Foreign Direct Investment in Developing Countries –
Policy Considerations for sustainable Growth

by: Yasmin Shoaib

Table of contents

1. Introduction  2

2. Definitions  3

2.1 Developing Countries  3
2.2 Foreign Direct Investment  4

3. Impact of FDI on Developing Countries  5

3.1 Theory  5

3.1.1 The Benign-Model  5
3.1.2 The Malign-Model 6

3.2 Empirical Evidence  7

4 Policies regarding FDI in Developing Countries  8

4.1 National and International Policies  8

4.1.1 Maximising the Positive Effects  8

4.1.1.1 Political Stability and Corruption  8
4.1.1.2 Liberalisation  9
4.1.1.3 Infrastructure  11
4.1.1.4 Human Resources Development  11
4.1.1.5 Export Production Diversification  12
4.1.1.6 Banking System  12

4.1.2 Minimising the Negative Effects  12

4.1.2.1 Environment  12
4.1.2.2 International Institutions  14
4.1.2.3 The North-South Equity Divide  14

4.2 International Investment Agreements  15

5 Conclusion  17

Bibliography  18

Introduction

Developing countries today have to deal with the question of how to increase economic growth. This phenomenon depends on a variety of factors: political, economic and social ones. Due to globalisation, foreign direct investment (FDI) has become an often discussed issue in literature and is seen as a key factor for economic growth by many developing countries by now. But the effects of FDI are not necessarily positive. In this written assignment, the author would like to introduce policies to be conducted in order to maximise the positive effects and to minimise the negative ones.

This paper will start with a definition of the terms developing country and foreign direct investment. In the second part, a short introduction in the controversial theories about the impact on economies of developing countries will be presented. In the following, several national and international policy considerations will be introduced. The paper will end with a conclusion.

1. Definitions

1.1. Developing Countries

Definitions of the term developing country vary in literature. Generally, it is tried to find criteria enabling the separation between poor and rich countries.¹ The usage of the following criteria for the classification of countries is common:²

- economical,
- ecological,
- demographic,
- health-related,
- socio-cultural,
- political features and
- scarcity of capital or other resources.

The World Trade Organization (WTO) does not define the term at all. Member countries can decide by themselves, whether they want to be grouped into one of the two relevant groups called developed countries and developing countries. Countries classified as developing ones, can, but not necessarily will, benefit from assistance by developed countries. The decision about the qualification for one or the other group can be challenged by other member states.³

The classification used by the World Bank reduces the criteria to one: the income per capita of a country. Still it separates between low income countries and middle income countries, as well as between severely indebted low income countries and severely indebted middle income countries.⁴ The United Nations Organization (UNO) uses the terms less developed countries and least developed countries. In order to qualify for one of these groups, countries are checked using not only financial economic data, but also by different indexes concerning the vulnerability of the economy and social aspects.⁵

Summing up, one can state, that the term developing country is not defined concordantly by international organisations. But while putting different emphasises on the topic, they agree, that a developing country does in some way have a disadvantage compared to other economies.

1.2. Foreign Direct Investment

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1 cp. Wezel, T., p.5

2 cp. ibid

3 cp. WTO: Development: Definition, online publication: http://www.wto.org/english/tratop_e/devel_e/d1who_e.htm

4 cp. Moran, T.: Beyond Sweatshops, p.15

5 cp. ibid, p.16 / UN: FDI in Least Developed Countries, p.iii