BENEFITS AND COSTS OF FDI TO HOST AND HOME
INTERNATIONAL
UNIT 4 SECTION
BUSINESS
5
Unit 4, section 5: Benefit and cost of FDI to host and home country
COUNTRIES
You are welcome to the Section five of unit 4. We hope you have been able
to appreciate the issues raised and explained in the previous Sections of this
unit. Section four exposed you to the issues of foreign direct investment
including the forms of FDI and reasons for both Vertical and Horizontal FDI.
This Section will look at the benefits and cost involved in foreign direct
Investment.
By the end of the Section, you should be able to;
explain the benefits and costs of foreign direct investment to host
country
explain the benefits and costs of foreign direct investment to home
country
Read on
Benefits and Costs of FDI to Host Country
The investment destination of an international business (the host country)
may enjoy some benefits as well as face some challenges. The benefits of
FDI to the host country include resource transfer effect and employment
effect.
Through FDI, international businesses transfer capital and technology to the
host country for business operations. This enhances the capital base of the
country and enables the host country to have access to capital and
technology that it otherwise would not have had access to. The inward flow
of capital and technology also enhances the capital account of the balance of
payment of the host nation. However, the positive effect on the balance of
payment of the host country is often seen at the initial stage of operations of
the international business when capital and technology are brought into the
host country. In addition, the host nation may benefit from dissemination of
better management practices of international businesses operating on its
soil. As domestic businesses learn such good management practices and
implement them, the operating environment in the host country is enhanced
thereby boosting the image of the host nation on the international arena.
International businesses that engage in FDI offer employment to host
country citizens. Employment effect of FDI may be direct or indirect. Based
on the human resource policy of the international business, host country
nationals could be directly employed for management positions and/or non-
managerial positions. Indirectly, international businesses may create more
employment in the host nation. For instance, an international mining firm
may demand catering and sewing services from local businesses.
In spite of the numerous benefits that a host country and its citizens may
enjoy from FDI, there are several costs of FDI to the host country. These
include adverse effect on competition and balance of payments and
perceived loss of national sovereignty. Foreign businesses that engage in
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Unit 4, section 5: Benefit and cost of FDI to host and home country BUSINESS
FDI are usually large and financially sound. They are therefore able to
benefit from economies of scale, reduce cost of production and
consequently charge lower prices for their products to the detriment of local
competing firms. Another disadvantage is that repatriation of profits by
foreign businesses negatively affects the balance of payments of the host
nation. In line with this, many host nation governments encourage foreign
businesses operating on their soils to reinvest substantial part of their profits
in the host country. Moreover, there is a perceived loss of national
sovereignty when MNEs from politically powerful nations are used as the
mouthpiece of their governments to indirectly control the host country in
certain aspects of the national economy.
A country should do a cost-benefit analysis of an investment proposal
before it grants permit to foreign businesses to operate on its soil. The ideal
situation is more benefits than costs; however, in the face of costs exceeding
benefits, the host country government can negotiate to institute certain
interventions such as local content requirement to offset the costs.
International business diplomacy becomes essential in this case.
Benefits and Costs of FDI to Home Country
The home country of an international business also enjoys some benefits
and 'incurs' costs that result from the operations of the international business
activity. The benefits include positive effect on capital and current accounts
of the home country, employment effect and reverse resource transfer effect.
Generally, international businesses repatriate a greater percentage of their
foreign earnings to their home countries. In a situation where resources and
machinery used by the international business in its foreign operations can be
found in the home country, the international business will usually acquire
them from the home country so long as it is worth it. The foreign earnings
and demand for home country exports become inflows to the current and
capital accounts of the home country, respectively. Consequently, the
balance of payment of the home nation is enhanced.
International businesses create employment for their home country nationals
especially when they pursue an ethnocentric or polycentric staffing policy.
Under the ethnocentric approach to staffing, all key management positions
at the headquarters and subsidiaries, including those in host countries, are
occupied by home country nationals. Employment is also generated, to
some extent, for home country nationals under the polycentric staffing
policy. With a polycentric staffing policy, the international business reserves
key management positions at the corporate headquarters for nationals while
it employs host country nationals to manage its subsidiaries.
The home country also benefits from reverse resource transfer effect
whereby the international business serves as a conduit for the transfer of
valuable technology and skills from the host country to the home country.
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BUSINESS Unit 4, section 5: Benefit and cost of FDI to host and home country
Home country nationals, who work in the subsidiary of an international
business in a host country, learn new and valuable skills for use upon return
to their home countries. Similarly, international businesses and their
returning national employees and managers may get to know of superior and
valuable technology and make good use of them for the benefit of the home
country. Usually, they acquire such technology and send them to their home
countries where such technology is absent or highly expensive but very
much needed.
The positive effects notwithstanding, the home country's balance of
payment suffers an adverse effect. At the initial stages of operation in the
host country, international businesses make capital transfers from the home
country to the host country. The capital account of balance of payment of
the home country therefore suffers from the initial capital outflow required
to finance the FDI of the international business. In the same vein, the current
account of the balance of payment of the home country suffers if the
purpose of the FDI is to serve the home market from a low-cost production
location.
In addition to the discussion on the positive and negative effects of FDI to
the home and host countries, multinational enterprises (MNEs) are singled
out as main source of some further adverse effects. These adverse effects
could be operational, political, legal and economic. They include the
following:
It is argued that MNEs transfer inappropriate technology to developing
countries. The prices of appropriate technology transferred to
developing countries are fixed too high and sales are limited. In the end,
developing countries that serve as host nations to MNEs hardly benefit
from the transfer of technology into those countries.
Another argument against MNEs is that host country governments
usually have less control over them. Once a host country government
intends to regulate the activities of an MNE, the MNE redirects its
activities to areas where regulations are less stringent.
Some MNEs hide behind the size of their operations and evade tax to the
detriment of the host country.
MNEs may be involved in serious ethical lapses as well as engage in
corrupt practices that may be bad precedent for businesses in the host
country and give bad publicity to the home country.
In an instance where an MNE incurs the wrath of the host country
government as a result of any of the above-stated reasons, the host country
government upon sanctioning the MNE, may further use the MNE as an
instrument to institute policy against the home country. For example, the
host country government may place an embargo on products imported from
the host country in addition to the withdrawal of license of the MNE to
operate in the host country.
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Unit 4, section 5: Benefit and cost of FDI to host and home country BUSINESS
ow assess your understanding of this Section by answering the following
self-assessment questions. Good luck!
Activity 4.5
Explain the benefits and costs of foreign direct investment to host country
Did you score all? That’s great! Keep it up
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