Foreign direct investment (FDI) is viewed as a major stimulus to economic growth in developing countries. Its supposed value as a way of dealing with shortages of financial resources as well as shortfalls in technology and skills, has made it a centre of attention for reform-minded policymakers, especially in low-income countries. Even so, only a few of the latter have been successful in attracting significant FDI flows. The study outlined here reviews recent evidence on the scale of FDI to low-income countries over the period 1970-96 and lists the major factors that clinch decisions by foreign companies to invest in a particular country.

Chief findings of this investigation by Ana Marr, Research Fellow at the Overseas Development Institute, were as follows:

• Over the past 25 years, foreign direct investment in low-income countries has been highly concentrated in three countries: China, Nigeria, and India. Large market size, low labour costs and high returns in natural resources were among the major determinants of this choice of countries.
• New major destinations for FDI flows in the 1990s include Vietnam, Ghana and Bangladesh. Given the easier access to their markets floolowing liberalisation, motives for investing in these economies are mainly determined by low cost of labour and high availability of natural resources.
• For the vast majority of low-income countries, foreign direct investment is minimal. The structural weaknesses of their economies, the inefficiencies of their small markets, their skills shortages and weak technological capabilities, all tend to depress prospects for profitable returns on investment.

These factors make it less worthwhile for potential international investors to incur the costs of a serious examination of local investment opportunities. The financing requirements of economic growth in these countries are therefore unlikely to be fulfilled by private capital inward flows. Until these constraints on investment potential are eased, low-income countries are likely to continue to rely heavily on receipt of foreign aid. Some suggested measures are:

• Countries wishing to attract FDI should become more 'open', e.g. through growth in exports
• Small national markets should consider opting for more regional integration
• Governments should improve their law enforcement record, and raise accounting standards
• Governments should enable the provision of good business operating conditions and transport
• Countries can benefit from investing in skills training, especially of engineers and technical staff.

Source(s):
1. Private Capital Flows to Sub-Saharan Africa: An Overview of Trends and Determinants, World Bank, Battacharya, A., Montiel,P., Sharma,S. (1996)
2.The Distribution of Foreign Direct Investment in China, World Bank Policy Paper #1720, Broadman,H. and Sun, X. (1997) Full document.
3. Foreign Direct Investment Flows to Low-Income Countries: A Review of the Evidence, ODI Briefing Paper 1997(3), September Full document.

Funded by: Overseas Development Institute (ODI), UK (1997)

id21 Research Highlight: 1998-June-02

Further Information:
Overseas Development Institute (ODI)
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Tel: +44 (0) 171 393 1600
Fax: +44 (0) 171 393 1699
Contact the contributor: publications@odi.org.uk

Overseas Development Institute, UK

Other related links:
How Can Sub-Saharan Africa Attract More Private Capital Inflows? > by Battacharya, A., Montiel,P., Sharma,S.