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Foreign Direct Investment In Asia: A Balancing Act (Part 2/2)

Though FDI remains a key factor that drives economic growth in Asia, at the same time decision makers need to prioritize growth of domestic industries and products.

By Anthony Gokianluy

Many nations in Asia are considered highly entrepreneurial, with poverty cited as the main reason for this entrepreneurial spirit. In the Philippines, small and medium-sized enterprises comprise the majority of all business establishments and about 60% of the exporting firms in the Philippines. 55% of the Philippine labor force is employed by SMEs, contributing approximately 30% to total domestic volume sales.

However, many entrepreneurs face challenges expanding their businesses in developing countries in Asia due to a lack of research and development, and inadequate access to technology. These are advantages inherent to many large multinational companies. Financing is a grave concern for most start-ups, since most entrepreneurs starting small business in competitive markets have difficulty acquiring capital and suffer from a lack of good marketing advice and various logistical problems.

Governments should realize that entrepreneurial efforts help improve living standards and ignite economic growth while building a bigger market for local products. Providing incentives and support, through lowering corporate taxes, introducing sustainable loan schemes, and assisting in land ownership deals, would prompt increased domestic growth and investment in local industries, in turn expanding the market. Increased government support for microfinance and consulting programs would develop certain industries and markets and further contribute to economic growth at home.

It is often the case that antitrust laws in developing countries are not effective enough to prevent monopolies from forming, especially in the case of multinational companies. This phenomenon is particularly prevalent in the food industry, where Nestle and Unilever control large portions of market share. Government policy should be strict and clear where it wants to protect domestic business interests, especially when it comes to market penetration by larger multinational corporations with technological and technical advantages. Taxes and tariffs should be used to balance the market, while also collecting significant FDI revenue from the foreign firms.

Foreign Direct Investment: Going Multinational or Local?

In general, FDI and multinational corporations coupled with business process outsourcers are mutually beneficial; but when one side dominates, typically due to government incentives or subsidies, significant market presence is developed. Local partners may lose out or receive significantly less of the income, as opposed to their larger foreign counterparts, who have achieved greater market penetration. Such a big advantage in terms of these incentives can become counterproductive to the intention of outsourcing, which is to create a relationship wherein the outsourcing company stands to gain a profit and learn technical expertise from their foreign partners. Government control is thus paramount to maintain the shared values of both the local businesses and the multinationals, and to prevent any opportunism from potentially alienating and stunting the domestic relationship.

In terms of employment, a decrease in unemployment rates due to multinational companies may prove to be a fluke. While multinational companies can account for a large rise in employment rates due to their relatively large capital investment, employment may not be very sustainable in the long run, especially if the head office chooses to close down major manufacturing centers in a country to cut overall expenditure during an economic crisis. This move can be extremely catastrophic, especially when these multinational companies already capture a significant portion of the working population, since mass unemployment can result.

Multinational companies pulling out of developing countries can leave behind negative labor circumstances, such as the inability of the firm to give separation pay or similar contractual benefits. Key domestic industries have less of this risk, as national governments may be able to support them financially or the industry as a whole in times of financial downturn. Employees, as well, can be sure that company labor policies are aligned with and accountable to the national government, instead of being mixed with the system of a head office on another continent.

A Potential Counter-Argument

It is possible that FDI promotes and strengthens domestic industries more than it undermines it. In order to successfully export to international markets, foreign investors have to purchase inputs from abroad or from local businesses in the host country. It must be noted that many of the most successful export sectors in ASEAN (Association of Southeast Asian Nations) are also highly import dependent; this relationship has limited the impact of devaluations in these economies on exports.

Many experts have pointed out that the primary interest of these exporters in the economy is as a source of low cost labor, instead of inward market penetration. Foreign investors gearing towards the domestic market usually have close ties with local firms; their competitive advantage is used improve these sectors, as they can provide useful technical and technological information for these local firms. And since foreign companies produce quality goods and certain services for the local market, they may indirectly help domestic firms become more competitive in other markets, enhancing the export potential of indigenous entrepreneurs.

The intention is not to argue for FDI as a primary means of economic progress. But in an environment where there is high private sector activity, foreign investment can make a valuable and very unique contribution to sustainable economic growth and development. A recent study of sixty-nine developing countries found that FDI stimulates national economic growth more, also in terms of GDP, than investments from domestic firms.

The promotion of FDI may be a good means, during and post-financial crisis, to bring in more cash inflows into the economy, due to multinationals wanting to profit from cheaper inputs. Compared to other forms of capital flows, FDI has proved remarkably resilient during financial crises, like the Asian fiscal crisis in 1997. Ultimately, governments can identify certain business sectors that can benefit from multinational FDI, and encourage these multinationals to partner with already established local companies to expand the market.

Foreign firms stand to increase the level of competition in the economy and create ideas, expertise, and innovations that the domestic economy could not have necessarily developed on its own. This strategy would enable both parties to reap the financial and technical benefits of their cooperation, and the biggest prize: the massive Asian consumer base.

Part 1 of this series can be found here

This article was originally published by the Fair Observer, December 17, 2012

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