FDI Trends

In the 1970s, there existed large constraints on the movement of capital across countries. Despite savings falling short of investment demand in most countries, policy makers had their reservations against FDI. In the current era of deregulated capital markets, countries perceive FDI as engines of growth and actively solicit FDI flows. There has been a qualitative shift in the pattern of FDI flows. It is no more common for FDI to occur through Greenfield investments. Now, almost all of the world’s FDI is done in the form of cross-border Mergers and Acquisitions (M&A).  In 2000, 100 per cent of inward FDI for developed countries was a result of M&A activity, up from 80 per cent in the mid 1990s.  In developing countries this figure was closer to 40 per cent. The exponential growth in the magnitude of cross border M&A is shown in Appendix 2. In this connection, analysts have remarked that it would not be inappropriate to refer to FDI as an M&A activity.

The sectoral distribution of FDI depends upon the privatisation process or on countries endowments of natural and other production resources. Manufacturing companies are usually the first targets of privatisation. Consequently, the manufacturing sector would account for the highest share in FDI during the early stages of a country’s development. The privatisation of services usually comes at a later stage, with the sale of state owned companies in telecommunication, financial services and retail trade. In the 1970s, most FDI was concentrated in natural resources and manufacturing. However, since then, predictably, the services share of total FDI inflow has increased for most OECD countries. This shift has been particularly pronounced from the mid 1980s onwards. The service sector now accounts for about half and perhaps close to two-thirds of FDI flows. Most services have to be consumed at the place of production. This make exports an unlikely channel to access foreign markets. This means that firms need to establish themselves in the foreign markets by creating subsidiaries. Given the fact that the service sector is still not as transnationalised as the manufacturing sector, analysts point out that the share of services in total FDI is expected to increase further. Appendix 4 gives details of sector wise FDI flows.

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M&A is also driven by industry specific factors. It is observed that cross border M&A activities are more likely to occur in specific industries. For instance, significant mergers have happened in the retail industry. The reason is not difficult to decipher. Retail firms, particularly in Europe, are involved in major M&A activities to grow bigger and thus ward off foreign competition. Increasing returns to scale in R&D has also prompted M&A in R&D intensive industries like chemicals and pharmaceuticals. But the largest M&A have occurred in the telecommunication industry, which in 1999, accounted for 20 per cent of the ...

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