World flows of foreign direct investment (FDI) have soared over the past two decades, from US$40 billion in the early 1980s to US$900 billion last year. The cumulative stock of FDI has reached close to US$10 trillion, making it the most important mechanism for delivery of goods and services to foreign markets: sales by foreign affiliates total roughly US$19 trillion, compared to world exports of US$11 trillion.
At the same time, the liberalization of FDI regimes by virtually all countries has been a driving force of intra-firm trade -- the lifeblood of the emerging system of integrated international production and already one-third of world trade.
But are the good times coming to an end?
FDI can bring a range of benefits, but it also can have costs. During the 1970s, when the transnational corporations (TNCs) undertaking such investment caught the public eye, many governments believed that the costs of FDI outweighed its benefits, so they controlled it. Led by the developed countries, the pendulum began to swing in the 1980s. Once viewed as part of the problem, FDI became part of the solution to economic growth and development.
Nothing exemplifies this more than changes in national FDI regimes. As the UNCTAD reports, of the 2,156 changes that took place between 1991 and 2004, 93 percent were in the direction of creating a more hospitable environment for TNCs. But there is a real danger that the pendulum is beginning to swing back, leading to a reversal of that liberalization process.
FDI in developed countries (and increasingly in emerging markets) often takes the form of cross-border mergers and acquisitions (M&As). Resistance to M&As is becoming more frequent when they involve domestic firms that are regarded by politicians as "national champions" or important for national security, economic development or cultural identity. The growing involvement of private equity groups in M&A activity implies additional controversy, as such transactions are typically regarded as being purely speculative.
In the name of "economic patriotism," security, and other considerations, resistance to M&As is being codified in an increasing number of countries. For example, a US Senate committee recently sought to block the planned liberalization of foreign takeover rules for airlines, while Europe has enacted more restrictive takeover laws. Moreover, governments are applying more strictly existing regulatory provisions concerning the vetting of takeovers by foreign firms.
This response is intertwined with a defensive reaction to the growing role of TNCs from emerging markets, the "new kids on the block." Established TNCs, and their home countries, will need to adjust to this new constellation of forces and its implications for the world market. As we know from other contexts, adjustment to newcomers is not easy: compare, say, the reaction to the tie-up between France's Alcatel and the US' Lucent to the bids by the China National Offshore Oil Corporation for Chevron or Mittal for Acelor.
Another type of defensive reaction -- this time to outward FDI -- may well arise once the offshoring of services gathers more speed. All indications are that offshoring has reached the tipping point, and more of it will take place through FDI. If home countries do not put in place the adjustment mechanisms to deal with the rapidly unfolding revolution in making service industry jobs tradable, a backlash against such outward FDI will become inevitable.
The growing unease with FDI is so far largely confined to developed countries. But there are signs that it is spreading to emerging markets. In the case of large-scale projects, some host countries are raising questions about the contracts that define their relationship with TNCs, and governments are reviewing such contracts because they believe -- rightly or wrongly -- that they did not get a fair deal. Of the 219 known international arbitration cases concerning investment projects, some two-thirds were initiated during the past three years.
Approaches to FDI have changed in the past, and they can change again in the future, depending on how governments view the balance of costs and benefits. This balance involves not only economic factors, but also such considerations as security and the desire to control one's own economic development. The concept of "21st century nationalization," introduced by Peruvian presidential candidate Ollanta Humala, mirrors in this respect the "economic patriotism" of French Prime Minister Dominique de Villepin.
Reservations against FDI -- as against anything foreign -- can be found in all groups of countries, and politicians can bring them to the surface, resulting in protectionism. It would be ironic, though, if developed countries -- which led the FDI liberalization wave of the past two decades -- now led a backlash against FDI. Let us hope that the de-liberalization seen in developed countries can be checked before it spreads to other parts of the world and ultimately brings undesirable consequences for all.
Karl Sauvant is executive director of the Program on International Investment at Columbia University.
Copyright: Project Syndicate
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