cities become economically successful. With regard to exploration of FDI in terms of Gravity approach, two close countries are evaluated based on their economic, geographic, or cultural state to determine which country has the highest FDI flow. The theory incorporates gravity variables, such as distance, development level, size, common language, distance, FDI flow openness, or protection of the stakeholders to determine the flow of FDI (United Nations, 2014). Institutional analysis FDI theory explores the role of institutional frameworks with regard to FDI flow. According to this theory, political stability plays a vital role with respect to determining the health of institutions in a given country. In this case, FDI is determined by various institutional variables, including laws, policies, and the manner in which they are implemented. Here, the four major vital variables that contribute to flow of FDI include markets, governments, socio culture, and education (Schutter, et al. 2012). Microeconomic Theories of FDI Microeconomic theories of FDI give offer answers as to why multinational firms prefer to open subsidiaries in overseas countries as opposed to licensing or exporting products and services. They explain the ways in which international firms choose desired locations for investment and why they choose those locations (Das 2012). Prevalence of firm specific advantage theory stipulates that firms invest in foreign countries because of advantages that firms witness, such as economies of scale, availability of raw materials, intangible assets such as superior management, patent, and names, and low costs of transaction among others. In case these markets operate efficiently, and no barriers prevail based on competition and trade, international trade serves as the effective way of accessing the international market (Sauvant, et al. 2011). To succeed, firms should understand the how the local economic situation operates. For FDI to excel, firms should be in possession of advantages that can help them to make viable investments. The market imperfections that prevail in a given country lead to deviation from perfect competition, leading to the establishment of a multinational enterprise in the product market. FDI leads to transformation of knowledge as well as firm assets, helping to organize production activities in the host countries (Blonigen 2005). With respect to the issue of FDI and oligopolistic market, two major foreign investors prevail. One is the producer is the immediate product while the other produces the end product. The two investors in this case make a decision as to whether they should penetrate a foreign market or not. When either of the firms enters the market, it incurs certain fixed costs and produces technological capabilities to the local firms, which operate in the same industry. It also leads to reduction of marginal production costs (Data Help Desk 2014). FDI is regarded as a defensive activity in the oligopolistic market. In case firms are risk averse, they follow their major competitor to help them avoid any distortions in the event of an oligopolistic equilibrium. In case a firm in the oligopolistic market makes a move, other firms present make countermoves both domestically and internationally (Blonigen 2005). Here, organizations follow the actions that the market leader adopts. For instance, if one firm adopts FDI, others also react by making investments in foreign countries to sustain oligopolistic equilibrium (Data Help Desk 2014). The theory of internationalization was developed based on different imperfections that prevail in the market. It is possible for firms to overcome prevailing imperfections when they internalize their local market (Goldstein 2005). This means that internationalization is a vertical-integration process, which aims at introducing new activities and operations under the operations of the firm. Traditionally, these activities used to be undertaken by intermediate enterprises. The key drivers in this case include elimination of competition and taking advantages that a given firm possesses in a certain activity (Denisia 2010). The eclectic theory is also a major microeconomic theory that explains flow of FDI in foreign countries. It incorporates three FDI theories, including ownership advantages, internalization, and locational advantages. Ownership advantages describe intangible assets that a firm has exclusive ownership, which MNCs can transfer within themselves at lower costs, making them to reduce costs and realize high incomes (Lehmann 2006). Ownership of patents, natural resources and trademarks serve as the major benefits of ownership advantages. After the first condition has been determined, location advantages evaluate host country that will be used to undertake the activities of a multinational enterprise (Morgan and Katsikeas 2008). The pros of qualitative as well as quantitative production factors, availability of resources, telecommunication, and low transportation costs, common policies by the government, large size of the market, cultural relations, and distance from domestic country are the factors that offer location advantages. With respect to internalization, after the first two conditions are addressed, a firm becomes profitable by using these benefits while collaborating with additional factors that are beyond the country of origin. In this case, the eclectic theory stipulates that ownership and locational advantages as well as internalization differ from one firm to another, and portrays the political, economic, and social situations prevalent in a given host country (Soysa 2003). FDI in the Context of Inflows and Outflows Foreign Direct Investment (FDI) inflows refer to the value of investment made in a host country by a foreign investor whereas FDI inflows imply direct investment value that a country makes to foreign countries. For the FDI inflow (direct investment), it encompasses all the assets as well as liabilities that domestic firms transfer to foreign countries (Goldstein 2005). Moreover, it addresses the liabilities and assets that are transferred between resident as well as non-resident colleague firms in case the controlling firm is foreign. In the case of FDI outflow (foreign investment abroad), it comprises of transfer of liabilities and assets between domestic investors and their direct investment firms. It also targets liabilities and assets transfer between domestic, and foreign colleague firms in case the controlling organization is based locally (United Nations 2014). The following tables and charts illustrate FDI inflows for selected countries from 2008 to 2012 based on their GDP performance. Country 2008 2009 2010 2011 2012 Average Australia 4.50% 2.60% 2.70% 4.20% 3.60% 3.52% Belgium 38.20% 12.90% 18.20% 20.10% 2.90% 18.46% Germany 0.20% 0.70% 1.70% 1.40% 0.20% 0.84% Luxembourg 20.40% 41.30% 52.40% 24.30% 14.10% 30.50% UK 3.30% 3.50% 2.20% 2.10% 2.60% 2.74% US 2.20% 1.10% 1.40% 1.50% 1.10% 1.46% China 3.80% 2.60% 4.10% 3.80% 3.10% 3.48% Russia 4.60% 2.30% 2.10% 2.00% 1.50% 2.50% Saudi Arabia 8.30% 9.70% 6.40% 2.70% 1.90% 5.80% South Africa 3.30% 2.00% 0.30% 1.50% 1.20% 1.66% Source: Author Source: Author Source: Author From the figure above, the countries showing the highest FDI inflows from 2008 to 2012 are as follows. Luxembourg (30.59 percent), Belgium (18.46 percent), Saudi Arabia (5.8 percent), Australia (3.52 percent), China (3.48 percent), United Kingdom (2.74 percent), Russia (2.5 percent), South Africa (1.66 percent), United States (1.46 percent), and Germany (0.84 percent). In this case, it is true that Luxemburg provides a broad range of opportunities for international firms to invest in the region while Germany has limited chances for facilitating foreign direct investment into the country. Country 2008 2009 2010 2011 2012 Average Australia 3.20% 1.70% 2.10% 0.90% 1.00% 1.78% Belgium 43.50% 1.60% 9.30% 16.10% 5.70% 15.24% Germany 2.00% 2.10% 3.70% 1.40% 2.00% 2.24% Luxembourg 21.40% 13.40% 39.90% 15.20% 30.90% 24.16% UK 6.90% 1.80% 1.70% 4.40% 3.10% 3.58% US 2.30% 2.20% 2.10% 2.70% 2.50% 2.36% China 1.30% 0.90% 1.00% 0.70% 0.80% 0.94% Russia 3.40% 2.80% 2.80% 2.60% 1.40% 2.60% Saudi Arabia 0.70% 0.60% 0.90% 0.60% 0.70% 0.70% South Africa - 0.40% - 0.70% 1.10% 0.73% Source: Author Source: Author Source: Author In terms of FDI outflow from 2008 to 2012, the following is an illustration of the performance the countries based on FDI inflow performance. Luxembourg (24.16 percent), Belgium (15.24 percent), United Kingdom (3.58 percent), Russia (2.6 percent), United States (2.36 percent), Germany (2.24 percent), Australia (1.78 percent), China (0.94 percent), South Africa (0.73 percent), and Saudi Arabia 0.70 percent). In this case, Luxemburg makes the biggest investments to foreign countries, while Saudi Arabia experiences various challenges while introducing local firms to foreign countries. Country Inflow Average Outflow Average Net FDI Inflow Luxembourg 30.50% 24.16% 6.34% Saudi Arabia 5.80% 0.70% 5.10% Belgium 18.46% 15.24% 3.22% China 3.48% 0.94% 2.54% Australia 3.52% 1.78% 1.74% South Africa 1.66% 0.73% 0.93% Russia 2.50% 2.60% -0.10% UK 2.74% 3.58% -0.84% US 1.46% 2.36% -0.90% Germany 0.84% 2.24% -1.40% Source: Author From the above table based on country FDI data for the selected countries, some countries have shown positive performance in terms of FDI inflow while others have shown negative performance. The countries that have shown positive performance in terms of FDI inflow include Luxembourg (6.34 percent), Saudi Arabia (5.10 percent), Belgium (3.22 percent), China (2.54 percent), Australia (1.74 percent), and South Africa (0.93 percent). From the data, it is true that these countries serve as appropriate investment hubs for international firms. In this perspective, it is true that FDI in these countries have played a vital role in terms of transferring technology, improving managerial skills knowhow, reduce employment, boost access to international markets, and allow them to gain access to international production networks. On the other hand, FDI may result to substantial crowding out effect to local companies, negatively influencing economic performance of these countries. The countries that are deteriorating in terms of foreign direct inflow comprise of Germany (-1.40 percent), United States (-0.90 percent), United Kingdom (-0.84 percent), and Russia (-0.10 percent). In this perspective, it is evident that international firms are not investing in these countries due to unfavourable business conditions. They lack sufficient advantages and resources to allow them make successful investments in these countries because of the competitive nature of these countries in the global marketplace. Country Inflow Average Outflow Average Net FDI Outflow Germany 0.84% 2.24% 1.40% US 1.46% 2.36% 0.90% UK 2.74% 3.58% 0.84% Russia 2.50% 2.60% 0.10% South Africa 1.66% 0.73% -0.93% Australia 3.52% 1.78% -1.74% China 3.48% 0.94% -2.54% Belgium 18.46% 15.24% -3.22% Saudi Arabia 5.80% 0.70% -5.10% Luxembourg 30.50% 24.16% -6.34% Source: Author With regard to the issue of FDI outflow, the countries that have shown progress based on the number of investments they make to foreign nations from 2008 to 2012 as follows. Germany (1.40 percent), United States (0.90 percent), United Kingdom (0.84 percent), and Russia (0.10 percent). In this case, it is true that the firms in these countries have a certain degree of competitive advantage making it possible for them to make substantial investments in foreign countries in a consistent manner. The countries that are showing reduced performance in terms of foreign direct investment to other countries include Luxembourg (-6.34 percent), Saudi Arabia (-5.10 percent), Belgium (-3.22 percent), China (-2.54 percent), Australia (-1.74 percent), and South Africa (-0.93 percent). The deteriorating performance is an indication that firms from developed countries, limiting their opportunities for foreign direct investment, are imposing competition. Conclusion Based on the data from the select countries, their FDI performance it different. As such, it is true that certain forces have played a vital role in determining why some countries are successful in terms of investing in other countries while others are not. From a macroeconomic standpoint, the major factors that influence the flow of FDI in different countries include exchange rates, interest rates, labour force nature, natural resources availability, local demand, as well as a satisfactory macroeconomic environment. A favourable macroeconomic environment comprises of auspicious domestic investment, GDP, productivity, real exchange rates, and openness among others. Moreover, a satisfactory economic geography, especially the closeness of two nations based on their geography, culture, economic performance, as well as certain forces such as good governance, political stability, prevalence of educational institutions, and large markets among others serve as the key influencers of FDI flow between countries. In the case of the selected firms in the paper, the microeconomic standpoint also plays a vital role in influencing the flow of FDI between the countries. In this case, the major determinants include economies of scale, access to raw materials, intangible resources such as patents, trade names, or superior management exercised by different countries. Other factors that influence the flow of FDI include imperfections of the market, nature of oligopolistic firms, and certain advantages that are exclusively owned by certain firms, particularly natural resource ownership. Therefore, these perspectives illustrate why the different selected firms portray distinct flow of FDI between them. Reference List Bitzenis, A, Vlachos, VA & Papadimitriou, PP 2012, Mergers and Acquisitions as the Pillar of Foreign Direct Investment, Palgrave Macmillan, New York. Blonigen, BA 2005, A Review of Empirical Literature on FDI Determinants, viewed 12 November 2014, . Das, KB 2012, Theories of Foreign Direct Investment, viewed 12 November 2014, . Data Help Desk 2014, What is the difference between Foreign Direct Investment (FDI) net inflows and net outflows?, viewed 12 November 2014, . Denisia, V 2010, ‘Foreign Direct Investment Theories: An Overview of the Main FDI Theories’, European Journal of Interdisciplinary Studies, vol. 2, no. 2, pp. 104-108. Goldstein, M 2005, Determinants and Systemic Consequences of International Capital Flows, International Monetary Fund, New York. Lehmann, A 2006, Foreign Direct Investment in Emerging Markets: Income, Repatriations and Financial Vulnerabillities, International Monetary Fund, New York. Morgan, RE & Katsikeas, CS 2008, Theories of International Trade, Foreign Direct Investment, and Firm Internationalization, MCB University Press, Wales. Paulo, J & Bento, C 2009, Economic Integration, International Trade and the Role of Foreign Direct Investment: The Case of Portuguese Manufacturing, LIT Verlag Münster, Berlin. Sauvant, KP, Dunning, JH & Mallampally, P 2011, Transnational Corporations in Services, Taylor & Francis, New York. Schutter, OD, Swinnen, JF & Wouters, J 2012, Foreign Direct Investment and Human Development: The Law and Economics of International Investment Agreements. Routledge, London. Singh, H & Jun, WK 2007, Some New Evidence on Determinants of Foreign Direct Investment in Developing Countries, World Bank Publications, Geneva. Soysa, ID 2003, Foreign Direct Investment, Democracy and Development: Assessing Contours, Correlates and Concomitants of Globalization, Routledge, New Jersey. United Nations 2014, Foreign Direct Investment (FDI) Net Inflows and Outflows as Share of GDP, viewed 12 November 2014, . Wei, Y & Liu, X 2004, Foreign Direct Investment in China: Determinants and Impact, Edward Elgar Publishing, London. Read More