Strategic Alliance of U.S. Foreign Direct Investment (FDI) Policies with its’ Economic Policies

11 Pages   |   3,110 Words
Table of Contents
Introduction. 2
Open door FDI Policy. 3
Advantages. 3
Disadvantages. 3
Well-regulated Foreign Direct Investment. 4
Advantages. 4
Disadvantages. 5
Literature Review.. 6
Conclusion. 8
Bibliography. 10
 

Introduction

Foreign Direct Investment (FDI) has played a crucial role in U.S economy for almost 100 years. The economy of U.S has always depended upon its Foreign Direct Investment to stay healthy and booming. However, security concerns were raised after World War I as U.S felt threatened from dominating countries such as Japan’s heavy investments (Bartolini, 2000). The U.S Congress, under pressure from the Navy, posed restrictions on FDI regarding some specific sectors. An Act by the name of TWEA (Trading with the enemy act) was also passed which gave President of U.S the power to control Foreign Direct Investments. A surge of company acquisitions by Japan in the United States in 1988 gave rise to another bout of defensive FDI policy change. An Exon Florio Amendment was made to give President another authority that allowed him to block foreign acquisitions that threatened national security. These changes gave rise to a fear that United States might become isolated from other countries if it continues to pursue such stringent FDI policies. The global era has made countries highly interdependent, and concerns were raised about United States’ economic impact due to FDI policies. The Japan restriction story was repeated when United States took a defensive position against Chinese investments in 2005 (Blonigen, 2008).

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There are some critics that look positively at the restrictions posed by United States on Foreign Direct Investments, and hold the argument that it is beneficial for the economy. The basis for their argument is the U.S economic surge in early 1990s. The rate of FDI in United States slowed in response to the restrictions however, a positive outcome was the impact of these restrictions on the Japanese economy. Japan was a significant investor nation, and its economic growth came to a halt when U.S imposed restrictions against Japanese acquisitions in the country. As a result, the economy of United States went through a surge which had not been seen since 1950s. The critics who hold this belief that controlled FDI is beneficial for U.S economy, also were in favor of defense against Chinese investments (Chen, 2011). They argue that well regulated Foreign Direct Investment in the United States will give rise to the right investments, and subsequently boost economic growth in the country. However, a multilateral investment agreement is not beneficial because it does not allow FDI to be regulated.
The two arguments will be compared and contrasted in the paper, and analysis will show whether U.S FDI policies are aligned with its economic goals.

Open door FDI Policy

Advantages

It is widely accepted that Foreign Direct Investment plays a vital role in the development of the industrial sector. Since, developed countries depend on their industrial sector to a large extent, and not on their agricultural sector thus it an important consideration. The total factor productivity is known to have improved with high levels of foreign direct investment in the host country. Today’s changing global, regional, and strategic factor conditions can be controlled only with taking inter-connected FDI related business decisions by Multinational Enterprises. The allocating efficiency and positive externalities can be well managed by encouraging more Foreign Direct Investment in the country (Franco, 2013). UNIDO declared in 2003 that increased Foreign Direct Investment is necessary for the industrialization or healthy industry of a nation. It has also been found that inward Foreign Direct Investment acts as a booster for the GDP (Gross domestic product) of the country. A relaxed FDI approach reduces complexity in the host country, and the need to develop a stringent set of rules for taxation and other policies is eliminated. The same set of rules is applied to every country, which enhances foreign relations and gives rise to healthy interdependency of nations.

Disadvantages

The objectives of the host country’s governments and multinational enterprises seeking to invest in the country might be contradictory, resulting into problems for the host country. The Government of the host country encourages foreign direct investment with the objective to enhance the welfare of its citizens. An MNE is concerned with diversifying its risk, and increase shareholder value for a long sustainable life of the firm. The shareholders of the firm can belong to any economy, which is not of interest to the host country. These objectives often do not coincide and can lead to conflicts and disastrous consequences. The industrial objectives of the host country need to be aligned with objectives of foreign investors (Fredriksson, List, & Millimet, 2003).
The host country shapes its economic environment to accommodate Foreign Direct Investment, and it can lead to extensive distortion. A country following an open door policy for Foreign Direct Investment would want an economic environment that would add more value to FDI however; this approach can divert the economy from its actual agenda and lead to too much distortion. Moreover, a structural change is required to accommodate heavy foreign direct investments. A new context for policies and practices related to the rules and regulations, laws, incentives, and promotional strategies become necessary to attract new foreign investments and retain old ones.  It is also complex to attract and retain more foreign direct investment because different organizations are employing different modes of production, operations and functions, which is referred as the “Global Factory” (Fredriksson, List, & Millimet, 2003). The policy environment and global factory have a direct relationship, and they co-evolve in a coordinated manner. It is important for the policy makers to keep the evolvement of global factory in view, and alter policies accordingly. This is a highly complex process and requires high comprehension regarding inter and intra organizational transactions. It is important for the host country to understand this phenomenon. However, it is not much of a disadvantage for United States because it is a developed country that has top analysts and policy makers. Although, it would increase the overall complexity, but it is not something which cannot be handled (Futagami, 2011).

Well-regulated Foreign Direct Investment

Advantages

A restricted and well regulated foreign direct investment environment will help to reduce some of the costs associated with an open door foreign direct investment policy. A foreign firm brings with it superior technological skills and other assets that may be valuable to the host country. The transfer of assets is valuable, but excess of transfer results into depression for the domestic producers. The superior technological abilities of the foreign firms allow them to produce high quality products at a cheaper rate. Therefore, a regulated and controlled FDI environment helps the economy by taking full advantage of its domestic producers. The controlled amount of FDI ensures that there are some assets pouring in, but not in amounts that would affect the economy by depressing the local firms.  A well regulated foreign direct investment policy would also help in better management of balance of payments. An open door policy makes it difficult to maintain a capital outflow in response to capital inflow, which can be recorded in the debit capital account (Javorcik, 2004).
One advantage of well regulated and controlled foreign direct investment is that it ensures economic stability because there is no excessive number of foreign investors pouring in to make profits. National sovereignty can be protected in a better way by keeping some of the foreign investors at bay. Moreover, it is easier for the host country to maintain its economic agenda, because it allows only those foreign investors that are beneficial for economy and do not threaten the host country’s sovereign position. One factor that is important for consideration is the capital requirement for foreign direct investments. One of the advantages of FDI is that the host country’s financial situation improves due to inflow of capital. Moreover, the host country’s existing capital is also put to better use due to better technology and managerial skills transferred by the home country (Karabay, 2010). A developed country cannot afford to have an excessive amount of capital inflow, and it needs wise decisions as to what more is required by the economy. A well regulated foreign direct investments policy will help in the appropriate use of capital that can contribute positively into the growth of the economy.

Disadvantages

A well regulated foreign investment policy has many advantages, and it gives more control to the host country. However, there is a flip side to it as well. The restriction posed on some countries means that the host country will not be able to benefit from the technological, labor and knowledge base of that particular country. Japan is the world leader in terms of technology, and restricting foreign investments would mean that the latest technology developed by Japan will not flow into United States. The first mover opportunity will be missed by missing out foreign investments from entire specific countries. Moreover, employment opportunities are generated for people of the host country with more foreign direct investments. If foreign investment is restricted, the employment opportunities will also become restricted. Employment plays a crucial role in the betterment of an economy, and this economy growth factor will be ignored (Karabay, 2010).
A country that restricts foreign direct investment due to sovereignty protection also implements procedures for screening and approval. The reason for implementing special procedures is to limit foreign direct investments, and to allow only those investments that do not threaten the sovereignty of the host country. A foreign investor that wants to enter into the country must prove that it will support the host country’s economic agenda. However, such stipulations increase the cost of entry for the foreign investor, and it affects the relationships between countries (List, 2001).

Literature Review

Moosa looked into the foreign direct investment in Unites States from an economic point of view. The author begins his research by throwing light on the fact that United States’ FDI fell till 2008, and then rebounded. He states that foreign direct investments are usually sought by the local and national governments, in the hope of creating more job opportunities for their citizens. However, the other point of view is that United States needs to encourage foreign direct investments to offset the negative impact on U.S economy due to investments in other countries. Other critics hold the view that foreign acquisitions are important for U.S’s national and economic security (Moosa, 2006).
Tuman has compared the data of foreign direct investment to some indicators of economic improvement. The employment statistics show that foreign firms in United States gave rise to employment, and 6 million Americans worked in those firms. The statistics for capital expenditure, which improved considerably with the improvement in foreign direct investment, are also a good economic indicator in response to foreign direct investment. A negative impact on the economy is that United States owned firms were outperformed by the foreign firms. The historical data has shown that the rates of return for U.S owned firms have remained higher than foreign firms. However, the gap has been decreasing over time and United States firms are now on the losing end.  Moreover, capital intensity was also better for foreign firms as compared to United States owned firms. The author then continues the analysis by saying that the mentioned differences are not necessarily something to worry about. He says that the two types of firms cannot be compared (Tuman, 2003).
Countries other than United States have also experienced a surge in foreign direct investments. The countries experiencing more foreign direct investment surge are mostly developing countries, because they have greater potential for growth. The rate of growth in United States economy is much improved as compared to its counterparts. A positive sign is that interest rates have remained low; price inflation has stayed in control, while foreign direct investments are still expected to increase.  However, there are some public concerns attached to foreign direct investments in the context of the globalization phenomenon. The concerns in the latest period are not over the loss of competitive edge to foreign firms, as it was in the 1980s. The concerns of the current decade revolve around loss of jobs because foreign investments in United States are more acquisitions and mergers oriented. However, this drawback is offset by the inflow of capital and the opportunity for a new job creation in local areas. Job security is an important public issue, which needs to be taken care of while designing foreign direct investments policy. However, a more pressing concern after the 9/11 attack has been related to security of the country. The United States has remained a favored destination by foreign investors over the decades, but the host country feels threatened (Tuman, 2003). 
Foreign acquisitions in United States by foreign firms have attracted great attention by authors. America is a country that takes pride in “made in America”, while “owned by America” does not give the same satisfaction. The study takes into account a research poll to have a clear understanding of how many people think of American acquisitions as good or bad. 53% participants said that foreign acquisitions are not good for America whereas, 58% were happy with the Congress’s decision to put restrictions on foreign direct investments in America. However, the percentage of people who believe that foreign acquisitions and ownerships are bad has declined from 70% to 53%, which is an encouraging factor. The author throws light upon the fact that foreign direct investments had played a vital role in economic growth in late 19th and 20th century. The focus of FDI had remained on telecommunications, radio broadcasting, and chemical as well as machinery sector.  However, the investments in that era were mostly “Greenfield” investments, as opposed to mergers and acquisitions (Reiter, 2010).
Direct investments mainly revolve around technology and management skills, as opposed to transferring of capital. The inflow in United States during the 19th century was limited, while European countries were thriving with technological advancement. One reason for this phenomenon may be that it was different to transfer skills at the time, because transportation and communication were not the same as they are now. The transfer of knowledge took place when humans migrated from one country to another.  The lack of communication technology required that people had to be transported from one place to another, which was more difficult and raised more security issues. The purpose of transfer of knowledge was to establish and manage enterprises in U.S (Fredriksson, List, & Millimet, 2003).
 One important fact to be considered here is that direct investments in enterprises in early times were “free-standing”. The direct investments in later years were different because they were owned by foreign firms, and not by foreigners. The foreign investments today result in enterprises that are subsidiaries of MNCs. The early investments formed a loose network to trade with one another, and the purpose was to share technical expertise. Those enterprises however, had more chance to be converted into local U.S firms. The owners were likely to migrate to United States, and they adapted to local needs and conditions, which is absent in multinationals today (Franco, 2013).
The United States has maintained its position as more of an exporter, rather than importer of foreign investments. The percentage of holdings by foreign investors was much smaller as compared to the percentage of United States’ holdings abroad. The balance of investments grew as United States allowed more foreign direct investments in to the country after 1966. The book value of ratio improved with the increase in foreign direct investments in the United States. However, a publicized story was circulated that United States was gradually becoming a debtor. This gave rise to doubts about the reliability of book value of ratio to judge economic well-being (List, 2001).

Conclusion

The debate as to whether United States should encourage open door foreign direct investment policy, or follow a restricted and well regulated policy is never ending. There are pros and cons attached to both approaches. However, the ultimate goal of any country is to boost its economy. Foreign direct investment is one way which is widely believed as a booster for economic growth. The authors that are against restricted foreign direct investments hold the view that this approach will isolate United States economy. However, studies and evidence have showed that the economic growth of United States has not been negatively affected due to restrictions on foreign direct investment. Moreover, United States has felt the need to tighten security time and time again.
The most important thing to consider is that the right sectors are being supported by foreign direct investments. Moreover, analysis also shows that mergers and acquisitions are something to worry about. However, the right approach to FDI will not impact economic growth. In fact, United States can become more self sufficient by controlling FDI and promoting its own domestic producers. United States is a developed economy, which does not need to depend on foreign direct investment to encourage economic growth. Therefore, it can be concluded that the foreign direct investments approach is aligned with the economic objective of United States. 

References

Bartolini, L. (2000). Foreign investment quotas and rent extraction under uncertainty. Journal of International Economics , 25-49.
Blonigen, B. A. (2008). Endogenous protection, foreign direct investment and. Journal of International Economics , 205-227.
Chen, W. (2011). The effect of investor origin on firm performance: Domestic and foreign direct. Journal of International Economics , 219-228.
Franco, C. (2013). Exports and FDI motivations: Empirical evidence from U.S. foreign. International Business Review , 47-62.
Fredriksson, P. G., List, J. A., & Millimet, D. L. (2003). B ureaucratic corruption, environmental policy and. Journal of Public Economics , 7-30.
Futagami, K. (2011). A welfare analysis of global patent protection in a model with endogenous innovation and foreign direct investment. European Economic Review , 37-51.
Javorcik, B. S. (2004). The composition of foreign direct investment and protection of intellectual property rights: Evidence from transition economies. European Economic Review , 39-62.
Karabay, B. (2010). Foreign direct investment and host country policies: A rationale for using. Journal of Development Economics , 218-225.
List, J. A. (2001). US county-level determinants of inbound FDI: evidence. International Journal of Industrial Organization , 953-973.
Moosa, I. A. (2006). The determinants of foreign direct investment: An extreme bound analysis. J. of Multi. Fin. Manag. , 199-211.
Reiter, S. (2010). Human Development and Foreign Direct Investment in developing countries: the influence of FDI policy and corruption. World Development , 178-188.
Tuman, J. P. (2003). The political economy of Foreign Direct Investment in U.S. University of Nevada , 1-20.

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