Foreign Direct Investment in Bangladesh
Introduction:
Foreign Direct Investment (FDI) has been one of the most fascinating and intriguing topics among researchers in international business. Now days influence foreign direct investment is one of the major issues of a government. Regarding the regional distribution of FDI inflows for the period 1986-1990, more than 80 percent went to the advanced economies whereas the developing countries absorbed less than 20 percent of world inflows. Moreover, in the period 1991-1998, only a ratio from 61 to 66 percent went to the advanced economies when at the same time a ratio from 31 to 35 percent went to the developing countries. However, in the period 1999-2000, we return back to the statistics of the 1980s when the advanced countries absorbed again 80 percent of total FDI inflows, and the developing countries only 18 percent.
Investment has acquired considerable emotive force in any country. It is viewed as beneficial on employment creator-as it brings about economic development. It can term capital flowing from a firm or individual within the country or in one country to a business or businesses in another country involving. So the significance of investment in a country is:
1. It increases the economic growth: sustain increase in real, per capita, national product. This brings -National income effect, Balance of payment effect& Public revenue effect.
2. Accelerate the industrial innovation this develops in integrations take a variety form that is not necessarily mutually exclusive.
3. Political modernization: sustain increase in the degree to which political functions are effectively collectively oriented, universalistic specific and achievement oriented.
4. It also brings infrastructural development & modern nationalism.
It is two forms:
1. Local (Domestic) investment.
2. Foreign Investment.
Investments come from a firm or individual within the country is domestic or local investment. Investment or capital come from a firm in one country to a business or businesses in another country is called foreign investment.
The investment situation in Bangladesh is consisting of Private vs. Public and Local vs. Foreign investment. The economy in Bangladesh has been gradually drawing the attention of private sector investors since it’s opening up in early 90’s manufacturing is becoming increasingly vibrant Claiming a significant share in the total investment. During 1991-92 to 2002-03, cumulative private investment registered with Board of Investment (BOI), the apex private investment promoting and facilitating body, totaled US$ 25,933 million. The registered investments consist of 47.65 percent as local and 52.35 percent as foreign.
1.1 Rationale of the Study:
Foreign investment carries enormous significance in a developing country like Bangladesh. Realizing the importance of foreign investment Bangladesh formulated its first industrial investment policy in 1973, revised it again in 1974, 1975, and in 1978. Foreign private investment (Promotion and protection) act, 1980 and the Bangladesh Export Processing zones authority act 1980 were enacted. To make the foreign investment more attractive new industrial policy was announced in 1982. However, the industrial policy 1999 is by far the most comprehensive document. Bangladesh has ever made for investment including foreign investment.
From the inception of the independence Bangladesh has been in the center of economic investment incentive for many countries and institutional bodies of the world. With the passage of time Bangladesh reform its regulatory structure in regard to the FDI to open up the new avenue and to dislodge the compliances related to the FDI. But the effort of this structural progress has back warded by sudden and unexpected political influence and changes. The situation becomes worse one in the September attack on US. During this period flow of FDI all over the world shrunken at a greater extend. Bangladesh had also severely affected by that unwanted changes in the world scenario. Before going for in depth analysis the flow of FDI in Bangladesh we have the privilege to have a look on the regional and worldwide flow of FDI in the recent period.
1.2 Objective of the study:
This study is conducted with the objective to get an overall insight in the flow of FDI in Bangladesh. The total objective is decomposed into several parts to get idea about the factors affecting the flow of FDI. The specific objectives of this study are:
r To give an insight into the theoretical issues relating to Foreign Direct investment.
r To highlight the role of multinational corporation in FDI.
r To give an overview of FDI in Asian Countries.
r To focus on the administration of FDI in Bangladesh.
r To evaluate the status of FDI in Bangladesh
r To identify the problem of FDI & prescribe some issues for their solution.
1.3 Scope of the study:
The primary scope of this thesis paper is to get acquainted with the flow of foreign direct investment. The study will cover the scenario of FDI flow currently in Bangladesh. Comparative analysis of statement of sector wise distribution of FDI in Bangladesh and sources of FDI has been presented. The findings will be strictly structured upon the data provided by the Directorate of Board of Investment (BOI).
1.4 Data Collection Procedure
This section describes the data used in the empirical analysis, specifically the measures of foreign direct investment, GDP and several controlling variables used in the regressions. There are several sources for data on foreign direct investment. An important source is The World Bank’s web site as well as from the Asian Development Bank’s web site. The historical data are collected from the World Development Indicators 2001 CD-ROM offered by The World Bank. Another source of the data is the IMF publication “International Financial Statistics” (IFS) which reports the Balance of Payments statistics on FDI. Data are also collected from the “Bangladesh Economic Review-2004” published by the Finance Ministry of Bangladesh.
The World Development Indicators 2001 CD-ROM provide data on net and gross foreign direct investment (International Financial Statistics, and Balance of Payments Statistics, respectively). Net FDI refers to inflows net of outflows, and gross FDI refers only to inflows, that is, foreign direct investment into the country. An OECD publication (Geographical Distribution of Financial Flows to Developing Countries) tallies gross FDI originated in OECD member countries into developing economies. The choice between these alternatives depends on which data set would correspond more closely to the inflow of FDI.
1.5 Methodology of the study:
Primary & secondary sources are used for preparing this thesis paper. For collecting primary data the personnel in the Directorate of Board of Investment (BOI) were interviewed. For collecting secondary data various papers supplements like the Financial Express, the Daily Star etc newspapers, internet and books are studied. Exchange of views from different people also played a significant role to do the Study.
Throughout the report I presented historical background of the flow of FDI and to get insight about the possible changes in the coming years. I have gathered information and data relevant to this analysis from several sources. The collected data are highlighted in the tabular analysis and trend analysis. This analysis helps me to know about the movement of FDI flow over the year. I also tried to find out the possible causes and factors that shaped the trend line of the flow. In a particular year the flow is upward moving at another time this is downward moving. So what’s the reason behind that is the objective of the study as a whole. The analysis of the report is supported by some theoretical arguments that enhance the overall findings and guide towards a reasonable recommendation.
1.6 Limitations of the study:
Although I tried to find and set the causes that determine the shape of the flow of FDI, I believe I’m not at the best peak. I have relied extensively on published data and other secondary sources to precede the report. But some of those sources were not approachable and we lacked from data of that sources. In analyzing the report I have presented some factors that determine the shape of the flow of FDI. But these are not surely the only factors and many important factors may be omitted from the analysis. And another thing is that the underlying factors are mostly in qualitative factors in nature and therefore cannot be measured in numerical way. The consequences are that we failed to provide absolute guideline about restructuring policy and some other decisions. The finding of the report is based on some assumed scenario and changes on those scenarios may reshape the future flow of FDI. That is the analysis is situation and time based. The biggest problem we faced in the reporting period is the paradoxical data set. I have three sets of data in regard to the FDI, but all that provides us contradictory result. Board of Investment and UNCTD do not confirm what the Bangladesh bank published and vice versa. On the other hand the recording of FDI data is almost a new concept in our country. As a result we have FDI data for two periods only that is for the year 2002 and 2003.
Theoretical Issues
2.1 Foreign Direct Investment (FDI)
FDI stands for Foreign Direct Investment, a component of a country’s national financial accounts. Foreign direct investment is investment of foreign assets into domestic structures, equipment, and organizations. It does not include foreign investment into the stock markets. Foreign direct investment is thought to be more useful to a country than investments in the equity of its companies because equity investments are potentially “hot money” which can leave at the first sign of trouble, whereas FDI is durable and generally useful whether things go well or badly. The importance of the Foreign Direct Investment to a nation’s economic welfare and development has been heavily documented in the economics literature since Konings (2001) pioneering inquiry into the nature and causes of the wealth of nations.
Feldstein (2000) note that the gains to host countries from FDI can take several other forms:
- FDI allows the transfer of technology—particularly in the form of new varieties of capital inputs—that cannot be achieved through financial investments or trade in goods and services. FDI can also promote competition in the domestic input market.
- Recipients of FDI often gain employee training in the course of operating the new businesses, which contributes to human capital development in the host country.
- Profits generated by FDI contribute to corporate tax revenues in the host country.
Of course, countries often choose to forgo some of this revenue when they cut corporate tax rates in an attempt to attract FDI from other locations.
2.2 FDI and GDP of the host country
Among more traditional FDI determinants, market-related factors clearly stand out. In a frequently quoted survey of the earlier literature on FDI determinants, Agarwal (1980) found the size of host country markets to be the most popular explanation of a country’s propensity to attract FDI, especially when FDI flows to developing countries are considered. Subsequent empirical studies corroborated this finding. Even authors who dismissed earlier studies as seriously flawed came up with results supporting the relevance of market-related variables such as GDP, population, GDP per capita and GDP growth; examples are: Schneider and Frey (1985), Wheeler and Mody (1992), Tsai (1994), Jackson and Markowski (1995), and more recently Taylor (2000). Chakrabarti (2001), while questioning the robustness of various other FDI determinants, finds the correlation between FDI and market size to be robust to changes in the conditioning information set. So, the summery is, A Country with large market size has the propensity of foreign direct investment.
Empirical evidence that FDI has made a positive contribution to the economic growth of developing countries has accumulated fast. Some recent examples are Marwah and Klein (1998) for India; Li, Liu and Rebelo (1998); Sun (1998), and Liu (2002) for China; Ramirez (2000) for Mexico; Lim, and McAleer (2002) for Singapore; Marwah and
Tavakoli (2004) for Indonesia, Malaysia, the Philippines and Thailand. Borensztein,
Gregorio and Lee (1998); Makki and Somwaru (2004) are also among the cross-country.
The recent trend of FDI has created opportunities and challenges for development and economic growth, especially for developing countries. The positive benefits of FDI to the receiving host country include capital, skill and technology transfer, market access, and export promotion. While some studies observe a positive impact of FDI on economic growth, others detect a negative relationship between these two variables (Aitken and Harrison 1999; Djankov and Hoekman 2000; Zukowska-Gagelmann 2002; Konings 2001; Damijan et al. 2001; Castellani and Zanfei 2002a 2002b). The controversy has arisen partially due to data insufficiency in either cross-country or time series investigations, using different samples of countries by different authors and various methodological problems.
Bengoa and Sanchez-Robles (2003) show that FDI is positively correlated with economic growth, but host countries require human capital, economic stability, and liberalized markets in order to benefit from long term FDI inflows.
A straightforward incentive for foreign investors is the level of capital return in the host country. FDI will flow into a country offering a higher rate of return. Measuring the rate of capital return can be a daunting task in developing countries, however; especially in Africa, a region lacking effective capital markets. One way to overcome the challenge is to employ the inverse of GDP as a proxy. Asiedu (2002) explains the reasoning behind this approach. When the capital return is assumed to be equal to the marginal product of capital, a country with scarcer capital will turn out to have proportionally higher return. Given that a lower income level induces smaller capital stock, investment in low-income countries can be expected to yield high return. This, in turn, justifies the use of the inverse of GDP as a proxy for capital return.
We include per capita GDP and the growth rate of GDP (GDP%) to control the actual and potential market size (Singh and Kwang, 1995).
Hypothesis 1A:Country with high per capita GDP have higher propensity of foreign direct investment inflow.
Hypothesis 1B:Country with high GDP rate have higher propensity of foreign direct investment inflow.
2.3 FDI and Inflation
Another potential determinant of FDI is the movement in the price level. A large and uncontainable increase in the price level, or high inflation, might reflect instability of the macroeconomic policy of the host country. This type of instability creates uncertainty in the investment environment (Bajo-Rubia and Sosvilla-Rivero 1994, Yang et al. 2000). High inflation discourages FDI for re-exportation, since the relative costs of production in the host country rise. In contrast, falling price levels and the resulting contraction in economic activities might trigger a deflationary spiral and eventually bankrupt the host country’s firms. This can induce local investors to sell off their interests in the host country’s companies to foreign investors at low prices, thereby expanding the inflow of FDI (Razafimahefa and Hamori, 2001). Therefore, the proposed hypothesis stands as follows:
Hypothesis 2:Country with high instability in inflation tends to get low inflow of foreign direct investment.
2.4 FDI and Interest Rate
Interest rates in an economy are important for the foreign investors. In a country like developing, foreign affiliates will be satisfied with higher interest rates on their term deposits but will be hesitant if commercial interest rates were high. (Venkataramany, 1998).Bank lending rate is another determinant factor of FDI inflows. High lending rate will discourage investment. (Alvin & Densil, 2003). The stability in the rate of exchange combined with the significant differentials between real domestic interest rates and international rates resulted in a significant inflow of foreign capital. (Metwally, 2001)
Capital inflows at substantial rates will reduce the need for borrowing. This will reduce the debt-service ratio, which can be a real drain on heavily indebted countries, such as Egypt (Jabber, 1986). The high debt-service ratio deprives the economy of the direct and indirect benefits of a large percentage of exports. This reduces the ability of its economy to grow and increases its dependence on foreign debt (Metwally and Tamaschke, 1994a, b). Thus, by reducing the debt-service ratio, foreign investment contributes indirectly to economic growth. (Metwally, 2001)
The inflow of equity capital will be determined by economic growth and interest rate differentials. Countries that enjoy higher growth rates and offer higher rates of return on invested capital are expected to attract more equity capital. (Metwally, 2001)
Hypothesis 3A:Country with high interest rates on term deposit tends to get high inflow of foreign direct investment.
Hypothesis 3B:Country with high commercial interest rates on lending tends to get low inflow of foreign direct investment.
2.5 FDI and Foreign Exchange Rate
Most previous articles that studied the effect of exchange rate risk on FDI concentrated on the role of risk aversion. Goldberg and Kotstad (1995), using a model in which firm produce under constant marginal costs but make production decisions before the resolution of uncertainty, showed that increased exchange rate uncertainty led a risk-averse firm to alter its FDI in order to reduce risk. Bailey and Tavlas (1991) showed that exchange-rate risk has an ambiguous effect on the FDI of a risk-averse firm. Cushman (1985) analyzed the effects of real exchange rate risk and expectations on direct investment for four different cases, depending on where inputs were purchased, where output was produced, where financial capital was acquired, and where output was sold. He found that the direct effect of risk is to lower foreign capital costs and thus to increase foreign direct investment. However, when other inputs costs are affected induced productivity changes or output price changes may offset the direct effect, reducing foreign direct investment. While these theoretical studies found that exchange-rate uncertainty has ambiguous effects on the level of FDI, some empirical studies show that increases in exchange-rate risk are positively and significantly correlated with FDI flows (Cushman, 1985; Goldberg and Kolstad, 1995).
Jackson and Markowski (1995) came with a conclusion that exchange rate uncertainty increases the option value of multiple facilities, may give the MNF a strategic advantage even though no such advantage exists in deterministic setting, and the uncertainty may increase the incentives for the MNF to move first even though there is no first-move advantage under certainty.
Aliber (1970) argued that firms from countries with strong currencies are able to support financially their foreign investments in better terms than firms from countries with weak currencies. Besides, the appreciation of the home country currency reduces the capital requirement of foreign investments in home country currency terms. In addition to that the appreciation of the home country’s currency reduces the competitiveness of its exports and displaces them by production facilities in the host market (Barrell and Pain, 1996).
Hypothesis 4:The currency depreciation of the host country is expected to facilitate the FDI involvement of home country’s firms.
2.6 FDI and Export
The substantial increase in direct foreign investment had a noticeable favorable impact on the balances of current accounts of the receiving countries. The Jordanian current account turned from a continuous deficit in 1981 to a surplus since 1997. Egypt experienced a surplus on its current account, for the first time, during the period 1990-1995 (Metwally, 2001). Economic growth depends on growth in exports of goods and services and domestic absorption. Thus both the factors are expected to carry a positive sign. However, it should be noted that the extent of the impact of the rate of growth in domestic absorption will depend on leakage to imports (Edwards, 1991). Work toward increased openness to foreign trade, so the domestic enterprise sector can participate fully in the global economy. This approach should be undertaken jointly with efforts to increase business sector competition. A combined approach would allow a greater domestic and international openness to business to go hand-in-hand with safeguards against the negative effects of a rise in concentration. Moreover, the successful elimination of global and regional trade barriers makes participating countries more attractive for FDI, owing to the concomitant expansion of the “relevant” market (OECD, 2002).
An important controversy about FDI flows concerns the relative success of inward-and outward oriented determinants. In addition to the size of the domestic market in the host country, open export-oriented economies may be more successful in encouraging FDI flows. Recently, Hein (1992) and Dollar (1992) have found that outward-oriented developing economies (that rely on new export markets) have been relatively successful. Lucas’s (1993) investigation of Southeast Asian countries provides some evidence of the relative importance of outward-oriented policies. Specifically, FDI is relatively more elastic with respect to demand for exports than with respect to aggregate domestic demand. If outward-oriented economies are relatively successful in attracting more FDI, the size of the domestic market need not be a handicap. Even small host countries could influence global corporate decisions by encouraging export-oriented policies. But, the empirical literature does not establish whether FDI flows are attracted by economies that are already export-oriented (exports precede FDI flows) or whether multinational investment causes exports to increase (FDI precedes exports). From a policy point of view, the direction of causality has obvious implications. International trade will increase as economic growth expands the economy’s export capacity. Thus, growth may influence trade as much as trade influences growth. Based on these considerations, the questions to be explored under this hypothesis are:
Hypothesis 5:Country with high rate of export will tend to get high inflow of foreign direct investment.
2.7 Necessity of FDI for a country:
The world has seen a spectacular wave of global corporate activity particularly during the second half of the last decade. Advances made in the information technology have facilitated this. This trend, strengthened with the direction toward border less-economies, is drawing more and more TNCs (Transnational Corporation) into the global operation. FDI is no longer only a strategic option of corporations; it also plays a key role in the national economic development strategies. Various countries are attempting to attract foreign investors through a variety of measures, i.e. liberalization of investment environment, fiscal reforms and a package of incentive offers. FDI can transform a country’s economic scenario within shortest possible time. It is not merely access to fund, but also provide transfer of technical know-how and management expertise. It is also a stabilizing factor in any economy, because once TNCs have made an asset-based direct investment, they can not simply pull out overnight like in the case of portfolio investment. Normallythe benefits accruable from FDI are inclusive of
(a) Transfer of technology to individual firms and technological spill-over to the wider economy,
(b) Increased productive efficiency due to competition from multinational subsidiaries
(c) Improvement in the quality of the factors of production including management in other firms, not just the host firm,
(d) Benefits to the balance of payments through inflow of investment funds,
(e) Increase in exports
(f) Increase in savings and investment and
(g) Faster growth and employment.
Thus, foreign direct investment is viewed as a major stimulus to economic growth in developing countries. Its ability to deal with two major obstacles, namely, shortages of financial resources and technology and skills, has made it the centre of attention for policy-makers in low-income countries in particular.
2.8 Foreign investment opportunity:
Private investment from overseas sources is welcome in all areas of the economy with the exemption of five industrial sectors (arms, production of nuclear energy, forest plantation and mechanized extraction within the bounds of reserved forests, security printing and minting, air transportation and railways) reserved for public sector. Such investments can be made either indecently or through joint venture on mutually beneficial terms and conditions. In other words, 100% foreign direct investment as well as joint venture both with local private sponsor and with public sector is allowed. Foreign investment, however, is specially desired in the following categories:
– Export-oriented industries;
– Industries in the Export Processing Zones;
– High technology products that will be either import-substitute or export-oriented;
– Undertaking in which more diversified use of indigenous natural resources is possible;
– Basic industries based mainly only on local raw materials;
– Investment towards improvement of quality and marketing of goods manufactured and/or increase of production capacities of existing industries; and
– Labor intensive/technology intensive/capital intensive industries.
2.9 An objective assessment of environment by a foreign investor for his decision making process:
In attracting investment, countries must recognize the main reasons that firms invest in developing countries:
??Resource extraction: firms locate in a specific country because of the natural resource wealth that can be exploited
??Market access: firms set up production in a country because of its large domestic market or its preferential access to regional or global markets
??Operating efficiencies: firms locate in a country because of competitive unit costs (typically labor and transportation costs)
Firms consider different options when selecting an investment site. Hence, countries compete to attract direct investment. The critical question for developing countries is:
??What are the factors that determine where firm set up direct investments?
The determinants of investment are unique to each circumstance; nonetheless, there are common themes. Some of the questions that investors ask when considering investing in a developing country follow:
· Are government policies supportive of investment?
· Is the political environment stable and predictable?
· Is there a well-managed economic framework?
· Does the legal framework protect property rights and foreign investors?
· How is the relevant industry regulated and structured?
· Is the local work force sufficiently trained and healthy?
· Is there adequate infrastructure in place?
· Are there significant natural resource deposits?
· How is the quality of life?
These nine issues are explored in greater detail in the Investment Checklist in Figure 13. This checklist contains questions that potential investors will consider. With each individual investment, there is a shifting emphasis as to which are the key factors, hence, the checklist does not rank the importance of each issue. (Source The Publication of Bangladesh Accounts “Finance & Economics”
A country’s International Capital flows are affected by any factors that influence direct foreign investment or portfolio Investment. Foreign direct Investment tends to occur in those countries that have no restrictions and much potential for economic growth. Portfolio investment tends to occur in those countries where taxes are not excessive, where interest rates are high, and where the local currencies are not expected to weaken.
Role of Multinational Corporation
A review of MNCs activities related to FDI:
MNCs commonly consider direct foreign investment because it can improve their profitability and enhance shareholder wealth. In most cases, MNCs engage in DFI because they are interested in boosting revenues, reducing costs, or both.
3.1 Revenue – Related Motives
The following are typical motives of MNCs that are attempting to boost revenues:
3.1.1 Attract new sources of demand:
A corporation often reaches a stage when growth is limited in its home country, possibly because of intense competition. Even if it faces little competition, its market share in its home country may already be near its potential peak. Thus, the firm may consider foreign markets where there is potential demand. Many developing countries, such as Argentina, Chile, Mexico, Hungary and China, have been perceived as attractive sources of new demand. Many MNCs have penetrated these countries since barriers have been removed. Because the customers in these countries have historically been restricted from purchasing goods produced by firms outside their countries, the market for some goods is not well established and offer much potential for penetration by MNCs.
3.1.2 Enter profitable markets
If other corporations in the industry have proved that excessive earnings can be realized in other markets, an MNC may also decide to sell in those markets. It may plan to undercut the prevailing, excessively high prices. A common problem with this strategy is that previously established sellers in a new market may prevent a new competitor attempts to break into this market.
3.1.3 Exploit monopolistic advantage
Industrial organization theory states that firms may become internationalized if they possess resources or skills not available in competing firms. If a firm possess advanced technology and has exploited this advantage successfully in local markets, the firm may have a more distinct advantage in markets that have less advantage technology.
3.1.4 React to trade restrictions
In some cases; MNCs use DFI as a defensive rather than aggressive strategy. Specially, MNCs may pursue DFI to circumvent trade barriers.
3.1.5 Diversify internationally
Since economies of countries do not move perfectly in tandem over time, net cash flow sales of products across countries should be more stable then comparable sales if the products were sold in a single country. By diversifying sales (and possibly even production) internationally, a firm can make its net cash flows less volatile. Thus, the possibility of a liquidity deficiency is less likely. In addition, the firm may enjoy a lower cost of capital as shareholders and creditors perceived the MNCs risk to be lower as a result of more stable cash flows.
3.2 Cost – Related Motives:
MNCs also engage in DFI in and effort to reduce costs. The following are typical motives of MNCs that are trying to cut costs:
3.2.1 Fully benefit from economies of scale
A corporation that attempts to sell its primary product in new markets may increase its earnings and shareholder wealth due to economies of scale (lower average cost per unit resulting from increased production). Firms that utilize much machinery are most likely to benefit from economics of scale.
3.2.2 Use foreign factors of production
Labor and land costs can vary dramatically among counties. MNCS often attempt to set up production in locations where land and labor are cheap. Due to market imperfections (discussed in Chapter 1) such as imperfect information, relocation transaction costs, and barriers to industry entry, specific labor cost do not necessarily become equal among markets. Thus, it is worthwhile for MNCs to survey markets to determine whether they can benefit from cheaper costs by producing in those markets.
3.2.3 Use foreign raw materials
Due to transportation costs, a corporation may attempt to avoid importing raw materials from a given country, especially when it plans to sell the finished product back to consumers in that country. Under such circumstances, a more feasible solution may be to develop the product in the country where the raw materials are located
3.2.4 Use foreign technology
Corporations are increasingly establishing over seas plants or acquiring existing overseas plants to learn the technology of foreign countries. This technology is then used to improve their own production process and increase production efficiency at all subsidiary plants around the world.
2.2.5 React to exchange rate movements – When a firm perceives that a foreign currency is undervalued, the firm may consider direct foreign direct foreign investment in that country, as the initial outlay should be relatively low.
3.3 Comparing Benefits of FDI among countries:
The optimal way for a firm to penetrate a foreign market is partially dependent on the characteristics of the market. For example, direct foreign investment by U.S. firms is common in Europe but not so common in Asia, Where the people are accustomed to purchasing products from Asians. Thus licensing arrangements or joint ventures may be more appropriate when firms are expanding into Asia.
3.4 Host Government views of FDI:
Each government must weigh the advantage and disadvantage of direct foreign investment in its country. It may provide incentives to encourage some forms of DFI, barriers to prevent other of DFI, and impose conditions on some other forms of DFI.
Barriers that protect local firms or consumers:
When MNCs consider engaging in DFI by acquiring a foreign company, they may face various barriers imposed by host government agencies. All countries have one or more government agencies that monitor mergers and acquisitions. The acquisitions activity in any given country is influenced by the regulations enforced by these agencies.
Barriers that restrict ownership:
Some governments restrict foreign ownership of local firms. Such restrictions may limit or prevent international acquisitions.
“Red Tape” Barriers – An implicit barrier to DFI in some countries is the “Red Tape” involved, such as procedural and documentation requirements. A MNCs pursuing DFI is subject is subject to a different set of requirements in each country. Therefore it is difficult for MNCs to become proficient at the process it concentrates on DFI within a single foreign country. The current efforts to make regulations uniform across Europe have simplified the paperwork required to acquire European firms.
3.5 Impact of the FDI decision on an MNC value:
An MNC’s foreign direct investment decision affects its value. Decisions on which countries to target for expansion affect the revenue generated by the foreign subsidiaries and the operating expenses of the foreign subsidiaries. Thus the FDI decisions determine determine the expected foreign currency cash flows that will be earn by each foreign subsidiary and therefore affect the expected dollar cash flows ultimate receive by the U.S. parent.
Since the FDI decision by the U.S. parent determine the types of new operations and locations of foreign operations, they can affect the perceived risk of these operations that are supported by the parent’s FDI. Therefore FDI can affect the MNC’s cost of capital, which also affects the MNC’s value.
|
||||||
Where,
V= Value of the U.S.- based MNC
E (CFi,t)= Expected cash flows denominated in currency j to be received by the U.S. parent in period t.
E (ERi,t) = expected exchange rate at which currency j can be converted to dollars at the end of period t.
k = Weighted average cost of capital of the U.S. parent.
m = Number of currencies
n = Number of periods.
MNCs may be motivated to initiate foreign direct Investment in order to attract new sources of demand or to enter markets where superior profits are possible. These two motives are normally based on opportunities to generate more revenue in foreign markets. Other motives for using FDI are typically related to cost efficiency, such as using foreign factors of production, raw materials, or technology. In addition MNCs may engage in FDI to protect their foreign market share, to react to exchange rate movements, or to avoid trade restrictions. International projects may alb MNCs to achieve lower risk than is possible from only domestic projects without reducing their expected returns. International diversification tends to be better able to reduce risk when the FDI is targeted to countries whose economies are somewhat unrelated to a MNCs home country economy.
FDI: Bangladesh & World Scenario
4.1 Significance of foreign investment in Bangladesh:
Foreign investment carries enormous significance in a developing country like Bangladesh. Realizing the importance of foreign investment Bangladesh formulated its first industrial investment policy in 1973, revised it again in 1974, 1975, and in 1978. Foreign private investment (Promotion and protection) act, 1980 and the Bangladesh Export Processing zones authority act 1980 were enacted. To make the foreign investment more attractive new industrial policy was announced in 1982. However, the industrial policy 1999 is by far the most comprehensive document. Bangladesh has ever made for investment including foreign investment.
4.2 The major incentives for foreign direct investment in Bangladesh are:
r Projection of Foreign investment from nationalization and expropriation
r Abolition of ceiling on investment and equity share-holding by foreigners
r Tax holiday between 5 – 10 years power generating companies
r Accelerated depreciation in lieu of tax holiday on certain simple conditions
r Concessionary duty and VAT on capital machinery and spares
r Rationalization of import duties and taxes
r Six month multiple visa for prospective investors
r Citizenship by investing USD 5,00,000 or transferring USD 10,00,000
r Permanent relationship by investing USD 75,000
r Tax exemption on capital gains under certain simple conditions
r Bonded warehouse and back to back L/C for exporting industries
r Avoidance of double taxation with certain countries
r Facilities for repatriation of capital, profit, royalty, technical fee etc.
r Tax exemption on royalty, technical know-how and expatriates’ salary
r Protection of intellectual property rights
r Taka convertibility in current account
r Treating reinvestment of reparable dividend as new investment
4.3 FDI and Bangladesh:
Foreign Direct Investment (FDI) generates economic benefits to the recipient country through positive impacts on the real economy resulting from physical capital formation, transfer of technology and increased domestic completion. Bangladesh stands to gain from these inflows provided it is able to allocate and manage these resources efficiently keeping in view the concomitant liabilities of profit and income payments. in the Bangladesh context, the recent surge in FDI in energy and telecom sectors appear to have heavy import content with little impact on foreign exchange reserve accumulation. The concern that logically emerges is whether the real economy would be able to generate sufficient foreign exchange to finance the remittance of profits and income originating from the foreign investment. Further more, the private sector has been incurring foreign debt obligation of short, medium, and long term maturity to the tune of USD 60-70 million a year. These give rise to interest and principal payments in foreign exchange over and above the official debt obligations to bilateral and multilateral agencies.
Table 4.1: sector wise capital in flows
(5) Year average)
(Million USD)
| Sectors | FY 1996-00 | FY 2001-05 | FY2006-10 |
| Gas | 134 | 218 | 114 |
| Power | 113 | 193 | 174 |
| Telecom | 17 | 17 | 17 |
| FDI in EPZ | 58 | 123 | 199 |
| Other FDI | 150 | 205 | 241 |
| Total FDI inflow | 472 | 757 | 744 |
| Debt inflow | 149 | 154 | 159 |
| Total inflow: FDI+debt | 621 | 911 | 902 |
Source: Portfolio: A Review of Capital market and national economy by Chittagong stock Exchange.
Graphical Presentation of Sector wise capital in flows
(5) Year average) (Million USD)
Table 4.2 Sector wise capital outflows
(5 years average) Million USD
| Sectors | FY 1996-00 | FY 2001-05 | FY 2006-10 |
| Gas | 34 | 111 | 151 |
| Power | 13 | 156 | 340 |
| Telecom | 0 | 20 | 42 |
| Other FDI | 36 | 190 | 409 |
| Total profit & Income Remittance | 83 | 477 | 942 |
| Payment on Debt | 45 | 117 | 229 |
| Total profit & & outflow FDI+ debt | 129 | 594 | 1171 |
Source: Portfolio: A Review of Capital market and national economy by Chittagong stock Exchange.
The main question is, can the economy sustain the foreign exchange payments that will be needed to cover the profit repatriation, interest payment sand amortization of private debt? Clearly, in the Bangladesh context, the nature of private capital inflows has implied little augmentation of foreign exchange reserves. Thus three three critical issues emerge from the nature of these capital inflows:
? First, the high import intensity of FDI inflow and subsequent profit repatriation and interest payments, implies a worsening current account deficit associated with FDI.
? Second, there is no discernible accumulation of foreign exchange reserves and consequently, no upward pressure on exchange rates (essentially ruling out the prospects of” Dutch Disease”)
? Third this FDI together with private sector borrowing in foreign currency, which has risen to an estimated USD 600 million a year between FY 01-FY 05, and over a billion USD a year for the next 5 years.
Bangladesh Status:
From the inception of the independence Bangladesh has been in the center of economic investment incentive for many countries and institutional bodies of the world. With the passage of time Bangladesh reform its regulatory structure in regard to the FDI to open up the new avenue and to dislodge the compliances related to the FDI. But the effort of this structural progress has back warded by sudden and unexpected political influence and changes. The situation becomes worse one in the September attack on US. During this period flow of FDI all over the world shrunken at a greater extend. Bangladesh had also severely affected by that unwanted changes in the world scenario. Before going for in depth analysis the status of Bangladesh from different aspects are discussed. Bangladesh could be an attractive place of FDI. It is located between the growing markets of south Asia.
· Economic Status: The macroeconomic situation of the country is by large, stable, characterized by a manageable fiscal deficit and low current account deficit. In external trade, it has steady export growth. Foreign Exchange reserve is not bad.
· Political Status: Bangladesh is a developing country having a republic type democratic government. It has British style parliamentary system. After liberation in 1971 the then government nationalized all the key industries. As a result, aid from wesrn world remains as the means of survival. But development of Bangladesh through aid seems to have failed. We see hat Bangladesh is still poverty-ridden. As the effectiveness of aid declined very much demand arose about market access to the developed countries of the product & services of developing countries. But the market access of developed countries is faced with several problems of which politics seems to be prominent. A free trade policy other wise called globalization is seen as a lively remedy to solve both the problems of developed and developing countries.
· Investment Status: The present democratic government concentrates on more local & foreign investments in oil, gas, cement, infrastructure, textile sectors of Bangladesh to face the challenges of the twenty first century. Though prospects are there in Bangladesh, due to insufficiency of capital & technology greater investment is no taking place. However the recent trends o administrative, banking and infrastructure reform process, low rate of inflation compared to the neighboring countries( in Pakistan 11.2%, in India 8.5%, Srilanka 16.7 % and Bangladesh 5%) and separate export processing zones are some of the indicators of the countries development process. That may help in attracting local and foreign investors from developed countries.
Besides, the most important tasks is to revive the rural economy so that the migration of rural people will come down, because a country like Bangladesh has poor resources to meet the bargaining demand of the citizens already settled in the urban areas.
4.5 Investment Registration in Bangladesh:
Before going for full-length analysis of the FDI flow in recent period I have a short look on the industrial investment status. The industrial investment mainly consists of private versus public, and local versus foreign investment. The analysis of industrial investment status will provide us good information as to how we are using the FDI. The economy of Bangladesh has been gradually drawing the attention of private sector investors since it’s opening up in early ’90s. Manufacturing is becoming increasingly vibrant claiming a significant share in the total investment.
Table 4.3: Annual Amount of Investment Registered with Bard of Investment
(1991/92 through 2000/04)
(In million US$)
| Fiscal year | Local investment | Foreign investment | Total investment | Growth |
| 1991-92 | 91 | 25 | 116 | — |
| 1992-93 | 90 | 53 | 143 | 23% |
| 1993-94 | 457 | 804 | 1261 | 782% |
| 1994-95 | 846 | 730 | 1576 | 25% |
| 1995-96 | 1171 | 1516 | 2687 | 70% |
| 1996-97 | 1108 | 1054 | 2162 | – 20% |
| 1997-98 | 1137 | 3440 | 4577 | 112% |
| 1998-99 | 1183 | 1926 | 3109 | – 32% |
| 1999-00 | 1324 | 2119 | 3443 | 11% |
| 2000-01 | 1420 | 1271 | 2691 | – 22% |
| 2001-02 | 1531 | 302 | 1833 | – 32% |
| 2002-03 | 2027 | 368 | 2395 | 31% |
| 2003-04 | 2132 | 448 | 2580 | 27% |
| Total | 14517 | 14056 | 28573 | — |
| Share (%) | 47.65% | 52.35% | 100% | — |
Source: IIMC Board of Investment, June 2003
During 1991-92 to 2003-04, cumulative private investment registered with Board of Investment (BOI), the apex private investment promoting and facilitating body, totaled US$ 25,933 million. The registered investments consist of 47.65 percent as local and 52.35 percent as foreign (100 percent and Joint Venture). Table 8.3 presents the time-series data during FY 1991-92 to FY 2003-04. In FY 1991-92, total private investment registered amounted US$ 116 million, whereas in 2003-04, it reached US$ 2,395 million. In 2003-04 experienced a 27 percent growth in the overall investment comprising of 32 percent growth in local and 22 percent in foreign investment. See table in above for more information.
4.6 Foreign Private Investment Projects Registered with Bangladesh:
As per registration data, agro-based and chemical are the two most growing sectors in FY 2003-04. Manufacturing sector recorded 39 percent growth in FY 2003-04 compared to FY 2002-03.Simultaneously, total share of manufacturing grew from 55 percent to 62 percent in 2003-04.
Table 4.4: Foreign Direct Investment by major Industries registered with re Board of investment. (1997/98 through 2003/04)
(In million US$)
Sector |
1997-1998 | 1998-1999 | 1999-2000 | 2000-2001 | 2001-2002 | 2002-2003 | 2003-2004 | Share in 2003-04 | ||
Agro based |
15.90 | 7.95 | 63.65 | 5.95 | 0.72 | 0.28 | 64.46 | 17.50% | ||
| Food & allied | 48.89 | 346.47 | 19.97 | 2.41 | 0.62 | 4.34 | 21.46 | 5.82% | ||
| Textiles | 106.91 | 92.76 | 50.28 | 41.03 | 201.57 | 50.64 | 37.83 | 10.27% | ||
| Printing & packing | 9.00 | – | 2.00 | 0.18 | 122.01 | 2.35 | 0.58 | 0.16% | ||
| Tannery & Rubber | 4.05 | 21.09 | 8.62 | 0.63 | – | – | 1.78 | 0.48% | ||
| Chemical | 113.64 | 53.85 | 336.51 | 962.43 | 201.53 | 44.84 | 74.90 | 20.33% | ||
| Glass & Ceramic | – | 99.39 | 53.26 | 142.13 | 17.11 | 5.30 | 3.19 | 0.87% | ||
| Engineering | 21.31 | 10.62 | 96.84 | 20.98 | 29.77 | 57.86 | 25.65 | 6.96% | ||
| Service | 596.59 | 2279.30 | 1290.85 | 770.99 | 650.70 | 134.93 | 137.25 | 37.25% | ||
| Miscellaneous | 137.21 | 528.62 | 3.56 | 172.27 | 48.03 | 0.98 | 1.33 | .36% | ||
| Total | 1053.50 | 3440.05 | 1925.54 | 2119.88 | 1271.88 | 301.52 | 368.42 | 100% | ||
Source: IIMC Board of Investment, June 2004
Table 4.4 shows direct foreign Investment in the major industries during the last seven years highest Investment was in service industries (37.25%) followed by chemical industries (20.33%). Textiles (10.27%) and Agro based is (17.50%)
Table depicts the time-series data during FY 1997-98 to 2003-04. See table in above for more information. Registration of local industries also grew substantially by 32 percent. Engineering, printing and packaging, agro-based and food and allied sectors have led t