Among emerging economies, china is the biggest seeker of foreign direct investment as compared to Pakistan. The net inflows of Foreign direct investment in 2011 shows a big difference. It seems like a big elephant versus an ant. This result can be due to variation in determinants of FDI in both countries.
The purpose of this study is to reveal and to check the dependency of FDI with relevant to different variables and the extent of the variation in comparison of both countries. Besides the general variables that affects the FDI, this study will also elaborate the in depth analysis of variables categorized under six heads in both economies.
As literature review shows that some factors are now no more worthy to attain or to acquire a competitive position for seeking FDI, like labour cost in china as compare to Pakistan. From this study, we can get which variables are more related and affecting to FDI and which are least based on the analysis of the results and literature review.
This study will help investors to look deeply for investing in a country and also it is a synthetic study based on what researcher did in past.
Introduction:
According to World Bank, World Development Indicators: "Foreign direct investment are the net inflows of investment to acquire a lasting management interest (10 percent or more of voting stock) in an enterprise operating in an economy other than that of the investor. It is the sum of equity capital, reinvestment of earnings, other long-term capital, and short-term capital as shown in the balance of payments". In general term, Foreign direct investment (FDI) is the process in which residents of one country (parent or source country) takes the ownership of assets for the purpose of manufacturing, distribution and for other activities of a firm in another country (host or target country). This FDI can be in the form of equity as like in joint venture and also in non equity forms like, franchising, licensing, subcontracting and product sharing.
Investors do invest across the globe beyond their home country and it is based on a number of factors. It can be to get production and manufacturing benefits in a country, can be to get benefit from country strengths like low cost labour, skilled labour force and political conditions. On the other hand some investors want and like to enjoy the benefits of first movers in a particular economy. The best picture is described in knowledge-capital model by Carr (2001). Thus the capital flow in the form of FDI depends mainly on advantages of host country and on the motive of investment by investor. Worries about investment decision by an investor stem from the determinants of FDI and their behaviours. The FDI decision on the hand, hinges on the characteristics of a particular country or location and the level of investment.
More than half of the global FDI is gained by emerging economies as per World Investment Report (2011). FDI played a crucial role in economic growth of a country. Different countries have different policies aimed at to seek FDI, creating strong incentives for investors to get the FDI. But policy makers as well as investors, as (I.A. Moosa 2006) argued that what are the particular aspects and criteria to estimate the determinants of FDI in a particular country. It is essential to unveil the determining factors to understand well the behaviour, why some countries are better in seeking FDI inflows as compare to others and what are the generalized factors effecting FDI in an economy. To identify the best determinants of FDI ,a large number of studies has been conducted but no clear explanation came out at the acceptance of generalized set of explanatory variables that can be treated as a significant measure of determinates of FDI. Because of 1980 debt crises, developing countries looked at new sources to acquire capital and FDI was the good picture. Later on they realized it as good source against trade and opened the door with less barrier and more incentives to utilize it.
FDI give access of foreign technology to host country and build the shape of the economy and also it allows exchanging host country lbour, resources with parent firm country. So FDI offers more benefits to the host country and especially if the host country lies among developing one. As Lispy(1999) argued developing countries depends more on FDI as compare to trade. Developing countries are laggard in the field of technology and FDI is the best source to fill this gap within a small time. From this we can say that FDI give a host country more ways of financing, to prosper, to improve standard of living and also the movement of technology.
From the last two decades, the flow of FDI has changed towards developing countries like China, India and it is increasing day by day. Currently china is the second largest country that realized FDI as compare to whole world. As Sun (1998), Kamath, 1990, said that FDI helped a lot to become economically stable and to prosper, created more jobs, to increase exports, to improve labour skills and gave access to improved technology. Studies show a significant and positive relation of FDI and economic growth of a country and countries try to make good policies to seek more FDI ( Azam 2010 , Adhikary 2011). FDI not only provide capital to developing countries but also provide technology and employment to people (Mottaleb and Kalirajan, 2010). With the effect of china and Pakistan joined WTO, FDI enriched with more factors contributing to the economic and financial prosperity. Where it gave investors more opportunities to invest, it also created new factors that contribute to FDI determination in a particular area. It varies largely by location as from coastal areas to main inland areas and in special economic zones. As Pravin Jadhav(2012) gave answer of the question ,why FDI determinates are so important? Because they facilitate the decisions of policy maker as well as of the investor, and help them to monitor the flow of FDI.
FDI is realized mostly on the geographical, incentives offered by the government and sectoral basis, but to do so, it is not clear, are there any more factors that influence the decision. The decision based on these three dimensions will be good but it will not elaborate how one is doing and it will lack the big picture explanation of the decision. E.g. in case of the decision is based on geographic dimension, than the factors behind this decision can be labor cost or resources in comparison with home country to host country.
It is intuitive that FDI flow depends on the economical, environmental, infrastructural, human capital, trade and terrorism in a country. As the main purpose of this study is to reveal the main determinants of FDI. On the other hand we will check whether r factor change or remain same in a comparative analysis of China and Pakistan ,based on the assumption that factors will change due to the fact that china is second largest FDI seeker in the world and have different challenges in seeking as well stabilizing FDI as compare to Pakistan. As Bruce A. Blonigen 2004 concluded that factors that determine the level of FDI activity vary methodically across less developed countries and developed countries .With this, an analysis based on result will show us a better way to distribute the best as well as least effecting FDI determinant variables in both economies.
LETRREATURE REVIEW
A large number of variables have been studied that show a relation with FDI in the form of theories of FDI or either in the form of hypothesis to show a measuring sense of cause and effect relationship of determinants of FDI.
From the investor point of view, FDI is categorized into different categories depending upon the need of investment and situations in domestic as well as global market. Dunning (1993) describes FDI can be horizontal FDI, if its purpose is to server local and regional consumers by local production in a host country. This type of FDI ,result in exports alternatives in a host country and get benefit by reaching nearer to consumer markets in a host country. On the other hand vertical FDI, particularly as it occur in manufacturing sector in which firms Invest in other countries to get resources such as, natural resources, raw material, labour etc. that are not available in home country. These two types have their own importance and a number of factors affect the form of FDI in a particular country.
Recep(2009)argues that investor do invest in another country than home country on the basis of the type of project, host country environment and how investor can get benefit from it. In a good way of analysis of FDI within states of US Coughlin(1991) argued that investment decision is related with cost and profit and then the factors contribute more to these two make the way clear .if costs factors are high and show negative relation with FDI than investor will avoid to invest.
FDI results in both positive and negative effects on the economic health of a country as Graham (1995) argues that positive effects can be transfer of technology and improved standard of living. On the other hand it also generates problem that may be FDI will reduce the domestic firm's performance and revenue, and increasing the competition (Richard 2004) among industries in a country that eventually will again result in both negative and positive ways.
As Pravin Jadhav(2012) used different factors categorized into two dimensions and checked the effect of political and economical factors with FDI.As Chakrabarti (2001) concluded that FDI has a sensitive relation with many variables (wages, openness, tax, tariffs, growth, exchange rate)and literature is not clear in defining the determinants of FDI. Variables like (labor costs, trade barriers, trade balance, exchange rate, R&D, tax) have both negative as well as positive relation with FDI.
DTERMINANTS
RELATIONSHIP OF INDEPENDENT VARIABLES WITH FDI BUILT BY RESEARCHERS
Reasons for inclusion
POSITIVE
NEGATIVE
MARKET ECONOMICAL
GDP
Pravin Jadhav (2012)
Faik (2012)
James (2010)
Leitao (2010)
James B. Ang (2008)
Dr. Khondoker (2008)
Ying and Riming(2008)
Boudier-Bensebaa, F.(2005)
Qian Sun (2002)
Cheng (2000)
Love (2000)
Billington (1999)
Wang and Swain (1995)
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used as a measure of the market side of the economy
market size hypothesis
Inflation
Pravin Jadhav (2012)
Peter (2007)
Fayyaz Hussain(2012) Ali Al-Sadig(2009)
Recep(2009)
Erdal Demirhan & Mahmut Masca(2008) Yartey and Adjasi(2007)
Xiaoying li ( 2005)
Yang (2000)
Bajo (1994)
Schneider & Frey (1985)
measure of the rise in the price level of products in a country
POVERTY
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measure of poverty in terms of poor people in a country
ENVIRONMENTAL
CORRUPTION (CPI)
Peter Egger, (2005)
Ali Al-Sadig(2009) Dr. Khondoker(2008)
Voyer and Beamish (2004)
Habib M & ZurawickiL (2002)
Smarzynska(2002)
Wei (2000)
measure of corruption level in a country
BRIBE (BPI)
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bribe as a measure to get unfair benefits in a country
Trademark
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number of registeredtrade marks in a country
Industrial Design
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number of registered Industrial Design in a country
Patents
Qian Sun (2002)
STÈPHANE (1998)
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number of registered Patents in a country
Political Stability
Theo S. Eicher
(2012)
Zenegnaw A.H.(2010)
Schneider and Frey (1985)
Wang and Swain (1995)
Wheeler and Mody (1992)
Christian (2007)
measure of the ploitical condition in a country
Regulatory Quality
Pravin Jadhav(2012)
Christian (2007)
Hussain Gulzar (2006)
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measure of the institutional quality in a country
infrastructure
High-technology exports
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measure of the technology level in a country
internet
Dr. Khondoker(2008)
Changkyu Choi(2003)
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measure of infrasturcture in a country
Electricity production (kWh)
Imad(2005)
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energy production to attarct FDI and to be rich in infrastructure
Air transport
Coughlin(1991)
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measure of infrasturcture in a country
Roads, total network (km)
Sung Jin Kang(2007) Coughlin(1991)
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measure of infrasturcture in a country
Rail lines (total route-km)
Sung Jin Kang (2007)
Qian Sun (2002)
Coughlin(1991)
-------
measure of infrasturcture in a country
Telephone lines
Erdal Demirhan & Mahmut Masca(2008)
Imad(2005)
Recep(2009)
Xiaoying li (2005)
Dr. Khondoker(2008)
contribute to measure of infratsture of a country
human cpital
skilled Labor force
Christina Sakali 2013
Fayyaz Hussain(2012)
Ali Al-Sadig(2009)
Wenhui Wei(2005)
Imad(2005)
Noorbakhsh et al. (2001)
E. Borensztein(1998)
Harry (1997)
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Students in tertiary education as a percentage of total population, measure of skilled labour force in a country
UNEMPLOYMENT
Boudier-Bensebaa, F. (2005)
Coughlin(1991)
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measure of the availibility and free people in a country
reserchers
Tomiura (2003)
Qian Sun (2002)
number of researchers in a country as a measure of research and development work in a country
trade
EXCHANGE RATE
Anjum(2005)
Campa (1993)
Wang and Swain (1995)
T.Bhavan
(2011)
Rana Ejaz(2010)
James B. Ang (2008)
Glauco De Vita(2008)
Chakrabarti(2001)
Avik STÈPHANE (1998)
Blonigen (1997)
Real effective exchange rate
measure of the comparative economic activity between countries
EXPORT
Rana Ejaz(2010)
Peter (2007)
Imad(2005)
Wenhui Wei(2005)
STÈPHANE (1998)
Singh and Jun (1995)
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Represents the FDI-exports relationship
and the degree of internationalization
IMPORTS
Zenegnaw(2010)
Faik(2012)
Peter (2007)
Wang and Swain (1995)
interest rates
Xiaoying li
(2005 )
Yong Ting Aw (2009)
Wang and Swain (1995)
terrorism
major terrorist attacks
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Agrawal, Shivani(2011)
Mihalache (2010)
Abadie and Gardeazabal (2008) Blomberg and Mody (2007)
Enders and Sandler (1996)
ECONOMICAL
gdp is used a measure of market size by researcher and it is positively related to FDI (Wheeler and Mody 1992, Billington 1999, James 2010). If we held constant other factor, the larger the market size, the greater with the revenue expectation from an investment in a market and bigger will be the investment. On the other hand, larger market size enables an investor to achieve economies of scale and it results in lower cost and lower prices. In analysis of FDI determinants in central and eastern Europe, Resmini(2000) found that larger population size attract big size of FDI. Literature review showed that GDP has a positive effect on FDI and is used widely as measure of market size of an economy by the researchers and it is a prominent determinant of FDI.From the table we see that FDI has a positive relation with FDI.
Erdal Demirhan & Mahmut Masca(2008)concluded in his cross sectional analysis that country with less Inflation is good in attracting more FDI. Host country volatile inflation rate discourages FDI and create problems for investors for price setting, as devaluation of currency is also associated with inflation rate and reduce the earning of the investor (Peter2007). Fayyaz Hussain (2012), Fayyaz Hussain(2012), Ali Al-Sadig(2009), Recep(2009) ,Erdal Demirhan & Mahmut Masca(2008) used inflation as a measure of economic measurement of a country founded that it hinders the flow of FDI and has negative relation with FDI. Less as well as stable inflation in developing countries results in attraction of FDI. James (2010) on the other hand did not found any significant effect of inflation on FDI.
POVERTY in general is considered to be an opportunity to be a first mover to take advantage of investment in a particular economy. Poor countries have less technology and fewer facilities with poor standard of living. Poverty matters a lot while making the decision by the investor as well as in making the policy by the policy maker. Andrew Sumner 2005 argued that poverty cannot be missed as it has strong effect and influence in making the FDI policy. Investor can get benefits in the form of low wages, unemployment, income inequality and scare capital in a country.(Lensink and Morrissey (2001), Dollar and Kraay (2001), Soto (2000), GASTON GOHOU (2011), Khalid Zaman (2012 ) )founded that FDI played a key role in economic development of a country and reducing poverty and have a positive relation with poverty
ENVIRONMENTAL
Unfriendly business environment deter FDI (Dr. Khondoker). An environment with less corruption can encourage FDI as it reduces transaction costs of business. Investor perceive business environment to be clear so that contracts and disputes can be settled down easily and with fairness, as in case of patents and corruption ,china seems like a good market (wanda).in his work , Imad(2005) concluded that ,developed countries with good business environment( high openness and less country risk) attract more FDI. Asiedu (2002) argued that efficient environment is essential to attract FDI and infrastructure yield a positive impact with FDI. This means that if the environment of a country is good with good infrastructure, that country will attract more FDI.
CORRUPTION (CPI) generally defines corruption as "the misuse of public power for private benefit". Corruption affects the economic health of a country and it is in almost everywhere. As Smarzynska(2002) and Wei (2002) argued that corruption increase burden of foreign investor, increase the value of the contract as well makes contract more dependent on local partner and also reduce the fairness of bureaucracy of host country. As it happens mostly in case of intellectual property rights among local and foreign companies. Corruption effects the economic development of a country (Abed 2002). A higher intensity of corruption is usually related with an unfavorable country environment.
In a cross section analysis of 89 developed and less developed countries Habib and Zurawicki (2002) find that corruption tends to hinder FDI. On the other hand Peter Egger (2005) argued that corruption is an incentive for a forgeries investor and has positive relation with FDI. He argued that this happens mostly in low income countries, where government officials take money as a share from investor profits.
Where ( Habib M and ZurawickiL(2002), Smarzynska(2002) Wei(2000), Dr.Khondoker(2008)) argued that corruption has a negative relation with FDI and investor perceive it as a risk and tend to avoid in making investment in a outcry with more corruption. Business Environment of a country is examined well by this variable as it effects and have relation with other variables, like patents, bribe etc. BRIBE (BPI) is also used and defined in the term to measure the level of corruption in an environment.
A country with a high number of registered Patents shows that the environment for business is safe and law enforcement in the country is well established .investor worries about the threat of stealing and copy of the trademarks, industrial designs and innovation. Qian Sun (2002) who used patents as a measure of the level of scientific research and level of human capital with collaboration of expenditures of R&D in country founded that it is a prominent variable and have a strong relation with FDI. another researcher Stephane Dees (1998) founded a positive relation of FDI with number of patents registered in host country and argued that investor perceive it a positive and good sign to secure his investment in a country and it predicts as good sign of business environment in host country . Trademark, Industrial Design also comes under the same dimension to check the best measure of the business environment of a country.
Political Stability generally affect the decision whether to invest or not in a particular location (Dunning 1993; Moosa 2002).it is linked with the country risk which indicates the political actions that interrupts the sales or causes harm to property or personnel which includes, riots, operational limitations reducing their abilities to carry out certain actions, and governmental invasion of property and it is used widely by the researchers as a measure of the institutional performance in a country.(Chakrabarti 2001, Wheeler and Mody 1992Wang and Swain 1995) argued that political risk has a negative relationship with FDI and deter FDI. Where study done by (Theo S. Eicher 2012 Zenegnaw A.H.2010 Schneider and Frey 1985 Wang and Swain 1995) showed that FDI is strongly connected with the political stability and it assure an investor a sign of good business environment and against this, political instability hinders the FDI. Countries with good business environment and good infrastructure seem to be good in seeking and attracting FDI.
Regulatory Quality is also used to evaluate the institutional stability and performance in a country as well as how a government regulate and form policies. CHRISTIAN(2007)concluded that with an increase of one standard deviation in regulatory quality variable leads to an increase in FDI factor by 2 and founded that regulatory quality of a country is a robust variable that have a strong positive relation with FDI. so countries with good economic and regulatory policies tend to attract more FDI and by improving regulatory quality they can increase the flow of FDI . Hussain Gulzar (2006) also founded that regulatory quality is positively related with FDI and investor like to invest in a host country with high trade openness and good regulatory, economic and investment policies. Pamina Koeniga(2011) in his work founded that countries with good policies and those having less price controlling policies attracted more FDI and investor like to invest in such economies against those where price regulations are monitored and altered by the country institutions and are quite volatile.
Colin Kirkpatrick(2006) argued that regulations must be considered when to make a decision of investment as in case of investment in infrastructure sector ,he founded that FDI in infrastructure are strongly reliable of the regulations and countries with good regulation attract more FDI.
