fdi krakow 2
Post on 04-Apr-2018
232 Views
Preview:
TRANSCRIPT
-
7/29/2019 FDI Krakow 2
1/49
Foreign Direct Investment- Theory -
Ivar Bredesen
Associate ProfessorOslo University College
-
7/29/2019 FDI Krakow 2
2/49
2
Overview of the topic What economic theories can be used to
explain international investment?
Are trade theories relevant?
Are theories which seek to explainInternational Portfolio Investment
relevant?
-
7/29/2019 FDI Krakow 2
3/49
3
Early FDI theory Prevailing explanation of international capital
movements at the end of the 1950s
Basis of the theory of portfolio investment: theinterest rate
Each investor maximizes his profits byinvesting where returns are highest
Frictionless, no transaction costs
Capital moves in response to changes ininterest rate differentials
-
7/29/2019 FDI Krakow 2
4/49
4
But some questions remain Interest rate theory cannot be right capital
flows in both directions, and
Why is so much of international tradeorganized within firms, and not on markets?
Why does the multinational company exist?
Why do firms cross national boundaries?
-
7/29/2019 FDI Krakow 2
5/49
5
What explains FDI ? Economists have tried to explain the
existence of FDI for a long time
This is a complex field, involving severalareas of economics
In a perfectly competitive economy,
there would be no FDI Today, economists focus on imperfect
competition to explain FDI
-
7/29/2019 FDI Krakow 2
6/49
6
Stephen Hymer (1960) Hymer focused attention on the MNC per se
A MNC is an institution for international
production rather than international exchange Hymer moved towards an analysis of the MNC
based upon industrial organization theory
Hymer asked the critical question how can a
foreign company compete successfully in anunfamiliar market, where is must be at adisadvantage compared to local firms
-
7/29/2019 FDI Krakow 2
7/497
Stephen Hymer (1960)for firms to own and control foreign
value-adding activities they must
possess some kind of innovatory, cost,financial or marketing advantages -specific to their ownership - which issufficient to outweigh the
disadvantages they face in competingwith indigenous firms in the country ofproduction
-
7/29/2019 FDI Krakow 2
8/498
Ownership specific advantages What kind of advantages do we talk
about?Access to raw materials Economies of scale
Intangible assets such as trade names,patents, superior management etc
Reduced transaction costs when replacingan arm's length transaction in the marketby an internal firm transaction
-
7/29/2019 FDI Krakow 2
9/499
Hymer was initially forgotten Stephen Hymer was killed in a car
accident soon after his thesis was
completed, and the work was leftunnoticed for a while
Since, several other economists have
elaborated on his work
-
7/29/2019 FDI Krakow 2
10/4910
Further developments - VernonVernon (1966) developed the product
life cycle model (PLC) out of critique of
neoclassical comparative advantagetheory The failure to deal with the role of
innovation in dealing with trade patterns
The lack of attention to the role ofeconomics of scale in determining suchpatterns
-
7/29/2019 FDI Krakow 2
11/4911
Product Life Cycle theory The technological lead generated by a
firm may give it an edge in exports The average income in a market
determines which market a product entersfirst
Due to high US income, new products are
introduced early in the US US firms were also assumed to be
innovative
-
7/29/2019 FDI Krakow 2
12/4912
Product Life Cycle theory Production will initially be located in the
US, first serving the local market and
then an export market Due to lower labor costs abroad, it may
be optimal to relocate productionabroad
At one point of time, the US may endup as an importer of the good
-
7/29/2019 FDI Krakow 2
13/4913
Next step theory of
internalization Internalization theory asks why
business transactions take place within
a firm (hierarchy) rather than betweenindependent firms in a market
This is of particular relevance for
multinational firms and is it asufficient explanation for theircontinued existence?
-
7/29/2019 FDI Krakow 2
14/49
14
Firm specific advantages To possess firm specific advantages is a
necessary but not sufficient condition
for FDI to take place Why does the firm not serve the foreign
market by exports ?
Why does it not licence a domestic firm toproduce ?
We must try to understand why the firmwishes to make use ofits advantage itself
-
7/29/2019 FDI Krakow 2
15/49
15
Market imperfections Due to market imperfections, there may
be several reasons why a firm wants to
make use of its monopolistic advantageitself (or organise an activity itself)
Buckley and Casson (influenced by
Coase), suggested that a firmovercomes market imperfections bycreating its own market - internalisation
-
7/29/2019 FDI Krakow 2
16/49
16
Ronald Coase (Nobel Prize 1991) for his discovery and
clarification of the
significance oftransaction costs andproperty rights forthe institutional
structure andfunctioning of theeconomy
-
7/29/2019 FDI Krakow 2
17/49
17
Coase: Nature of the firm In his first major study entitled, The Nature of the
Firm, Coase posed two questions which hadseldom been the objects of strict economic analysis
and, prior to Coase, lacked robust and validsolutions, i.e. , why are there organizations of thetype represented by firms and why is each firm ofa certain size? A key result in traditional theory wasto show the ability of the price system (or themarket mechanism) to coordinate the use ofresources. The applicability of this theory wasdiminished by the fact that a large proportion oftotal use of resources was deliberately withheldfrom the price mechanism in order to becoordinated administratively within firms.
-
7/29/2019 FDI Krakow 2
18/49
18
Internalisation The theory ofinternalisation was long
regarded as a theory of why FDI occurs
By internalising across national boundaries,a firm becomes multinational
Some economists have suggested that even
though ownership specific advantages andinternalisation advantages are necessary forFDI to occur, it is still not a sufficientexplanation
-
7/29/2019 FDI Krakow 2
19/49
19
Internalisation Under what circumstances is it likely
that a firm would want to replace the
open market and instead use aninternal transaction? Ensure product quality (forward
integration)
Ensure stable supply of raw materials(backward integration)
Market for knowledge?
-
7/29/2019 FDI Krakow 2
20/49
20
John Dunning eclectic paradigm John Dunning attempts to integrate a
variety of strands of thinking
He draws partly on macroeconomictheory and trade, as well asmicroeconomic theory and firm
behavior (industrial economics)
-
7/29/2019 FDI Krakow 2
21/49
21
John Dunning eclectic paradigm If a company wants to service a local or
foreign market from a foreign
localization, it must have access to firmspecific advantages or be able toacquire these at lower cost
This is what we have called ownershipspecific advantages or O - advantages
-
7/29/2019 FDI Krakow 2
22/49
22
O = Ownership advantages Some firms have a firm specific capital
known as knowledge capital: Human
capital (managers), patents, technologies,brand, reputation
This capital can be replicated in different
countries without losing its value, andeasily transferred within the firm withouthigh transaction costs
-
7/29/2019 FDI Krakow 2
23/49
23
John Dunning eclectic paradigm Given that ownership specific advantages
are present, it must be in the best interest
for the firm to use these itself, rather thansell them or license them to other firms
These are Internalization or I-advantages,and can arise because a hierarchy is a moreefficient way of organizing transactions thana market
-
7/29/2019 FDI Krakow 2
24/49
24
I internalization advantages Why don't a firm just sign a contract with
a subcontractor (external agent) in a
foreign country? Because contracting out is risky: it implies
transferring the specific capital outside the
firm and revealing the proprietaryinformation (e.g. how to use thetechnology or the patent).
-
7/29/2019 FDI Krakow 2
25/49
25
I internalization advantages Problem:
If the agent interrupts the contract it can use
the technology to compete with the mothercompany
In the case of brands/reputation: if the agentdamages the brand reputation
Of course there are suitable contracts, butthose are potentially Incomplete or difficult to enforce
-
7/29/2019 FDI Krakow 2
26/49
26
John Dunning eclectic paradigm In addition to ownership specific
advantages as well as internalisation
advantages are necessary, it must be inthe firms interest to use these incombination with a least some factor
inputs located abroad - so calledlocation specific advantages or L-advantages
-
7/29/2019 FDI Krakow 2
27/49
27
L Localization advantages Producing close to final consumers or
downstream customers
Saving transport costs Obtaining cheap inputs
Jumping trade barriers
Provide services (for most servicesproduction and delivery have to becontemporaneous)
-
7/29/2019 FDI Krakow 2
28/49
28
John Dunning eclectic paradigm By combining Ownership specific
advantages, Internalisation specific
advantages and Location specificadvantages, we get the eclecticapproach to FDI - the so called O-L-I
paradigm of international production
-
7/29/2019 FDI Krakow 2
29/49
29
John Dunning eclectic paradigm The eclectic, or OLI paradigm, suggests that the
greater the O and I advantages possessed byfirms and the more the L advantages of creating,
acquiring (or augmenting) and exploiting theseadvantages from a location outside its homecountry, the more FDI will be undertaken
Where firms possess substantial O and I
advantages but the L advantages favor the homecountry, then domestic investment will bepreferred to FDI and foreign markets will besupplies by exports
-
7/29/2019 FDI Krakow 2
30/49
30
John Dunning eclectic paradigm When firms possess O advantages
which are best acquired, augmented
and exploited from a foreign market,but by way of inter-firm alliances or bythe open market, then FDI will bereplaced by a transfer of at least some
assets normally associated with FDI anda transfer of these assets or the right totheir use
-
7/29/2019 FDI Krakow 2
31/49
31
How to service a market?Market
serviceO adv I adv Ladv
FDI Yes Yes Yes
Trade Yes Yes No
Licence Yes No No
-
7/29/2019 FDI Krakow 2
32/49
32
4 types of FDI in the OLI The typology of FDI was developed by
Jere Behrman to explain the different
objectives of FDI: Resource seeking FDI
Market seeking FDI
Efficiency seeking (global sourcing FDI) Strategic asset/capabilities seeking FDI
-
7/29/2019 FDI Krakow 2
33/49
33
Resource seeking FDI To seek and secure natural resources e.g.
minerals, raw materials, or lower labor
costs for the investing company For example, a German company opening
a plant in Poland to produce and re-export
to Germany Where a iPods produced?
-
7/29/2019 FDI Krakow 2
34/49
34
Market seeking FDI To identify and exploit new markets for the
firms` finished products
Unique possibility for some type of servicesfor which production and distribution have tobe contemporaneous (telecom, water supply,energy supply)
Norwegian Telecom have invested heavily inRussia
-
7/29/2019 FDI Krakow 2
35/49
35
Efficiency seeking FDI To restructure its existing investments so as
to achieve an efficient allocation of
international economic activity of the firms International specialization whereby firms seek to
benefit from differences in product and factorprices and to diversify risk
Global sourcing resource saving and improvedefficiency by rationalizing the structure of theirglobal activities. Undertaken primarily by networkbased MNCs with global sourcing operations.
-
7/29/2019 FDI Krakow 2
36/49
36
Strategic asset/capabilities
seeking FDI MNCs pursue strategic operations through the
purchase of existing firms and/or assets in order toprotect O specific advantages in order to sustain oradvance its global competitive position Acquisition of key established local firms
Acquisition of local capabilities including R&D, knowledgeand human capital
Acquisition of market knowledge
Pre empting market entrance by competitors
Pre empting the acquisition by local firms by competitors
-
7/29/2019 FDI Krakow 2
37/49
37
Does the OLI theory work? It explains part of the evidence. MNCs
active in sectors:
With high R&D Intensive in advertisement/reputation
Innovative and complex technologies
Intangible capital (know how, patents)
-
7/29/2019 FDI Krakow 2
38/49
38
Trade theory and FDI Can trade theory be compatible with
FDI?
Can trade theory keep up with thechain of events which have happened inthe world economy over the last years?
-
7/29/2019 FDI Krakow 2
39/49
39
What is the aim of economics
as a subject? Explain how resources should be or are
allocated between alternative uses ?
Explain the real world as it is ? Has trade theory not kept up with times
Why are the textbooks the same today as
30 - 40 years ago? International economics must be analysed
in an industrial economics setting
-
7/29/2019 FDI Krakow 2
40/49
40
Trade - some facts 60 - 70 % of world trade is directly or
indirectly connected to FDI
50 % of world trade is either within thesame organisational entity (intrafirmtrade) or between parties which engage in
co-operative relationship Resource based trade: HO acceptable
Intra-industry trade: need for industrialeconomics focus
-
7/29/2019 FDI Krakow 2
41/49
41
Dunning asserts But, an even greater criticism of trade theory is
that the act of exchanging goods and services inthe open market is costless
When one thinks about it, it is an incredibleassumption. It implies that buyers and sellershave full and symmetrical information both about
each others motives and capabilities, and aboutthe characteristics and quality of the goods andservices being transacted
-
7/29/2019 FDI Krakow 2
42/49
42
Trade theory ignores? Intrafirm transactions ?
Transaction costs ?
The market is not necessarily the mostefficient way of organising resources
We need to investigate: The significance of micro-organisational costs and
benefits
The growing mobility of firm-specific assets
The role of national governments in the macro
organisation of economic activity
-
7/29/2019 FDI Krakow 2
43/49
43
Micro-organisational costs and
benefits Firms co-ordinate inputs to maximise value
added. Co-ordination costs are important
Division of labour has become morespecialised - increasing co-ordination costs
Specialisation may yield benefits fromcommon governance of similar inputs
(economies of scope)
Economic entities beyond the partiesinvolved in a transaction become affected
-
7/29/2019 FDI Krakow 2
44/49
44
Dunning maintains that The unique characteristics of the MNE is that
it is both multi-activity and engages in theinternal transfer of intermediate products
across national boudaries. It is the inability ofthe market to organise a satisfactory dealbetween potential contractors andcontractees of intermediate products why oneor the other should choose the hierarchial
rather than the market route for exploitingdifferences in L-specific assets betweencountries
-
7/29/2019 FDI Krakow 2
45/49
45
Micro-organisational costs and
benefits Transaction costs can be reduced by
internalising international product markets
(intra-firm transactions) Entering into co-operative relationships
with other market participants - alliancecapitalism and global business (inter-firmtransactions)
International trade theory will have to takethis into consideration
-
7/29/2019 FDI Krakow 2
46/49
46
Changes in FDI motives Dunning maintains that
The orientation of the motivation for MNE
activity has changed from that of seekingmarketsand natural resourcesto exploitbetter the existing competitive advantagesof the investing companies, to that of
acquiring created assetsperceivednecessary to sustain and augment existingcompetitive advantages.
-
7/29/2019 FDI Krakow 2
47/49
47
Changes in FDI motives Firms, particularly MNEs, are becoming more
pluralistic in their modes of capturing the benefits ofglobalization, and the way firms co-ordinate (i.e.integrate) their transborder activites in an amalgamof hierarchical and co-operative capitalism
internal resources are insufficient to sustaininternational competitiveness, and that it needs todraw on resources and capabilities of other firms toachieve this goal
This is one of the characteristics of the emergingcollective, relational or alliance capitalism of the1990s
-
7/29/2019 FDI Krakow 2
48/49
48
Motives behind alliance capitalism1) To acquire new product or process
technologies and organizational
competencies and especially thoseperceived necessary to advance thecore competence of the acquiring firm
2) To spread the risk of high capitaloutlays, or reduce the time of productdevelopment
-
7/29/2019 FDI Krakow 2
49/49
Motives behind alliance capitalism3) To capture the economies of synergy
or scale
4) To gain access to new markets ordistribution channels
top related