Foreign Direct Investment in South Korea - Case Study Example

Foreign Direct Investment in Asia [Name] [Professor Name] [Course] [Date] Table of Contents Table of Contents 1 Introduction 3 FDI Growth in Asia 4 Determinants of FDI inflow in Asia 7 Technological developments 8 Institutional changes 8 Globalization 9 Strategic location 10 Effects of FDI in Asian economies 11 Conclusion 13 References 14 Abstract: Foreign direct investment (FDI) is of significant importance to the economic growth and global economic integration. Asia has been an integral part of this development given the constant inflows of FDI since the last decades. This paper discusses foreign direct investment (FDI) in Asia with special focus on Southeast Asia and East Asia. It relates FDI flows to trade flows and altering industrial structure. It further identifies the major determinants of FDI inflows to the region. The impacts of FDI role to the economies of host Asian countries are also examined. More specifically, the impact of FDI on host countries is discussed with regard to productivity and its variation across industries and countries. Key Concepts: foreign direct investment, FDI, FDI impacts in Asia, FDI in Asia, Introduction Foreign direct investment (FDI) has been a major contributor to increased globalization over the last decades (Goldar & Ishigami 1999). FDI growth has been higher than growth of international trade since multinational corporations have accounted for some 10 percent of the global output and around 30 percent of the global exports (Sjoholm & Lipsey 2010). In addition, a substantial share of new technologies is developed and managed by these companies. Over the last decades, FDI has played a significant role in the development of Asian countries with Japan being one of the world’s principal source and China the principal recipient of FDI. Asian countries such as Singapore have depended significantly on FDI. Additionally, Asia is viewed as the leading home to multinational’s cross-country networks where diverse affiliates of corporations produce various components of a product or assemble such components to imported from oversees. It is evident that complexities of operations across national borders impose large requirements on the economic development of the host countries (Goldar & Ishigami 1999). This paper therefore presents an argument that foreign direct investment is comparatively higher in the region since Asian countries are heterogeneous. Consequently the countries vary in their capacity to attract and sustain FDI depending on factors such as institutional policies, trade regimes, infrastructure and labour force competences. Indeed, this offers a leeway to explore the FDI in Asia and to evaluate the determinants of FDI and its impact on the productivity various economies. This essay focuses on FDI inflow and its effects on productivity on East Asian and Southeast Asian economies, such as China, Hong Kong, South Korea, Indonesia, Singapore, Thailand, Taiwan and Malaysia. These groups are selected since it is a principal recipient of FDI in Asia. FDI Growth in Asia FDI inflows in Asia have significantly contributed to rapid growth of most countries in the region. As a significant aspect of global economic growth and integration, FDI accounts from some 30 percent of the global exports (UNCTAD 2007). Additionally, some 75 percent of total sales to foreign markets are done through FDI and 25 percent through exports (Antrás & Yeaple 2013). In Asia, the source of FDI remains highly intense to high-income countries despite the trend showing that FDI from some countries are rapidly on the increase (Sjohol 2012). In Asia and other regions of the world, the FDI inflow destination has changed over the last two decades with a significant share destined to developing countries. For instance, the share of FDI to developing nations has increased to nearly 47 percent from 29 percent between 1970 and 2011 (UNCTAD 2013). Table 1: Countries in Asia included in the FDI growth pattern Studies however show that FDI inflows to East Asian countries only took off beginning from the 1980s before taking off rapidly in the late 1990s by 1100 percent in current prices, particularly between 1986 and 1997 (Sjoholm & Lipsey 2010). In the late 1990s towards the early 2000s, the Asian crisis in the ICT industry led to momentary fall in FDI inflows before increasing rapidly in 2003. In the 2008 to 2009 global crisis, FDI inflows reduced before gaining strongly to some US$120 billion in 2011, nearly five times that of 2000 (Sjohol 2012). From the illustration (Table 1), Indonesia received nearly one-third of total inflows in the 1970s although a substantial decline is noted in the later decades. Singapore and Malaysia received comparatively substantial shares despite the fact that the share for Malaysia decline in the 2000s. Singapore is the largest recipient of FDI accounting for 58 percent of FDI in 2000s. On the other hand, it is a regional hub for both FDI and international trade and because of this, a significant amount of FDI destined to Singapore often ends up in other Asian nations (Sjoholm 2013). This means that FDI inflows to the country might not significantly contribute to its productivity as much as it does to other Asian countries. In addition, some FDI destined for Singapore flow back to the country of origin (roundtrip). Thailand is shown as the second largest recipient of FDI in the 2000s while inflows to Philippines are comparatively small through the period (Sjoholm, F & Lipsey, R 2010). Cambodia, Vietnam and Laos on the other hand, although they liberalized their economies in the late 1980s and early 1990s, have not witnessed significant FDI inflows except for Vietnam (Sjoholm & Lipsey 2010). It is also observed that Asia was a major destination flow FDI inflows ahead of other developing regions. The comparative significance of FDI in Asia has continually increased with the share of GDP estimated at 46 percent (UNCTAD 2011). FDI inflows reached a record high in Southeast Asia and East Asia in 2011 as indicated below. Table 2: FDI flows be region 2010-2012 Source UNCTAD. The sum inflows to the region increased by 14 percent to $336 billion. This accounted for 22 percent of the world output, compared to 12 percent before the 2008-2009 global economic crisis. FDI inflows to Southeast Asian countries are seen to be rising compared to the stagnant growth in East Asia. In East Asia, the inflow to China is shown to have reached a record high of $124 billion in 2011. Table 3: Top 5 FDI inflows in Asia Source: UNCTAD According to UNCTAD (2013), China continues to the Asia’s leading FDI recipient as well as in the developing world. Determinants of FDI inflow in Asia The previous sections indicated that foreign direct investment in Asia is relatively high compared to other regions of the developing world. It further showed that FDI inflow in the region has witnessed a rapid growth since 1980s. Several researches have indicated that the increase depends on two major developments. These include technological change that has enhanced global economic integration and ideological shift among policymakers which has encouraged globalization (Asian Development Bank Institute 2013). The two major developments have in turn encouraged institutional changes attributed to FDI inflows in Asia (Sjoholm 2013). Technological developments FDI flow is associated with complex operations over great distances. Factors of production -- including labour, capital and raw materials -- have to be shipped among various branches of a multinational corporation. Declining transport costs and development of technologies in the last decades have promoted FDI inflow into East Asia and Southeast Asia. According to World Bank (2009), the total freight costs declined by nearly a half since the mid-1970s attributed to development of greater vessel capacities and standardized containers (World Bank, 2009, p. 176-177). Air freight cost has also declined significantly attributed to the introduction of jet engine. In addition, the fall in cost of trade has enabled multinationals to subdivide their production chains between affiliate firms in different countries. This process is called vertical integration. This particular development is particularly predominant in East Asian countries. Institutional changes Institutional developments have enabled Asian countries and foreign multinational to participate in international trade at an unprecedented rate. It can however be argued that majority of the institutional progress experienced since the 1980s have encourage a substantial share of FDI inflow to Asian countries, specifically in East Asia and Southeast Asia (Sjoholm 2013). For instance, Southeast Asia’s position as a host of FDI has been encouraged by the changing view of MNCs along with the institutional changes. An example is nationalization of foreign multinational companies in Indonesia, Malaysia and Philippines. An elemental criterion for attracting foreign direct investment is by welcoming such investments by the host countries (Fung, Lizaka & Tong 2002). This has been the case for most countries in Asia, specifically Southeast Asia (such as Singapore) and East Asia (such as China). Towards the late 1970s and early 1980s, these countries experimented with different development strategies such as promoting reliance on foreign multinational corporations. For instance, when Singapore was excluded from Malaysia in 1965, most of its domestic market on the Malaysian peninsular was lost. A decision was made to rely on FDI (Krause, Koh, and Yuan, 1987, p. 3). In China, the fundamental element of economic reform comprised encouraging FDI inflow into the country. From the late 1970s, China has critically opened its economy for multinational investments. As a result, it has attracted a large base of foreign direct investment. At the same juncture, China’s policies towards FDI have been significantly changed to prioritize on FDI. For instance, towards the early 1980s, government policies set new regulations to allow for joint-ventures through foreign capital. Additionally, Special Economic Zone (SEZ) were set to give preferential trade treatments to FDIs (Fung, Lizaka & Tong 2002). Globalization Globalization is incrementally testing the capacities of Asian economies to promote and sustain competitiveness. Globalization has promoted FDI growth is most part of Asia, specifically China, Malaysia, Singapore among other countries. By reducing barriers to foreign investments in the 1980s among other policies, China and Singapore encouraged FDI inflow (Zhange 2006; Thiam 2006). The Chinese government made a historic policy step in 1991 to 1992 by lifting government restrictions and minimizing state intervention. In addition, China’s accession to the World Trade Organization (WTO) in 2001/2002 presented a historic step towards integration into the global market and establishing market-oriented economic regime (Zhange 2006). Strategic location Market access is a major factor that motivates FDI growth. Often, countries have pursued FDI for three primary reasons, namely to serve host market with commodities manufactured locally, easy access of raw materials and lastly production for exports (Thiam 2006; Markusen & Venebles 1998). Overall, market access is the most important factor and one that has increased significantly since the 1970s. For instance, Asian countries are the most densely populated of all the regions of the world. This has encouraged rapid growth of FDI based on high local demand. Additionally, raw materials are a prime determinant for FDI existence in some of the Asian countries. In South Asian country of Singapore and Indonesia for instance, FDIs have tended to concentrate on mining, given the resourceful of the country to minerals such as manganese and bauxite. Another major factor contributing to FDI inflow in parts of Asia is the relatively good business environment compared to different parts of the world. According to the World Bank’s 2012 ranking of countries best for doing business, Asian countries are seen to top with countries such as Singapore and China at the top (see Table 3 below). On the other hand, Southeast Asia is the second best ranked of the developing regions (UNCTAD 2013b; UNCTAD 2012) after Northeast Asia. Additionally, three Asian countries are ranked among the top 10 percent of the most attractive countries for doing business. The three include Thailand, Malaysia and Singapore. Table 4: Ease of doing business Source: World Bank and IFC http://www.doingbusiness.org/rankings# Effects of FDI in Asian economies Foreign direct investments have led to industrialization, growth or trade and economic developments of most Asian economies. According to Lipsesy and Sjoholm (2010), most of the countries in Southeast Asia or East Asia wouldn’t have developed at a rapid pace over the last four decades if it were not for FDI inflows. Fung, Lizaka and Tong (2002) discusses that FDI has influenced the growth of gross national product (GDP) such as China. Indeed, empirical studies have showed that FDIs have contributed substantially to their speedy economic growth (Urata, Chia, and Kimura, 2005). For instance, China has grown at a rate of 9-5 percent each year since the 1980s to become one of the world’s largest economies (Gaulier, Lemoine & Unal-Kesenci 2009). It foreign trade has on the other hand increased at rate of 15 percent each year, with its share in the world trade rising to 5 percent in 2001 from less than 1 percent in the 1980s. In depth analysis of trade flows in China shows that the country’s economy has resulted from the impacts of foreign direct investments (Gaulier, Lemoine & Unal-Kesenci 2009). Table 5: FDI inflow impact on GDP Survey of literature further shows that FDI has increased employments in Asian countries (Fung, Lizaka & Tong 2002). FDI have also promoted growth of skilled labour in Asian countries. Thiam (2006) notes that the positive spillover impacts of FDI are channeled to domestic enterprises. An example of such channels is movement of highly-skilled labour from multinational corporations to domestic companies. Studies have also found that domestic firms with highly-skilled workforce are often likely to experience increased productivity in instances where there are increased FDI presences. Foreign multinationals also train labour for high standards or production (Fung, Lizaka and Tong 2002). Foreign direct investments have also promoted direct technology transfers in host Asian countries. According to Fung, Lizaka and Tong (2002), the likelihood of benefitting from modern technologies in Asia has been increased by the existence of multinational corporations. These multinationals import relevant technologies for use in affiliates for production processes in the host countries. In Singapore and China for example, direct technology transfers from Japan have led to establishment of more plants, as a result, the two countries have major manufacturing sectors in Asia for semi-finished goods, capital goods, consumption goods and part and components (Gaulier, Lemoine & Unal-Kesenci 2009). Foreign direct investment also forms an integral part of capital accumulation in Asian countries. After nearly two decades of Chinese economic reform (as well as that of Singapore), enterprises that are funded by foreign investments have become integral parts of the economies. In China for instance, foreign investments comprised lest than 5 percent of investments in total fixed assets. This however increase to 10 percent in the late 1990s (Fung, Lizaka and Tong (2002). Conclusion Foreign direct investments in Asia have had sweeping implications since the late 1970s. The region has hence been an integral part of this development given the constant inflows of FDI over the last decades. Occurrence of FDI in the region has been greatly encouraged by the region’s attractive business environment, institutional policies that encourage foreign investments, political and macroeconomic stability and strategic location. FDI has accelerated restructuring of the Asian economies, particularly in East Asia and Southeast Asia. Indeed, the international division of labour has intensified within the region as multinationals have established bases for production and export within the countries in the region. FDIs have promoted direct technology transfers in the region, economic development, growth of skilled labour, and availability of quality products. References Antrás, Pol, and Stephen R. Yeaple 2013, “Multinational Firms and the Structure of International Trade, NBER Working Paper Nr. 18775 Asian Development Bank Institute 2013, FDI in South Asia: Trends and Prospects, Viewed 29 July 2013, http://www.adbi.org/discussion-paper/2006/11/28/2066.fdi.south.asia.policy.trends/fdi.in.south.asia.trends.and.prospects/ Fung, K, Lizaka, H & Tong, S 2002, Foreign Direct Investment in China: Policy, Trend and Impact, Paper prepared for an international conference on China’s Economy in the 21st Centuryî to be held on June 24-25, 2002, Hong Kong. We would like to thank Alan Siu and Richard Wong for their encouragement. Gaulier, G, Lemoine, F & Unal-Kesenci 2009, 'China’s Integration in East Asia: Production Sharing, FDI & High-Tech Trade,' CEPII, Viewed 29 July 2013, http://cepii.fr/PDF_PUB/wp/2005/wp2005-09.pdf Goldar, B & Ishigami 1999, 'Foreign Direct Investmentt in Asia,' Economic and Political Weekly, Vol. 34, No. 22, pp. M50-M60 Krause, L.B., Koh Ai, T., and Yuan, L.T., (1987) The Singapore Economy Reconsidered, Institute of Southeast Asian Studies, Singapore Markusen, J & Venebles, A 1998, 'Multinational firms and the new trade theory,' Journal of International Economics, Vol. 46,pp.183–203 Sjoholm, F 2013, Foreign Direct Investments in Southeast Asia, viewed 30 July 2013, http://www.aae.wisc.edu/hoseae/d16.pdf Sjoholm, F & Lipsey, R 2010, FDI and Growth in East Asia: Lessons for Indonesia, IFN working Paper, Viewed 30 July 2013, http://www.ifn.se/wfiles/wp/wp852.pdf Thiam, H 2006, Foreign Direct Investment and Productivity: Evidence from the East Asian Economies, UNIDO, viewed 29 July 2013, http://www.unido.org/fileadmin/user_media/Publications/Research_and_statistics/Branch_publications/Research_and_Policy/Files/Working_Papers/2006/WP032006%20Foreign%20Direct%20Investment%20and%20Productivity%20-%20Evidence%20from%20the%20East%20Asian%20Economies.pdf UNCTAD 2007, World Investment Report, United Nations: New York and Geneva. 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