Factors Influencing Foreign Investment Decisions
Factors Influencing Foreign Investment Decisions

 

 

Now that you understand the basic economic reasons why companies choose to invest in foreign markets, and what forms that investment may take, it is important to understand the other factors that influence where and why companies decide to invest overseas. These other factors relate not only to the overall economic outlook for a country, but also to economic policy decisions taken by foreign governments—aspects that can be very political and controversial.

The policy frameworks relating to FDI and FPI are relatively similar, although there are a few differences.

Direct investors tend to look at a number of factors relating to how they will be able to operate in a foreign country:

  • the rules and regulations pertaining to the entry and operations of foreign investors
  • standards of treatment of foreign affiliates, compared to “nationals” of the host country
  • the functioning and efficiency of local markets
  • trade policy and privatization policy
  • business facilitation measures, such as investment promotion, incentives, improvements in amenities and other measures to reduce the cost of doing business. For example, some countries set up special export processing zones, which may be free of customs or duties, or offer special tax breaks for new investors
  • restrictions, if any, on bringing home (“re-patriating”) earnings or profits in the form of dividends, royalties, interest or other payments

The determinants of FPI are somewhat more complex, however. Because portfolio investment earnings are more likely to be tied to the broader macroeconomic indicators of a country, such as overall market capitalization of an economy, they can be more sensitive to factors such as:

  • high national economic growth rates
  • exchange rate stability
  • general macroeconomic stability
  • levels of foreign exchange reserves held by the central bank 
  • general health of the foreign banking system
  • liquidity of the stock and bond market
  • interest rates

In addition to these general economic indicators, portfolio investors also look at the economic policy environment as well, and especially at factors such as:

  • the ease of repatriating dividends and capital
  • taxes on capital gains
  • regulation of the stock and bond markets
  • the quality of domestic accounting and disclosure systems
  • the speed and reliability of dispute settlement systems
  • the degree of protection of investor’s rights
Questions for Discussion:  

  1. In what ways do the criteria for investing differ between FDI and FPI? Which countries do you think are more favorable for investment, given these criteria? Do you think these criteria are good indicators for successful investment?  
  2. What factors would you evaluate if you were an investor? Pretend you wanted to open a manufacturing plant to boost production of your wildly popular technological gizmo. What sorts of criteria would you evaluate in determining where to invest? Now pretend that you were looking for a short-term bond purchase for your company’s retirement plan. What factors would influence your decision to invest in this case?

Controversies that may arise from host country policy decisions on these aspects of the investment environment will be covered in the following section of this Issue in Depth.

 

Next: Efforts to Increase International Investment