The role of FDI in economic development

Abstract

This paper deals with two questions: First, what are the determinants of FDI? Second, what is the role of FDI in economic development? In order to provide some answers to these questions, we draw upon the existing theoretical and empirical literature as well as insights derived from five country studies that we have conducted. Important location advantages include a stable social, political and economic environment, liberal trade policies, and geographical proximity to large and growing economies. On the host country effects of FDI, we conclude that while FDI is not necessary to achieve economic development, the entry of foreign firms may play an important role in adding technology and competition to the host economies. However, Wwhen foreign firms compete with local firms in markets with imperfect competition, local firms will lose market shares and there will be an element of profit shifting to the favour of the foreign entrant. This problem is likely to be more important if foreign entry takes place in markets shielded from the competitive pressures of international trade.