UNCTAD has pointed out in the World Investment Report 2003 that FDI inflows to the developing countries have fallen from $246 billion in 2000 to $162 billion in 2002. UNCTAD predicts that FDI flows will stabilise in 2003, and rebound in 2004.
However, the report points out that such may not be the case. The decline in FDI flows may be secular. First, the global corporate profits have been declining. The profits of the 100 largest MNCs declined from 7 per cent in 2000 to 2 per cent in 2002. The returns on FDI declined in tandem from 6.3 per cent in 2000 to 4.8 per cent in 2001 — lowest since the early 1990s.
Fewer surpluses are available with the MNCs, therefore, to make FDI in the developing countries. The profits of the MNCs are linked to the state of the world economy in general. There are few signs of a fundamental revival in the global economy. The world economy’s growth in the last few decades has been led by continued technological innovations that have caught the fancy of the investors across the globe. The last such innovation was the Internet or the so-called dotcom boom.
The world economy was facing a similar downturn in 1997. According to the Trade and Development Report 2002, the growth of world output had declined to 1.8 per cent in 1998 in the aftermath of the Asian crisis. It had gradually crept up again to 3.8 per cent in 2000 in wake of the dotcom boom. But the high growth could not be sustained and the growth rate fell to a mere 1.3 per cent in 2001. No signals of a technological innovation of similar gravity are presently visible. Biotechnology has been around for more than 20 years, and it has already had its ups and down. It is, therefore, doubtful whether the world economy will rebound as predicted by UNCTAD. The present world growth is heavily dependent on the US which is languishing under heavy debt. The ability of the US to continue to import and consume goods from the rest of the world depends upon the willingness of the rest of the world to lend money to the US for covering its trade deficit. According to UNCTAD figures, FDI inflows into the US declined from $144 billion in 2001 to $30 billion in 2002.
There are few indicators that this trend has since been reversed. Thus, it is more likely that the US may face a severe balance of payments crisis. The chance of FDI rebounding in this situation is less.
UNCTAD recognises this as much: “The danger of deflation in major economies — setting off a downward spiral in economic activity — cannot be ruled out.” FDI flows to the developing countries will rebound only if the profitability of the MNCs is restored. The US is living on borrowings. The EU is locked in a low growth mode. Japan is facing a continued recession. Hence, it is unlikely that large amounts of FDI will move to the developing countries. In fact, lower worldwide profits of the MNCs, and the consequent liquidity crunch has led to pressure upon the subsidiaries in the developing countries to repay loans to the headquarters. This may have led to “divestment” of FDI.
According to UNCTAD figures, Korea, Taiwan and the Russian Federation have had higher FDI outflows of FDI in 2002 than inflows. This decline in FDI has taken place when the investment climate in the developing countries has become more favourable. According to UNCTAD, 208 regulatory changes regarding FDI were made in 2001. Of these 194 were more favourable to FDI.
Similarly, 248 regulatory changes were made in 2002. Of these 236 were more favourable to FDI. The fact that FDI has nevertheless declined means that the fall would have been still greater in the absence of these favourable developments. The MNCs are withdrawing while the developing countries are increasingly welcoming FDI.
UNCTAD has pointed out that there have been three previous instances of decline in FDI in the last 20 years. FDI declined by 10 per cent in 1982-3, by 4 per cent in 1985, and 20 per cent in 1991.
The present decline is more severe than all the previous episodes. There was a 41 per cent decline in 2001 and 21 per cent in 2002. According to UNCTAD, the preliminary data for the first few months of 2003 indicates that the decline is continuing for the present. The present decline is more severe both in duration and depth than the previous ones. It would, therefore, take a greater upsurge in the world economy for FDI to rebound.
So what gives UNCTAD the idea that FDI may rebound? It has made a survey of the Investment Promotion Agencies across the world. The survey indicates that 60 per cent agencies expect improvement in FDI in 2003-04 while 85 per cent expect improvement in 2004-05. This is the basis of UNCTAD’s prediction that FDI will stabilise in 2003 and rebound in 2004. This is a very set of weak data to rely on.
The job of the Investment Promotion Agencies is to attract FDI. The jobs of these respondents depend on continuation of FDI as the vehicle of growth. Therefore, they may be expected to look at the favourable side of the picture. The conclusion is that the present decline in FDI is likely to continue. The chances of a rebound taking place in 2004 are less. We have lost a decade in trying to attract foreign capital.
Our domestic savings have registered only a small increase in this period from 20.4 per cent in the late 1980s to 23.2 per cent in the last five years. The focus on attracting FDI has led our policymakers to ignore this source of investment. We should take a hard look at the declining trend in FDI and not be carried away with the talk of rebound in 2004. We should speedily get back to the domestic savings-led growth strategy.