Foreign Direct Investment Theories

Topics: Foreign direct investment, International economics, Investment Pages: 10 (3026 words) Published: April 12, 2013
European Journal of Interdisciplinary Studies

Foreign Direct Investment Theories: An Overview of the Main FDI Theories Vintila Denisia
Academy of Economic Studies, Bucharest,

Foreign Direct Investment (FDI) acquired an important role in the international economy after the Second World War. Theoretical studies on FDI have led to a better understanding of the economic mechanism and the behavior of economic agents, both at micro and macro level allowing the opening of new areas of study in economic theory. To understand foreign direct investment must first understand the basic motivations that cause a firm to invest abroad rather than export or outsource production to national firms. The purpose of this study is to identify the main trends in FDI theory and highlight how these theories were developed, the motivations that led to the need for new approaches to enrich economic theory of FDI. Although several researchers have tried to explain the phenomenon of FDI, we cannot say there is a generally accepted theory, every new evidence adding some new elements and criticism to the previous ones.

Keywords: foreign direct investments, internalization theory, eclectic paradigm JEL Classification: E60, F21

Nowadays the issue of foreign direct investments is being paid more attention, both at national and international level. There are many theoretical papers that examine foreign direct investments (FDI)’s issues, and main research on the motivations underlying FDI were developed by J. Dunning, S. Hymer or R.Vernon. Economists believe that FDI is an important element of economic development in all countries, especially in the developing ones. The conclusion reached after several empirical studies on the relationship between FDI and economic development is that the effects of FDI are complex. From a macro perspective, they are often regarded as generators of employment, high productivity, competiveness, and technology spillovers. Especially for the least developed countries, FDI means higher exports, access to international markets and international currencies, being an important source of financing, substituting bank loans. There is some evidence to support the idea that FDI promote the competitiveness of local firms. Blomstrom (1994) finds positive evidence in Mexico and Indonesia, while Smarzynska (2002) found that local suppliers in Lithuania benefited spill over from supplying foreign customers. Caves (1996) considers that the efforts made by various countries in attracting foreign direct investments are due to the potential positive effects that this would have on economy. FDI would increase productivity, technology transfer, managerial skills, knowhow, international production networks, reducing unemployment, and access to external markets. Borensztein (1998) supports these ideas, considering FDI as ways of achieving technology spillovers, with greater contribution to the economic growth than would have

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Issue 3 ♦ December 2010

national investments. The importance of technology transfer is highlighted also by Findlay who believes that FDI leads to a spillover of advanced technologies to local firms (Findlay, 1978). On the other hand, FDI may crowd out local enterprises and have a negative impact on economic development. Hanson (2001) considers that positive effects are very few, and Greenwood (2002) argues that most effects would be negative. Lipsey (2002) concludes that there are positive effects, but there is not a consistent relationship between FDI stock and economic growth. The potential positive or negative effects on the economy may also depend on the nature of the sector in which investment takes place, according to Hirschman (1958) that stated the positive effects of agriculture and mining are limited. When multinational corporations enter different foreign markets it is market failures that...

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European Journal of Interdisciplinary Studies [16]. Kojima, K., Osawa, T. (1984): “Micro and macro-economic models of foreign direct investment”. Hitosubashi Journal of Economics. [17]. Lipsey R (2002), “Home and Host Country Effects of FDI”, Lidingö, Sweden. [18]. Mundell, R A. (1957): “International Trade and Factor Mobility,” American Economic Review, Vol. 47. [19]. Smarzynska, B (2002): “Spillovers from Foreign Direct Investment through Backward Linkages: Does Technology Gap Matter?”Mimeo, World Bank. [20]. Vernon R. (1966), “International investment and international trade in the product cycle”. Quarterly Journal of Economics 80, pp. 190-207. [21]. Website:
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