Foreign direct investment

Definition

Foreign direct investment (FDI) refers to the investment made by a company or individual in one country in business interests in another country, typically by establishing business operations or acquiring assets. FDI is crucial as it represents a significant form of international capital flow and is vital for fostering economic development in emerging markets by creating jobs, enhancing technology transfer, and increasing productivity.

5 Must Know Facts For Your Next Test

1. FDI can take various forms, including greenfield investments, where new facilities are built, and mergers or acquisitions of existing companies.
2. Countries often encourage FDI through tax incentives, reduced regulations, and improved infrastructure to attract foreign investors.
3. Emerging markets tend to benefit significantly from FDI as it helps in improving local skills, knowledge transfer, and enhancing competition.
4. Political stability and a favorable business environment are key factors influencing the decision of companies to invest directly in foreign countries.
5. FDI can lead to both positive effects like job creation and negative impacts such as crowding out local businesses if not managed properly.

Review Questions

• How does foreign direct investment influence economic growth in emerging markets?
  • Foreign direct investment plays a significant role in driving economic growth in emerging markets by creating jobs and facilitating the transfer of technology and expertise. When foreign companies invest in local operations, they often bring in better management practices and advanced technologies, which can improve productivity. Additionally, FDI can enhance infrastructure development and stimulate local economies, leading to overall improvements in living standards.
• What are the potential risks associated with foreign direct investment for host countries?
  • While foreign direct investment can provide numerous benefits, host countries also face potential risks such as over-dependence on foreign firms for job creation and economic stability. If multinational corporations withdraw their investments due to unfavorable conditions, it could lead to significant job losses and economic downturns. Moreover, there can be concerns about environmental degradation and exploitation of local resources if multinational companies prioritize profits over sustainable practices.
• Evaluate the long-term implications of foreign direct investment on domestic businesses within host countries.
  • The long-term implications of foreign direct investment on domestic businesses can be complex. On one hand, FDI can lead to increased competition, pushing local firms to innovate and improve their efficiency. However, it may also result in larger multinational companies dominating the market, making it difficult for smaller local businesses to survive. This dynamic can stifle entrepreneurship if local companies cannot compete effectively against their foreign counterparts. Therefore, while FDI can foster growth and development, it is essential for host countries to implement policies that support local businesses and ensure a level playing field.

Related terms

Portfolio Investment: A type of investment that involves purchasing financial assets such as stocks and bonds in a foreign country without seeking to gain significant control over the companies.

Multinational Corporation: A company that operates in multiple countries, managing production or delivering services from various locations around the globe, often utilizing FDI to establish operations abroad.

Economic Development: The process through which a nation improves the economic, political, and social well-being of its people, often supported by inflows of foreign direct investment.