Host Country’s Perspectives

FDI has pressurized governments to change their domestic economic policies for creating a suitable environment for foreign investors (Jensen, 2003). Government by providing tax incentives such as tax holidays, imposition of tariff walls (Raff & Srinivasan, 1998), lower corporate income tax rate (Klemm & Van Parys, 2012), and adopting various FDI promotional measures like SEZs, EPZs, and industrial parks (Chaudhuri & Yabuuchi, 2010; Wu, 2009;

Walcott, 2009) has helped in speeding up the economic growth of countries. Moreover, host country with good infrastructural facilities (Kang & Lee, 2007), high respect for human rights (Richards et al., 2001), and her political regime (Asiedu & Lien, 2011; Li & Resnick, 2003) also enhanced herself as attractive destination for FDI.

It can be said that host countries having abundance of favorable factors will help in draw in more foreign capital and lead to an increased FDI level in country. This raises proposition 2a as:

Proposition 2a: Favorable business environment and attractive incentives provided by host country’s government may facilitate the success of FDI undertaken by MNEs.

In support of the above stated proposition, a brief discussion on the significant determinants that will increase MNEs success in FDI is necessary. To pull in more foreign investment, government of host country will adopt various FDI promotional measures such as setting up several FTZs areas, will serve as an information and resource center for investors, helped cuts down information and communication cost as well as provides easy access to labor pools. To draw in huge amount of foreign investment such zones are connected to densely populated areas (cities) interlinked with good transportation and communication networks. For example, the affiliates of South Korean firms in choosing their location for FDI in China is being attracted to those regions approximated by economic zones, labor quality and transport infrastructure. This will have a positive influence on location decision of FDI (Kang & Lee, 2007).

Governments through provision of attractive incentives such as profit tax exemption, accelerated depreciation, investment tax allowance, and subsidy for investment costs, (Nam &

Radulescu, 2004), lower corporate income tax rate and longer tax holidays (Klemm & Van Parys, 2012) as well as concessionary tax rates (Tung & Cho, 2000) will attract foreign investors to invest in the country. For example, Buettner & Ruf (2007) found that tax incentives and statutory tax rates are important factors considered by German multinationals when choosing their location choice for FDI. Conversely, for transition economies tax incentives have no significant role to play in FDI (Beyer, 2002).

Most important of all the country’s ability to attract FDI is determined by the country’s regime, that is whether country is a democratic or autocratic will define the patterns of FDI flows. Democratic countries have the abilities to attract more foreign investments, as such countries can insure their investors by lowering chances of imitation through strong IPRs protections, and due to their high respect for human rights they are less susceptible to political outcries that are bound to arise in any business activities (Shannon & Robert, 2007). Due to the presence of large number of veto players in the democratic political structure, the democratic countries will provide more credibility to foreign investors as well as minimize political risk i.e.

tax and tariff rates (Yang & Cheng, 2008). However, the vast population and abundance of cheap skilled labor in democratic countries often lead to repression of human right, this is due to labor employed at a cheaper rate and restrained on MNEs oligopolistic or monopolistic behaviors. Thus creating a negative effect on the level of FDI in a country..

Due to rising environmental awareness several countries have tightened their pollution regulation policies against dirty industries that are normally present in unregulated economies that have opened their door to international trade. Such industries normally are not welcomed in countries with strict environmental laws, this is to protect the depletion of the natural resources of the country and instead dirty goods are imported from pollution haven industries.

For example, Kahn (2003) found that the U.S. has been able to provide her citizens with a clean and healthy environment due to import of dirty goods from pollution haven countries like the African countries.

From the above discussions it can be said that favorable business environment and

attractive FDI promotional measures provided by countries can help in increasing MNEs success rate in FDI.

The geographical location of host countries approximated by difference in time zones will create adverse affects on human, agriculture, business practices, country’s economic growth, communication and transportation networks due to distinct climatic conditions and they are also more susceptible to competition as compared with countries at distant time zones (Stein &

Daude, 2007). Time differencence has been considered as one of the driving force behind international trade besides other factors like taste, technology and endowments (Marjit, 2007) and in determining industrial trade patterns (Kikuchi & Iwasa, 2010) especially business service trade (Kikuchi & Marjit, 2011). Countries in close proximity would lower informational and managerial uncertainty, transportation and monitoring costs (Davidson, 1980; Wei, 2004). Thus distance does indeed affect international trade and unequal geographical distribution increase wage inequality (Ma, 2006).

The above discussions can be raised that geographical locations of countries will create conducive environment for FDI to take place as proposition 2b:

Proposition 2b: Host countries situated at pivot locations will facilitate the success of FDI by MNEs.

The motive of MNEs is to gain access to resources and markets for reaping the economies of scale and scope, and profit maximization. Due to rapid change in industrial trade patterns and consumer demands MNEs will choose industrial sites as per their requirements, this is irrespective of whether it is market or resource oriented. Therefore, countries with diverse economic and economic landscapes, suitable climatic conditions, population and manufacturing density alongside with good transportation facilities will attract more foreign investors and hence affect the overall business operations and firm’s performance. For example, Chadee et al., (2003) examined the location choice of foreign equity joint ventures dealing with service sectors in China found that normally business operations are located in large metropolitan cities due to the presence of advanced

infrastructure and technology.

On the whole, we can say that the geographical features of host countries will facilitate MNEs success in FDI by meeting their requirements as per their industrial activities.

It has been recognized that the driving force for MNEs to engage in FDI differs across countries, this is in accordance with the nature of the business activities and requirements of MNEs. For FDI to take place three conditions must be satisfied as stated in OLI paradigm by Dunning (1977). The location of economic activity is determined by two groups of factors;

the “centripetal forces” such as natural advantages of particular sites, market size, external economies, and pure external economies, while the “centrifugal forces” include market-mediated forces and non-market forces (Krugman, 1996, 1998). When undertaking FDI, MNEs need to consider factors such as market size, prospect for market growth, higher per-capita GDP growth, rapid infrastructural development, openness to trade, trade liberalization and high capital return (Wei & Liu, 2001; Asiedu, 2002).

Thus from the above literatures it can be seen that presence of needed factors in host countries will increases the chances of MNEs success when they endeavor in FDI. This raises proposition 2c as:

Proposition 2c: Host countries having abundance factors which are needed by MNEs are more likely to succeed while engaged in FDI.

The ability of host countries to attract foreign investors is determined by several factors that a country can provide. To draw in more inflow of capital, the government must be willing to open the country to international trade, this can be done by becoming signatories in international institutions under the GATT/WTO. Such agreements will serve as a channel for firms to undertake investment in a foreign country by acting as an export base, and by giving certain favorable treatment it will help bring in huge foreign capital inflow. Rapid increase in international trade has prompted government of various countries to undertake radical transformation of trade reforms such as change in pricing structure and introduction of new techniques.

Host countries approximated with abundance of resources, follow by large market size, GDP growth rate, and openness help draw in foreign capital. For example, Zhang & Daly (2011) in their studies on China outward FDI found that FDI, trade openness, market size and GDP growth rate are positively related with FDI, whereas resources are negatively correlated with FDI. Moreover, countries with high real per capita Gross National Product (GNP) and low deficit of balance of payment will also attract huge flows of FDI (Schneider & Frey, 1985). In addition, countries with large population density and resource availability will attract more foreign capital as firms can get labor at a lower cost due to huge supply of human capital and obtain available resources as per their requirements as well as large market size for marketing their products.

On the other hand, unstable environment in countries governed by high political risk, inadequate social capital, lack of business entrepreneurs, managers and cultural block towards private savings and investment are some of the barriers that have prevented countries in Central and Western Europe from attracting FDI due to high country risk and unfriendly legal environment (Harri, 2000). In addition, bureaucracy in countries alongside with high corruption level often deters level of FDI in the country (Bénassy-Quéré, 2007).

To summarize, it can be said that countries with abundance of favorable factors be it economic, social and political will attract greater amount of FDI, since they are in a position to meet the requirements of diverse groups of investors as compared with countries where due to certain obstacles will hinder promoting the FDI level of the country. On the whole, the success of MNEs is largely dependent on the country’s characteristics.

Agglomerations by generating a positive externality in local area and increasing productivity and profit of MNEs have been recognized as one of the important determinants in deciding FDI location choices. The presence of agglomeration economies will reduce the research cost of MNEs that seek to operate their business operations in the same place within a foreign country (Birkinshaw & Hood, 2000), it will also contribute to the economic growth (Monseny & Olle, 2012) as huge number of firms are attracted towards such areas that have a combination of both industrial clusters and agglomeration (Majocchi & Presutti, 2009).

From the above discussion, we can see that presence of agglomeration or clustering might facilitate MNEs’ success in FDI. This raises proposition 2d as:

Proposition 2d: The formation of agglomeration economies will facilitate MNEs success in FDI.

Agglomeration economies along with industrial development have a significant role to play while deciding location choice of FDI. The presence of such economies will help draw in foreign investors. Such areas interlinking the city’s core-periphery system with well diversified, comprehensive and interrelated system will enable firms to derive agglomeration benefits such as economies of scale, input sharing, infrastructure and manufacturing base and division of labor. Due to presence of intra-industry firms, it will induce firms to cluster and result in the formation of clustering activities. For example, Tuan & Ng (2004) found that agglomeration at core-periphery levels have affected the patterns of FDI flows in the nine Pearl River Delta economies that are in close proximity with Hong Kong.

Firms to reduce their transportation cost tend to relocate their industries in regions or areas with good infrastructure, and good communication networks, densely populated region, and abundance of resources. Moreover, due to frequent interaction with related firms, MNEs from related industries will get useful knowledge and information. For example, Takeda et al.

(2011) taking industrial structure of Yamagata in Japan found agglomeration of firms along the route 13 and Tohoku railroad signify the importance of transportation networks and inter-firm network as important determinant factor for FDI. Thus we can see that, gaining the benefit of economies of scale due to the presence of agglomeration economies will have a positive impact on MNEs foreign investment level.

On the other hand, presence of agglomeration economies will result in negative network externality like increased congestion cost due to increased traffic flows in surrounding areas followed by increase in labor cost, land prices, scarce resources in the input markets as well as in the final market. Due to close proximity with firms from related industries, there is high chance of technology being imitated by rival firm’s leading to knowledge and technology

spillovers. Moreover, clustering or agglomeration will enable employees to switch job within the same sectors. For example, Freedman (2008) revealed that clustering in software publishing industry will result in frequent change of jobs due to salary structures which is low at the beginning but becomes higher once the employees gain more experience. This signifies a negative impact of agglomeration on MNEs due to presence of diseconomies of scale.

Overall, it can be seen that presence of agglomeration economies along with industrial clustering helps in determining MNEs success in FDI.