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THE POLITICAL ECONOMY OF FOREIGN DIRECT INVESTMENT AND ITS
EFFECTS ON DOMESTIC INDUSTRIES
1.0 Introduction
FDI stands for Foreign Direct Investment and it has historical background of not
only prolonged but also a rather early its starting date. Several economists address the
effects of FDI at both the macro- and microeconomic level, trying to reveal the
relationship between FDI and the economies of the hosting countries (Alfaro, 2017). FDI
performs a pivotal job in ventilating cross-border capital flows, technology transfer, and
knowledge spillover that are of crucial importance as fundamental factors of economic
development and growth empowerment (Buckley et al., 2018). Furthermore, FDI has
grown into an important factor for competition and innovation in the international market
with the way MNCs and domestic companies compete and behave strategic nowadays.
The FDI contributes to social and politic abundance of host countries not only in
economic terms but in political ways too. Major foreign companies are sort of
universities of economy that stand not only for capital improvement but also for
managerial expertise, technology and all in one worldwide best practices. Locally, these
signs do modernization and upgrading of the local industries (Caves, 2016). As an
aside, FDI can work as a catalyst that brings job creation, skill development, and
infrastructure development to host communities (UNCTAD, 2020). In this way, it fosters
overall prosperity and rising standards of living in host communities. Though FDI is a
powerful agent of national growth, it is conditioned upon the quality and openness of the
home country's institutions, the nature of the regulatory framework and the absorptive
capacity (UNCTAD, 2020). The role of foreign direct investment has taken a more
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integrated position in the international trade flow and also investments through the
formation of the global value chains which play a vital role in the global value chain
(UNCTAD, 2020). Transnational corporations frequently undertake FDI to access new
markets or take advantage of their relative competitive advantages by leveraging a mix
of strategic sourcing and outsourcing arrangements (Cunningham, Buckley, and splane,
2018). Indeed, FDI has now gained for firms a strategic instrument to enlarge their
market space, to protect from risks and to raise their competition in the global interlinked
economy provided that their economic facilities are improved (UNCTAD, 2020).
Host Nation Investment, or foreign Direct Investment (FDI) in short, is a prime
source of power for local companies, presenting both opportunities and challenges for
the modern global economy. By contrast, entry of foreign direct investment could be a
catalyst for investment, job creation and productivity increase as well as a key factor of
international competitiveness of local industries (Davies & Desbordes, 2015).
Transnational market operations often introduce state-of-the art technologies,
professional management, and global communication channels that can be instrumental
in domestic industry production upgrading and innovation (Alfaro, 2017). It is true that
there are doubts because of the possible bad consequences of FDI for domestic
industries, for example the increased competition, market concentration and resource
depletion (Buckley et al., 2018). First, its effects on the local sectors are conditional to
several factors, namely, the institutional set up, regulatory environment and the
domestic industries that play a role in this process. The interconnection of FDI and the
existing industries is impacted by the complicated process, which could be different
among the industries and countries. In some cases, FDI enhances as a means for
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technological diffusion and knowledge transmission, providing companies with a chance
to increase their technological standards and managerial expertise. This may result in
productivity gains, upgrading of skills and enhanced global competitiveness in sectors
where competitive advantage of the domestic industry is absent. Yet, it might be the
case that in concentrated industries with lack of competition, FDI inflows can contribute
to the intensification of the already existing inequalities and eventually undermine the
well-being of native producers (Buckley et al., 2018). Intitial government policy oriented
towards the promotion of innovation, skill development and technology adoption can
function as a virtuous circle of spillover effect from FDI to the local firms (Alfaro, 2017).
However, a weak government, intellectual property protection incapacity, and regulatory
impediments are a threat to domestic industries’ absorptive capacity, which may
hamper the advantage of FDI inflows (Davies & Desbordes, 2015). both FDI and the
benefit of foreign direct investment is very clear that the domestic industries will be able
to enhance their competitiveness and innovation level, but it still brings some challenges
that need to be addressed properly through efficient policies and regulatory measures.
Political economy of the FDI has been identified with a simple chaotic play of
economic, social and institutional dynamics. Government throughout the world are
concerned with the conflicting objectives of 1) attracting FDI to the point where it will
become a net positive value added for the country and 2) safeguarding domestic
industries and inclusive growth (Davies & Desbordes, 2015). Implementing good policy
in this case demands a diagnostic approach to the politico-economic environment
guiding inward and outward FDIs and their implications on trade, capital, and labor
market structures as well (Alfaro, 2017). As to the future research agendas, these
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should go upon looking into numerous components of FDI being driven by key
questions, such as its different impacts, policy implications and globalization implication.
The root of the political economy FDI argument is the contradiction of the economic
goals and the country independence awareness. Governments often have the goal of
FDI inflow do to stimulate economic growth, increase the number of jobs and provoke
tech advancement (Davies & Desbordes, 2015). Nevertheless, they are always faced
with domestic firms protection from other countries, preserving cultural identity as well
as maintaining control over natural resources and strategic controls. This balancing act
requires policymakers to undertake the complex venture of equally accommodating the
variety of challenges in a wide array of areas and various interests with an intention of
sustaining the environment that is conducive to foreign investment. Consequently, the
global and regional dynamics such as the trade agreements negotiated, investment
treaties concluded, and geopolitical implications have major influence on the political
economy of FDI as well. The global financial institutions, including the World Trade
Organization (WTO) and the European Union (EU) among others, amongst other things,
are responsible for the making of the rules and norms which guide foreign investments
(Alfaro, 2017). In addition to geopolitical tensions and competition among states over
the allocation of FDI, the importance of bilateral relationships between countries and
their investment decisions is also a potential factor contributing to the flow and direction
of FDI.
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2.0 Foreign Direct Investment (FDI) is one of the most dynamic elements in the
global economy
2.0 Definition and pretty clear traits
FDI stands for Foreign Direct Investment and it is the major force in the area of
globalization with its being specific and having the unparalleled significance for global
economy. FDI implies the acquisition or the opening of a business in a foreign state,
where the investor obtains a significant part of management and decision-making or it
means owning or starting a business in a foreign country, where you control the
company's managerial processes and decisions. Such form of investment distinctively
from portfolio investment, because it comes with a long term commitment to foreign
markets and often more capital, technology, and managerial know-how transfer (Görg &
Greenaway, 2004). FDI involves in the transnationalization of production and trade. It
enables firms to broaden their customer base, capitalize on foreign markets, resources,
and a strategic position in the global trade context and, therefore, the firms become
more competitive. The multinationals corporations (MNCs) are in foreign markets to set
up the subsidiaries, joint ventures or even wholly own enterprises through which they
can make use of their comparative advantages to reap the benefits of economies of
scale, scope, and location (UNCTAD, 2020). This provides them with an opportunity to
expand their sphere of production, reduce production costs, and to reach new
customers thereby creating a niche market for them, which enhances their revenue.
Additionally, FDI s a key driver behind sustainability and poverty reduction in host
countries implying job creation, accompanying skills development, and spurring
economic growth (Alfaro et al., 2004). MNCs make a significant effect on the lives of
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local communities by their participation in infrastructure, human capital, and social
welfare projects. Such capital and human capital development contribute to the quality
of life of local communities and social mobility (OECD, 2019). On the other hand, the
effect FDI has on the social and economic structure of a country is influenced by other
factors which include, the host country’s institutional environment, policy framework,
and capacity to absorb changes (Buckley et al. 2020). Consequently, an environment
for FDI, which is characterized by sound governance, investment friendly policies, and
efficient institutions, must be fostered for attaining maximum developmental impact and
to have the growth that will be inclusive, and hence in the highly globalized world.
2.2 Reasons for doing foreign direct investments.
The main motivation for FDI comes in different shapes that are shaping the
strategic interests and investment agenda of MNCs and investors. An important factor
to be taken into account is gaining market access by seeking after, efficiency is another
essential factor by seeking after and resource seeking are other factors that should be
taken into consideration (Javorcik, 2004). When the FDI is market-oriented, this means
that the first motive for starting the foreign direct investment is to increase the number of
customers and sales. This approach is frequently used speculatively to take advantage
of the growing demand of developing markets, attract new clients, or avoid economical
risks related to high market presence and a slowdown in home markets. Efficiency-
oriented FDI may be interpreted as an attempt at the reduction of costs by means of
production efficiency, outsourcing or re-allocating production to low-cost countries
(Havranek & Irsova, 2011). Through capitalizing on the currency advantages, which are
manifested as low labor costs, beneficial regulations or tax incentives in the host states,
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firms try to efficiently carry out their production processes and improve competitiveness
in the global markets. Efficiency-seeking FDI in industries which are usually
characterized by labor-intensive production like textiles, electronics, and manufacturing
is very common. While greenfield-zone-seeking FDI consists in investing in a new
production base, acquiring infrastructures and labor force, and gaining market access,
resources-oriented FDI, for its part, consists in acquiring the strategic resources that
may be rare or unavailable in the home country, so that it gains a competitive
advantage and a value proposition (Görg & Greenaway, 2004). Mineral-rich and energy-
rich countries try to attract investments. Therefore, these countries in search of
resources becomes a central area of interest for investors. The provision of required
inputs or the establishment of proprietary technologies by the companies allows
solidifying their market position, operational resilience, and timely exploiting the
emerging opportunities in the global value chains. motivation of FDI represents a
contingent factor, which is determined by the permanent change of market dynamics,
competition dynamics and dominant strategic directions of firms in the world economy.
Therefore, those policymakers, investors, as well as companies should quite
understand this problem, that is, motives of international investment that all the
stakeholders are about the complexities of FDI on economic growth and development.
2.3 Foreign direct investment tendencies on the global scale
Global trends in FDI are influenced by changes in economics, politics and
technologie that shape global business conditions and drives. It has been observed
recently that international direct investment flows have escalated significantly, a
phenomenon attributed to trade and investment regulatory liberalization, developments
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in information and communication technologies, and the globalization of value chains
(Driffield & Jindra, 2020). The rise of developing countries as an alternative base for FDI
mainly stems from their rich natural resources, viable consumer markets, and favorable
regulatory regimes. Nevertheless, the FDI structure may vary from the region to region
and pressures from different industries, which is mainly due to factors like market size,
infrastructure development, labor costs, and political stability (Javorcik, 2004). In the
past years, we have witnessed a transition of FDI attention to sectors with a service-
oriented nature, like finance, telecommunications, and business services, trending up,
as the global economy is changing, becoming more knowledge‑based and digitalized. In
particular, transition of emerging markets as both destinations and sources of FDI has
redefined the geography of FDI flows, and China, India and Brazil have emerged as
central players in this respect (Havrankova, & Irsova, 2011). Secondly, the growing
significance of intra-firm trade and investment within multinational corporations is
another factor which has contributed to the intricate process of reallocating the
production a broad spectrum of borders and demand for cross-border investment.
Comprehending these tendencies is a crucial element for policymakers, investors, and
organizations involved in the process of FDI who try to draw ebenefits and keeps tabs
on the hazards and problems of the industry. The changers in FDI patterns and their
drivers can be recconized and set of strategies for enhancing competitiveness,
innovations and sustainable development can be built.
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3.0 Political and Economic Factors
3.1 The policies of the government and regulations.
Political and economic factors pretty determine the environment where foreign
direct investment is being formed and its effects on developing countries. The
government policies and regulations are deemed heavyweights in the overall
assessment of a country as a preferred investment destination (Jude & Levieuge,
2017). Trade deals and the ensuing removal of trade barriers may spur FDI attraction
through raising the level of competition, lowering entry barriers, and increasing market
access for foreign enterprises (Kim, 2017). Furthermore, the GDP growth rate strongly
influences the inflow of foreign direct investment (FDI). Additionally, other policies that
focus on facilitating business operations, protecting property rights, ensuring contract
enforceability create the right business environment that reduces uncertainty and
encourage foreign investment. The stable political environment allows political
uncertainty to disappear. Expropriation is the only threat to the country. In this case, the
risk of the country is lower, thus it becomes more and more appealing to the foreign
investors (Jude & Levieuge, 2017). Strong institutions which support the rule of law,
have a property rights regime in place and operate in a transparent regulatory
environment increases the confidence in investors and encourages investors making
long-term investment in developing countries. On the other hand, political instability,
widespread corruption, and poor governance systems tend to undermine inflows into
FDI and hence curtail economic growth and development (Moran, 2015). it is
indispensable for the functioning of the economy and for attracting the FDI including
factors like low inflation, sustainable fiscal deficits, and stable exchange rate (Kim,
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2017). Macroeconomic policies, especially which are consistent, they convey
investment signals to the investors that the country is committed to maintain business-
friendly environment and reduce investment risks. Moreover, advanced human capital,
good infrastructure, and capable financial resources attract foreign direct investment
into developing countries (Jude & Levieuge, 2017). Transnational investment involves
not only capital flows but also transfers of technologies and managerial skills. Therefore,
countries that engage in policy reforms, improve institutions, and maintain
macroeconomic stability are more likely to attract these flows, stimulate economic
growth, and improve their prospects of development in this global environment.
3.2 Trade agreements and opening of the market areas.
Conclusion about removing the trade barriers, trade agreements and the opening
of the market areas affect the way international trade and investment are conducted.
They are the agreements with bilateral or multilateral character between countries that
are designed to eliminate all the barriers for trade and encouraging economic
cooperation (Bagwell and Staiger 2002). Through the implementation of policies,
including tariff reductions, quotas removal and other trade barriers, these agreements
facilitate the movement of goods, services and capital across borders, where
businesses can develop further by entering new markets and benefiting from the
expansion of consumers. In addition to this, trade agreements frequently put various
provisions in place to advance intellectual property rights protection, investment
safeguards, and conflict resolution mechanisms which provide an environment to
resolve trade-related disputes and protect the interests of investors (Sauvés & Shingals,
2015). It further encourages mutual recognition of each other’s customs to achieve
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regulatory convergence, and the harmonization of a business environment to create
greater transparency and predictability. The purpose of these treaties is to put across
concrete encumbrances and general expectations governing trade and investments that
will now be followed and thereby reduce the level of uncertainty in business and the
risks associated with it, thus inducing more cross-border business activities and leading
to economic growth (Bagwell & Staiger, 2002). Beside the trade and investment
facilitation, the trade agreements can also be approved to wider economic issues
including job market growth, innovation and economic development (Hoekman &
Kostecki, 2009). The possible effect is that these agreements create an environment
that is competitive and more efficient hence, they spark productivity gains and they drive
the latest technological advancements which results in higher economic prosperity
(Baldwin and Evenett, 2009). Also, they may support the world economy by stimulating
country specialisation and resource allocation depending on their comparative
advantage, thus directing certain countries to increase production and maximize the
economic efficiency (Melitz & Redding, 2015).
3.3 Economic stability and prosperity
Political and economic forces are implied as crucial factors which cause the FDI
environment and its impact on emerging economies. The governmental policies and
regulations that the country has are the key drivers to consider when making investment
decisions (Jude and Levieuge in 2017). Trade agreements and a liberalizing trade
regimes promote FDI flows by reducing the barriers to enter the markets, boosting
competition, and fostering market access for foreign investors (Kim, 2017). Moreover,
policies designed to improve the doing business environment, property rights protection
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and contract enforcement can be instrumental in creating favorable investment climate,
where institutions guarantee safety to investors hence commitment and self-confidence
(Moran, 2015). Also, political stability and governance quality are the key factors that
constitute attractiveness of FDI (Foreign Direct Investment). Among the factors that
lower the risk of expropriation and uncertainty arising from policy changes, stable
political environments enjoy a special place. Good institutions that manage the rule of
law, secure property rights and give clear regulations tighten investor confidence,
hence, making them to invest in developing countries for long term. Meanwhile, issues
such as political instability, corruption, and weak governance, which may potentially
affect FDI inflows, can lead to slowed economic growth and the loss of potential
development prospects (Moran, 2015). macro-economic stability, which encompass
important factors such low inflation, manageable fiscal deficits, and stable exchange
rates, is paramount in attracting and maintaining investor's faith (Kim, 2017). The
enactment of sound macroeconomic policies will be an indicator to investors that
country in question is set to maintain an accommodating business environment and that
the risks of investing in such a country are minimal. Furthermore, highly skilled
workforce, quality infrastructure, good financial markets, and macroeconomic stability
are normally found in countries that work hard to attract FDI (Jude & Levieuge 2017).
Countries with good policies, institutions, and macroeconomic stability, are more
conducive for attracting FDI to spur economic growth and development as the world
becomes a global village.
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4.0 Impact on Domestic Industries
4.1 Competition and market force.
Competition and momentum of market forces could be considered as two key
issues relating to foreign direct investments and their influence on domestic sectors.
But, when multinational corporations set their eyes on local markets, they usually bring
with them high-technology, managerial sophistication and access to global sources,
which may trigger the industry's competition locally (Naughton, 2014). The increased
competition in turn may serve as an incentive for the local enterprises to step up their
level of performance, diversify and improve their products, adopt the best practices and
maintain the market leadership (Ni et al., 2017). Further, the presence of foreign
companies can cause market dynamism and sequer see product differentiation,
diversification and expansion, and could end up positively affecting consumers via
increased choice and maybe with lower prices (Poelhekke & van der Ploeg, 2013). Due
to the FDI, the environment of business can become more useful and competitive
through the knowledge spillovers and technology transfer between the domestic and
foreign firms (Blalock and Gertler, 2008). When foreign companies introduce new
production methods,management practices , and product designs, the local companies
may also grasp the same new methods leading to a higher level of competition in the
same sector(Naughton,2014). Thus, through this technology diffusion and knowledge
exchange, innovations, production improvements and upgrading industries might arise,
leading to overall economic development and growth (Ni et al., 2017). However, unlike
FDI, the speed at which domestic firms can respond to competition and poor efficiency
is largely dependent on the size of the firms, and the capital accumulation of the SMEs
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is an important factor. The offshore enterprises may have more financial resources,
brand awareness, and industry of scale, and thus will be in a position to compete
against the local producers (Naughton, 2014). Not to mention that there could be issues
about equal market access for domestic enterprises or even intellectual property rights
infringement and predatory pricing by multinational corporations all of which might
hinder the growth and sustainability of local firms (Ni, et al. (2017)).
4.2 The transfer of technology and innovation.
The other phenomenon that affects the technology and innovation within the
domestic sector is the transfer of technology and innovation by the foreign direct
investors. 'Transnational corporations' mostly have advanced technologies, remarkable
research and development capability and unique knowledge which normally they use
with local companies, by means of joint ventures, licensing agreements, and technology
spillover (Naughton, 2014). This foreign direct investment and all of its attendant
elements can lead to the strengthening of domestic firms in terms of productivity and
product quality enhancement and, to some extent, innovation capacity (Ni et al., 2017).
The local industries can speed up on their competitiveness, accelerate their
technological development and integrate more actively in very complex value chains by
absorbing, assimilating and fostering the foreign technologies (Popescu 2014). In
addition, the knowledge spillovers from foreign investors create inviting environments
that boost local collaboration among firms, research institutions, and educational
organizations as they stimulate innovation ecosystems (Cantwell & Piscitello, 2015).
Collaborative cross-border research, technology partnership, and training are among
the best tools to boost local competence and personnel who will be future entrepreneurs
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and innovators (Popescu, 2014). The collective nature of technology transfer and
innovation in this partnership is the main factor that can be a catalyst for the generation
of new products, processes, and business models, as well as the stimulation of
economic diversification, job creation, and ecological sustainability in the host country
(Ni et al., 2017). Through FDI technology transfer and innovation in the domestic
industry are stimulated and hence productivity, competitiveness, and long-term
economic growth is assured. Developing nations may tap into the intellectual resources
and technological tools of multinational corporations as keys to technological
advancement, improved innovation facilities, and better integration into global
knowledge economies. Nonetheless, policy implementation and being institutional sides
are key in delivering tech transfer as an advantageous development for both foreign
investors and the local firms, as well as to promote an economic growth that is
sustainable and inclusive in nature.
4.3 Employment and work markets
The employment market and labor as the direct foreign investment drivers in the
national business is multidimensional and is largely affected by various factors. On the
other hand, a foreign-owned enterprise could be an employer of local people and has a
way of causing employment to increase and, hence, generate income (Poelhekke & van
der Ploeg, 2013). Foreign investors often look for manpower locally to maneuver their
subsidiary management, process, and operations. Hence, foreign investors will
contribute to the creation of vacancies and career advancements (Naughton, 2014).
Furthermore, multinational companies' existence may serve as a catalyst for learning
effect and human capital formation among local employees in their own right through
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trainings, transfer of knowledge and exposure to the best global practices (Ni et al.,
2017). Participation of local workers in global value chains and cooperation with foreign
partners can result in new skills, technologies, and management coordination which will
contribute in the long-term success of employees in terms of productivity and
employability (Poelhekke & van der Ploeg, 2013). Employment effects of FDI may differ
substantially based on technology intensiveness, labor market rigidity, as well as the
level contractual relationships with local producers (Ni et al., 2017). In sectors marked
by high level of automation, capital intensive production and labor saving technologies,
FDI can lead to job displacement or workers re-composition in the labour market
towards the higher qualified workers, namely the technical workers, managers and so
on compared with the low skilled workers (Naughton 2014). Besides, the role of foreign
companies in engaging themselves with local vendors and contractors is also critical in
ramping up labor market effects. In situations where multinational companies use
mainly foreign inputs and technologies as a main part of their internal operations, the
spillovers to the local economy such as job creation and skills development may be
small (Poelhekke & van der Ploeg, 2013).
5.0 Positive Effects of FDI
5.1 Growth in the efficiency and productivity.
Foreign direct investment (FDI) has therefore become not only an emerging
driver of economic growth but also an important source of upgrading domestically
available production processes. The mainstreaming of capital, technology, and
management practices by MNCs often leads to landmark advances in performance by
local companies; a fact that is well documented in numerous studies (Salim & Bloch,
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2009). Thanks to the extensive network of their international experts and other
equipment resources, MNCs can use latest production approaches, quality control
procedures and supply chain management systems which in turn uplift the productivity
level in domestic production. Also, FDI has a deterministic effect on local competition
that makes domestic firms to go on cost-saving, innovative practices and invest in
human capital development to compete on equal terms (Sánchez-Martín et al., 2014).
The foreign investors entering a country's market may well be thought to be the
benchmark that is set for performance and quality standards, thus encouraging local
firms to make efforts in order to achieve excellence and to keep on evolving their
processes This competitive environment thus induces a creative and dynamic
ambience, compelling firms, regardless of sector, to grow their output and improve
efficiencies. Likewise, the transfer of technology and knowledge from MNCs to host
companies through joint ventures, licensing agreement or technology spillovers also
contributes a lot in the production enhancement process (Salim & Bloch, 2009). With
import of such technologies, production methods and management techniques, the
domestic industries can also be doing things like optimizing their resource utilization,
minimizing wastage as well as enhancing output quality. Also, knowledge flow from
foreign investors can trigger learning-by-doing and skills-acquisition by local workers;
thereby creating more productivity enhancement. FDI has the role of efficiency and
productivity improvement within domestic industries as it brings the transference of
technology, which contributes to intensified competition and innovation. Through a two-
path process of incorporating efficient system from international enterprises into
domestic companies and considering foreign investment, domestic companies can
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enhance their competitive edge, penetrate international markets, and contribute to the
economy as a whole.
5.2 Opportunity to access a broader range of markets
Foreign direct investment (FDI) provides the local companies with the chance of
operating in a more diverse market. This can have varying advantages, mainly among
which are the growth and competitiveness. Joint ventures, purchases, or involvements
with MNCs come in handy especially for local companies when they want to leverage
global distribution and marketing networks, as well as customer bases (Seker &
Srinivasan, 2018). Such an extended market access in turn provides a possibility for
expanding sales channels, attracting new customers and eventually, getting rid of
relying only on home market. on the one hand, local firms may increase the
geographical retail scale and find different customers with a variety of tastes and buying
capacity. The international exposure leads to variations in product adaptation,
customization, and innovation to serve the specific needs of distinct markets (Seker &
Srinivasan, 2018). Moreover, the opening of international markets provides local
companies opportunities for achieving economies of severity and scale, as well as their
efficiency through raising sales volumes. Moreover, international developments bring
national organizations multi-state standards, the best practices, and innovations typical
in their target markets. This uncovers the learning process and knowledge
dissemination, whereby the domestic firms could upgrade their capabilities, classify their
product quality, and compete effectively (Seker & Srinivasan, 2018)). Another
advantage of partnership between MNCs and domestic firms is that this kind of
interaction may result in gaining from technologies that are proprietary, research and
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development potentiality, and intellectual property, thus building technological expertise
domestically. International inflows of direct investment help enhance market access and
provide an opportunity to international firms to expand their customers’ base, increase
market reach, and improve their exposure to global industry dynamics and best
practices. These opportunities can be capitalized with a chance of their enterprises
being more competitive, innovative and sustainable in the long run, just with the highly
interconnected global market.
5.3 Economic growth and development are a critical driver of poverty.
Investment in foreign direct (FDI) alongside economic advancement and growth
of national economies address the root of poverty, which is fundamental for ending
poverty. FDI in flows can boost economic growth with investing capital, fostering
innovation, and creating jobs (Salim & Bloch, 2009). The higher rates of investment and
the expansion of economic activities caused by FDI result in the country's GDP growing,
hence, due to the higher incomes and greater living standards that people can now
have, this is known as income effect. The distribution of foreign investment which is one
of the major sources of economic growth can be explained through its ability to enhance
the local markets demand. Local consumption is intensified as multinational
corporations may decide to invest or train their activities in a host country, and local
demand may grow in tandem (Salim & Bloch, 2009). This added demand can have a
significant multiplier effect in various sectors, which leads to higher rate of production
thus an improved business outlook and consequent overall economic expansion. The
development of an economy and increased productivity contribute to a higher number of
new jobs in different sectors which makes the unemployment rate go down and the
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income of people and households go up (Salim & Bloch, 2009). Employment creation,
especially in labor-intensive areas where many of the poor often have a tremendous
opportunity at finding stable income, access to social services, and opportunities to
improve their social status is a key part of fighting poverty. As a matter of fact, Foreign
Direct Investment yields great results in the economic growth and development that are
the stepping stones to getting rid of poverty. FDI concept, which stimulate business
activities, advances innovation, and generates jobs positively affect the livelihood
standards of people here and creates an overall well-being.
6.0 The negative impact of FDI is illustrative.
6.1 The International community is bound to get crowded by foreign firms
The case of the competition effect is that foreign direct investment (FDI) overruns
in the host countries such that foreign firms take over most industries key positions
which may be to the disadvantage of the domestic firms and diminish their growth
prospects. This endpoint could not only cause several disadvantages to the host
country but also the capital country. By and large, large multinationals may have an
advantage over smaller domestic businesses for two reasons. First, international
companies can often exert pressure on domestic business. Secondly, SMEs are far less
likely to compete with established, well-known multinational corporations because small
business may not have sufficient resources or innovative capabilities. (Tian et al., 2016)
International companies are usually Brian with larger amount of financial resources,
higher technologies, global supply chain from which they can take the advantage over
local investor. Therefore, local companies could be affected adversely in terms of
competing with their overseas counterparts, getting loans and equity, and zooming their
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businesses. Additionally, local companies’ could be pushed aside by the foreign firms in
key sectors that could result to a monopolization of market power which in turn could
lead to the concentration of economic power, reduction in market diversification and
innovation (Tian et al., 2016). The situation when one or several multinational
companies determines the most significant parts of the market, in other words, they can
do different things like influencing prices, setting standards, and limiting consumer
choice among others. This pooling of economic potential often smothers competition
and inventiveness, thereby preventing the development of a resilient, dynamic and
creative commercial structure. In some cases, the entrance of foreign firms may make
the local regulations and facility confront with the problem of strain, which could lead to
the problems for both governments and the local businesses (Tian et al., 2016).
Regulatory agencies, though they may have a hard time enforcing regulation on foreign
firms, which are usually operating in the industries where the regulations are strict or
highly complex. Moreover, demand for infrastructure covering transportation networks,
utilities and telecommunications may increase the existing infrastructure systems and
lead to traffic congestion, service disruptions, and business increase in operational
costs. It could be the case that authorities will be introduced regulations that will help
protect homes, ensure competition and improve operational systems as a way of
curbing negative effects of the crowding out effect.
6.2 Profit repatriation and current account balances
Gain lending is considered as the process by which multinational companies
(MNCs) transfer earnings accrued in a host country back to its home country. Profit
repatriation is an option for MNCs to reward investors and make use of their profits for
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domestic investment. However, this policy significantly affects the current account
balances of host countries resulting in deficits. If multinational enterprises (MNCs)
transfer their profits back to their home countries, it may cause capital outflows from the
host country and negatively impact its current account balance (UNCTAD, 2020). The
current account balance, which represents the balance between the total amount of
exports and imports of goods and services, as well as net income from abroad and net
transfers(as a whole) of a given country, is shown in the remittance. A large reparation
of profits can represent for the foreign investment revenues created by host country
more than the current account balance deficit, thus establishing that the country is
spending more on imports than on external obligations and exports. A prolonged trade
deficit may bring about the number of difficulties and limitations to the host country's
economic progress. First, it might make it problematic for a country to fund its imports
particularly when it overdepends on external borrowing or depletes its hard currency
reserves to fulfill its import needs. This causes the country's external position to become
weak and increases its fragility to actions that occur beyond its borders, such as
changes in exchange rates or global market conditions. Moreover, a declining current
account balance will affect domestic capacity to pay the principal and interest of its
external debt since it will be less capable of generating foreign exchange earnings to
make such payments.This can be achieved by introducing more regulations or incentive
programs which would urge foreign firms to re-invest their profits in the host country.
6.3 Social and environment consequences
The repercussion of the FDI on society and environment offers complex
challenges which require proactive intervention and strategies to be implemented. FDI
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can have a number of economic effects, such as creating jobs, stimulating infrastructure
construction, and encouraging technology advancement (Wang et al., 2012).
Accordingly, with the merits come the possibilities of risks and intense negative effects
on people living the host communities and environments. Undoubtedly, labor
exploitation and human rights infringement are the prominent difficulties in debt to
foreign direct investment. The companies of the large multi-national corporations,
working in the host countries, bypass the local workers welfare and put their focus on
profit maximization. Besides this, the result of such situation leads to unsafe working
conditions, low wages along with the violation of the labor rights (Wang et al., 2012).
These treatments not only have negative effects on workers, but also multiply the social
disparities and upsurge in labor disputes, which, in turn, deteriorate social integrity of
the communities in question. In addition, domestic market business disruption becomes
prominent due to the entry of the foreign firms into these local markets. Thus, the
traditional livelihoods, cultural practices and social structures get affected. Therefore,
foreign investors' involvement can fuel unrest and disputes inside the host community
whereby these responses can be a feeling of resentment and forced displacement
(Wang et al., 2012). Moreover, an effect of the influx of foreign workers hired by FDI
projects involves public services and infrastructure that may be often overwhelmed, and
which consequently lead to inequality in the community and undermining social
cohesion. Environmental factors are also very likely to get worse because of the
economic activities that are FDI-driven. Environmental contamination, pollution, and
habitat destruction may happen. Large transnational enterprises may practice uneco-
friendly mining for minerals, deforestation, and industrial pollution that ultimately make
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natural resources run out, biodiversity to vanish, and the eco-system distorted (Wang et
al., 2012). These social and environmental problems demand a multi-faceted strategy,
and that is what can be obtained through a collaborative effort among the government,
civil society organizations, and private sector. As the first initiator and principal actor,
governments should design the rules and regulations to safeguard labor standards,
support sustainable growth and prevent environmental problems arising from FDI.
7.0 Case Studies and Examples
7.1 Success stories of FDI
The gleaming effects of FDI in economic development are manifested in the
rising economies and emerging markets. In 2018, the report by the World Bank Group's
Global Investment Competitiveness noted this crucial function of FDI in boosting growth
and innovation, pinpointing the role which FDI played to enhance industrial
transformation. The case of China, where foreign direct investment has performed as
the main instrument fostering the technology transfer and the spillover of knowledge,
and hence, the productivity and the competitiveness of the local companies (Xu &
Sheng, 2012) is striking. Those foreign direct investments into the Chinese
manufacturing sector has brought many advantages to Chinese enterprises including
the provision of new capital and skills for upgrading production processes and improving
product quality (Zhang, 2015). It brought about a substantial increase in the
manufacturing sector of China to the point of exporting inexpensive products globally.
The cornerstone of this surge was higher export competitiveness that resulted in
increased market shares and foreign exchange earnings. Beyond China, there are
some other countries with a relevant progress in which the flow of FDI contributed to the
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economic acceleration and industrial development. For instance, India, Brazil and
Vietnam are three countries that received FDI which has propelled technology
development, innovation and job creation in manufacturing and many other sectors over
the years (UNCTAD, 2019). By way of instance, multinational companies having
investments in Indian information technology industry have not only increased the
nation's export trade but also promoted skill development and human capital formation
(Kedia & Mukherji, 2012). This is also true for Brazil, where FDI has recently been the
key factor in modernizing infrastructure, creating new manufacturing capacities, and
developing industries for export (Smarzynska & Wei, 2001). These companies,
however, illustrate this factor by which foreign direct investment (FDI) acts as a game-
changer for economic transformation.
7.2 The hurdles industrial face
Showcasing examples of Foreign Direct Investment (FDI) foregrounds FDI
feasibility as a tool to transform the economy, notably, in developing economies. The
country's development competitiveness is the Security for the World Bank (2018) is
highlighted by the role of foreign direct investment (FDI), promoting growth and
innovation and contributing to the industrial transformation. China inspires as a model
case, and the role of FDI in facilitating such processes as technology transfer, spillovers
of knowledge and productivity and competitiveness of domestic firms has been that of
critical importance (Xu & Sheng, 2012). FDI in China brought about considerable
benefits for the country's manufacturing sector through the acquisition of advanced
technology and capital by multi-national corporations to modernize their production
processes and boost product quality (as discussed by Zhang, 2015). Thus, export
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competitiveness of Chinese industries in manufacturing with the corresponding increase
in market share has been remarkable and the foreign exchange earnings have
improved too. Beyond China, there are cases that reveal similar outcomes in the
economies of other developing countries, due to foreign direct investments being one of
the main catalysts of these countries’ economic performance and industrial revolutions.
India, Brazil, and Vietnam, to name a few, have watched FDI soar and this in turn has
engendered technological advancements, stimulated innovation, and generated job
creation across different sectors (UNCTAD 2019). To illustrate, investment of
multinational companies in the second fastest growing sector of India, IT, has not only
helped the country to increase the amount of its export earnings but also to develop the
skills and build human capital (Kedia & Mukherji, 2012). Depending on this, similarly in
Brazil, FDI has been of great importance for developing infrastructure, extend
manufacturing sectors and finally, for promoting the export-oriented industries
(Smarzynska & Wei, 2001). Such success stories emphasize the FDI as a prized
instrument of economic growth, which in turn leads to the process of industrial
upgrading, enhanced international competitiveness and the emergence of the concept
of sustainable development in emerging economies.
7.3 The knowledge acquired from the lived tale
In the tales of successful Foreign Direct Investment (FDI) models, there are great
lessons to learn in terms of how they boil down to the processes of global economic
integration and development strategies. Through this the policymakers can find the real
working environment that helps them to create the conditions which are for easy receive
and retain of foreign investment. Take the case of governments implementing policies
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that have been proven to improve the investment environment, such as regulatory
reforms and the provision of infrastructure, which would attract FDI and lead to
economic growth (e.g. China (Xu & Sheng, 2012). This public policy makers could do by
introducing the same measures might however contribute to enhancing their countries
attractiveness for investment and bolstering the sustainable economic development.
Therefore, those stakeholders can also understand and borrow from successful
interactions between the foreign investors and different developers to improve on their
strategies as well. This could be manifested in different strategies: forming strategic
partnerships, blowing investments into research and development activities, and
bolstering workforce capabilities (Zhang, 2015). Through the studying of business cases
in which startups have overcome challenges or made good use of opportunities,
companies may learn how they can adjust their strategies of foreign direct investment in
order to increase their growth. Furthermore, these narratives educate people and in the
same way help to show the areas of danger as well as consequences of FDI. Through
such analysis where investments mark out their failures or face challenges, the
participants can determine the areas of enhancement and then develop the strategies to
reduce the risks (World Bank Group, 2018). Consequently, a systematic evaluation of
the case studies of both the winning and the failed FDI missions, can find out the main
reasons for foreign investors, policymakers, enterprises, and investors to have a more
clear vision of what they are actually looking for, and therefore, they can use that
information to develop the strategies to make profit for their home economy. Through
making use of these insights, the countries are able to place themselves in such a
position that brings forth foreign direct investment, innovation and competitiveness and
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with this, sustainable development is achieved in a global economic environment which
is interconnected.
8.0 Policy Implications and Recommendations
8.1 Striking a balance: FDI (foreign direct investment)
Balancing the support for the inflow of foreign direct investment (FDI) while
guarding the domestic industries is a very sensitive job which is an essential element of
the sustainable economic development. It contains the formulation of policies with the
consideration that they should attract FDI while ensuring they are not inappropriate
towards local business (Alfaro, 2017). One of the possibilities turns to be the provision
of specific incentives for FDI that create activities of benefit for national industries. The
offered incentives include transfer of technology, personnel development, and demand
for local manufacturing. The promotion of these practices will create a situation where
public authorities will support mainly, the interaction between foreign investors and
domestic entrepreneurs, and the result shall be that the parties can benefit from one
another's strengths. For the purpose, the regulatory framework is being considered to
have a big say in the process of the FDI effect on the national industries. Given that
these frameworks stand for the very purpose of minimizing the possible negative
consequences, free competitive environment and consumer protection must be their
cornerstones. By means of enforceable and transparent regulations the government can
help in making sure that FDI (Foreign Direct Investment) has a positive impact on the
eocnomic development and that unduly established businesses don't suffer or local
citizen's don't get harmed. Achieving the right alignment between attracting FDI and
emerging domestic industries while taking into an account the specific needs and
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circumstances of each country might demand significant efforts. Through the
implementation of programs focusing on responsible investment strategies and a
decrease in risks for the economy, governments can strengthen the economy and make
it more sustainable and developed.
8.2 Including local industries to compete favorably.
Local firms are the heart of an economy and should have positions for
themselves in the global value chain in order to strengthen their competitiveness and
resilience from interconnectedness. The governmental intervention significantly
contributes to the process of enrolment of local firms in the global supply chains, by the
means of policies that promote their participation, emphasizing the extent of MNC`s
presence, in order to enrich the functionality and capabilities of domestic industries
(Davies & Desbordes, 2015). First, investment should be made in programs aimed at
building the capacity and capabilities of local enterprises by providing necessary
support mechanisms. These programs can help businesses learn to embrace
technology adoption, quality management, and supply chain logistics hence enabling
the local firms acquire what they need to compete successfully as worthy players in the
global market. Furthermore, the government can use differentiated incentives to support
the innovative and investment activities in important sectors, as this can facilitate the
development of a competitive local industry (Duke & Desbordes 2015). Therefore,
developing partnership between foreign investors and local industries has to be a
priority agenda for the formation of a beneficial environment for sustainable economy
resources. This partnership can be done in several ways, ranging from joint venturing
and technology agreements to supplier development schemes The cooperation
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between multinational businesses and local companies can enable the latter to acquire
advanced technology, global networks and better practices which can lead to better
efficiency, quality, and brand awareness. Besides, foreign investors can acquire local
knowledge, skills, and networks that help them gain market insight and navigate the
local market / regulatory system (Davies & Desbordes, 2015). Overall, inclusion of the
local industry in the global value chain be ensured only through a joint effort from the
state and the private sectors. Therefore, the policymakers can help develop a win-win
situation providing a mutual benefit for foreign investors and local business owners by
strengthening them and the sustainable economic development.
8.3 Saving the environment and good governance
Environmental sustainability and good governance is vital for making policies for
foreign direct investment (FDI) in order to guarantee the achievement of economic
development in a relationship-sustaining way. Nations must strive to have the taxpayer's
money invested with objectives that not only are in line with the national development
goals (which include environmental conservation and ethical business practices) but
also in love with national growth (Alfaro, 2017). This implicates the reinforcement of
regulatory harmonies that will embrace the interrogation of environmental standards and
cap the concern with transparency and accountability in FDI management (Buckley et
al., 2018). Lastly, policy makers should be very keen on promoting responsible
investment practices which are well-oriented towards environmental protection and
social welfare, thus managing the negative impacts that common slum drainage pipes
often lead to. For the attainment of these targets, therefore, the policymakers should
basically interact with a big spectrum of actors, including local communities and civil
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societies, over the course of FDI project. These stakeholder groups can be brought into
the decision-making process, which in turn will be used by governments to implement
FDI projects in a way that is sensitive to human rights, preserves natural resources, and
furthers the goals of inclusive and equitable development (Alfaro, 2017). Moreover,
transparency and information distribution can be an effective tool for communities to
participate genuinely in decision-making processes, thereby helping them to articulate
their ideas, desires, and high expectations from investors. capacity-building initiatives
and knowledge-sharing programs can contribute towards creating the required skills
and experience among the officials of the national regulatory bodies to efficiently
manage and monitor FDI activities (Buckley et al, 2018). Governments can build both
capacity development in human capital and institution reinforcement as a way to
improve their ability to manage and regulate FDI activities to make sure they do not
hinder but to contribute positively to achieving the sustainable development goals. being
social responsible and keeping good governance in the FDI policy framework is
mandatory to attain mutually beneficial long term goals of foreign investment in view of
cancelling any possible negative impacts. Through assuming a dynamic and
participatory approach, the governments can be able to stimulate a responsible
investment conduct in which there is promotion of sustainable use of natural resources
and social welfare that leads to economic development.
8.4 Ensuring Technological Transfer and Skill Development
Technical innovation and technological exchange are the key and it is vital to set
a rule that they should be transferred to the host country by foreign direct investment. A
contribution from governments that is very significant lies within a field of activities that
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are engaging the foreign investors to spread technology spillovers and skill
development within the local workforce (Alfaro, 2017). One competent technique is to
formulate a joint research and development projects between foreign investors and local
corporations that could lead to the sharing and transfer of the established technologies
and innovative practices (Buckley et al., 2018). Likewise, technology transfer
agreements can be negotiated to formally facilitate knowledge and experience
exchange between parties, with a structured scheme for the diffusion of the technology
within sectors. In addition, governmental officials have to develop an environment which
facilitates the transformation of local workers' skills through such training programs as
foreign capital investments (Buckley, et al., 2018). Governments which offer training and
capacity-building opportunities for the local workforce can assure that the workers are
equipped with the requisite skills to adept to the use of the advanced technologies and
contribute meaningfully to the industrial growth of their country. For example, creating
the conditions for technology joint ventures and knowledge transfer between foreign
affiliates and domestic companies, generating innovation and boosting the local
industry's global competitive edge is an important element in this process. On the
whole, attracting foreign direct investments with the purpose of boosting innovation and
technology transfer to the country where these investments are taking place is a key
element on the path to sustainable economic development and competitiveness.
Through active promotion of policies which facilitate working together, innovating, and
workforce training, governments stand to utilize the most of benefits of foreign
investment, while minimizing downsides. At the end of it all, mix strategies that involve
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regulatory backing, investment amenities, and capacity-building initiatives is the key to
unlocking FDI as innovation, growth, and development engine.
8.5 Addressing Risks and Vulnerabilities
Governmental entities, in making FDI policies, should put a lot of emphasis on
realizing that there are potential risks and pitfalls which might end up causing problems
related to national safety, governance, and economy (Davies & Desbordes, 2015). The
first step involves the conduct of various risk assessments in order to determine every
possible danger and weak point emerging from foreign investment activities. The
scrutiny should be multi-faceted, incorporating cyber threats, geopolitical factors, and
the possible economic consequences. Based on the averages of these assessments,
policymakers can create respective policies to reduce identified risks and strengthen the
resilience of the economy to external shocks. There are various ways to be done, for
example, implementing regulatory safeguards and screening mechanisms to observe
foreign investment proposals and weigh their possible impact on national interests
(Davies & Desbordes, 2015). Among these tools are setting limits to investments in the
sectors considered to be strategically important, reviewing the acquisitions of the assets
of national significance, and increasing the transparency in terms of foreign investment
transactions. Through making regulatory bodies more powerful, governments will be
able to ensure that no foreign investment conflicts with the national development
objectives and does not undermine any critical sectors or infrastructure. Moreover,
policy makers ought to give priority to diversification strategies which can bring about
the reduction of the FDI and make the country to be resilient against external
vulnerabilities (Davies & Desbordes, 2015). Hence they for instance may imply focused
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efforts on domestic innovation, support to local industries and diversification of
investment and funding sources. Through the balancing inbound FDI flows from
external markets and the adoption as much external technology as possible countries
will be reducing their risks associated with FDI variability as well as mitigating the
external influence on the economy. an investment risk and vulnerability associated with
foreign investment should become an inherent part of FDI policymaking. Governments
shall have a dynamic strategy rather than a plan of a reactive type, and they need to
provide for foresight, regulations, and diversification in order to guarantee long-term
prospects of the national economy that is now more integrated than ever before.
9.0 Conclusion
In summary, foreign direct investment (FDI) has a central role in economic
progress on a global scale, with the effects reverberating to domestic industries and
countries' development objectives. The whole course of our talk has focused on foreign
direct investment (FDI), as we have understood what it is in the first place, and then
mentioned some advancing political and economic factors as well as its advantages and
disadvantages in terms of local businesses. There are the evidences that were provided
by Alfaro (2017) that FDI can be an importing factor that speeds up development
processes and bring about productivity improvements which are essential for a country
to continue growing. Further on, FDI gives the a chance for new markets layers and to
diversify the revenue routes (Görg & Greenaway, 2004). Such benefits signify indeed
the key role played in the policy area to create the necessary conditions to attract and
retain foreign investment.
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Furthermore, the coloration of the policies that provide benefits to both external
investors and local companies is necessary. While governments need to encourage
inflow of foreign investment to facilitate the national development, there is a need to
impose limits on foreign ownership to ensure that national interests are protected as
stipulated by the Buckley et al. (2018). This encompasses developing such conditions
as enabling environment that are investing attracting while at the same time minimize
the risks and vulnerability that come with foreign investments. Furthermore, policies
need to be oriented towards improving the competitiveness of local industries through
either taxation or issuing of grants for business innovation, skills development and
technological advancement (Davies & Desbordes, 2015). Through the establishment of
partnerships which pool exogenous (foreign) investors and indigenous (domestic)
stakeholders, governments promotes that FDI be an enabling factor for shared growth
and environmental sustainability.
As to the future prospects, it is paramount to examine the factor of future trend
and emerging focus areas of FDI activity. Along with global markets which keep
transforming, countries need to adapt to their policies and strategies in order to avoid
the loss of competitiveness and investment flight. This comes as a result of taking
measures regarding challenges which are emerging, such as geopolitical issues,
environmental sustainability and digital transformation(UNCTAD 2020). The government
must also choose a proactive strategy for incentiving FDI with its comparative
advantages in mind and attempting to remove structural constraints that will certainly
act as the barriers to the FDI inflows (Alfaro, 2017). Through implementation of forward-
looking regulations and an environment lending itself to creativity and entrepreneurship,
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countries can achieve the purpose of FDI while furthering the cause of economic
development, job creation and social change in the months and years ahead.
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