The Economic and Social Impacts to India and Its Citizens from Inward Foreign Direct Investment


: Investment strategies and the state’s capacity to mitigate for harm and extract benefit



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3.7: Investment strategies and the state’s capacity to mitigate for harm and extract benefit


As was emphasized in Chapter Two (see section 2.4), the benefits of FDI do not automatically accrue and states need to construct effective investment strategies and policies for the welfare of their citizens as well as the economy (OECD, 2002; 2008; ILO-OECD, 2008).

As states compete for FDI they construct investment strategies to capture inward investment (Thomas, 2011; Farnsworth, 2010). Countries will have certain resources that they can promote to potential investors as comparative advantages and will often develop investment bureaux to advertise these advantages to foreign investors (Farnsworth, 2010). The resources a country has to offer will vary. Some may have natural resources such as oil or mineral reserves which they can promote, while others may promote large growing domestic markets and others a highly educated and disciplined labour force. The investment strategies employed by state governments to attract investment will attract specific types of investors in need of what the state is offering. The costs and benefits extracted from investment is highly contingent upon what type of investment the country is attracting (Farnsworth, 2010; Moran and Oldenski, 2013).

Chang (2003) categorises investment strategies into two main categories: functional and selective. Functional policies are generic investment strategies and do not favour any particular activities, firms, or industries over any other; they are generic and market friendly. Farnsworth (2010) states these strategies appeal to ‘universal’ business needs informed by neoliberalism and are applied irrespective of the nature of the host economy or the particular state of development. Selective policies, on the other hand, are more tailored to a country’s needs and comparative advantages and the government actively intervenes in such strategies to influence the type of investment attracted as well as the terms under which companies can invest (Chang, 2003). Selective policies are ones in which the government encourages certain firms or industries and discourages others. Chang (2003) stresses that neoliberal ideology supports the open door ethos of functional policies and discredits selective policies as being interventionist, and thus, ineffective and protectionist. However, this is not necessarily true as Lall (1997, p.408) points out in the following passage:

There is nothing in economic theory that says that functional interventions are better than selective ones. The recent trend to favour functional interventions has no theoretical basis if the relevant forms of market failure exist. …On the empirical side, considerable evidence has been accumulated to show that selective interventions can be of vital significance for accelerating and deepening the process of industrial development, and that, under certain conditions, governments can and do intervene effectively.

The policy advice which recommends open door functional polices across the board are based, in part, on an argument that investment decisions are based on the amount of freedom granted to TNCs (Chang, 2003). However, FDI decisions are more likely to be based on other factors such as the overall performance of the economy rather than specific incentives and regulatory policies (OECD, 2002, 2008; Chang, 2003, 2014; Moran and Oldenski, 2013). The World Bank (1985, p.130) too has argued this point:

The specific incentives and regulations governing direct investment have less effect on how much a country receives than has its general economic and political climate and its financial and exchange rate policies (World Bank, 1985, p.130)

The promotion of open door policies with minimalist protections and regulations are also based on the misconception that TNCs can locate and invest in any country. As explored above, location choice is based on a complex set of factors such as firm motivation to exploit or augment particular assets and for some firms location choices will be limited (Forsgren, 2013; Dunning, 1997a; Yeates, 2001; Chang, 2003). The limitation of location choices for certain sectors causes firms to compete with one another for opportunities in attractive host countries (Fosgren, 2013; Chang, 2003; Farnsworth, 2010). Host countries can use this bargaining power to implement policies that regulate the activities of TNCs to help ensure spillovers and mitigate for social risks (Chang, 2003). TNCs are more likely to abide by stricter policy conditions in return for investment opportunity where the opportunity to do so is more rare (Ostry, 1990).

However, some developing countries may not have locational advantages for which TNCs will compete and, thus, may have much lower bargaining power. However, Chang (2003) concludes that these countries do not have to ‘race to the bottom’ in constructing policies in order to attract TNCs; they will most likely have a few bargaining chips with which to use in trying to get the most from investments while mitigating for costs or they can become more selective with investment policies in time as the industry or industries becomes more established. Chang (2003, p.265) explains:

It should be emphasized that, except for the poorest countries with meagre natural resource endowments, small domestic markets, and no locational advantage, potential host countries are not merely passive victims: they have, and often exercise with substantial success, considerable bargaining power in their dealings with TNCs.

The investment strategies and policies of East Asia and China go against the generalizations that suggest TNCs are not willing to participate in a more regulatory policy environment (Lall, 1997; Yeates, 2001; Yeung, 2013). In most of the East Asian countries except for Hong Kong, government interventions were selective in nature and state governments strategically directed investment into and out of certain sectors and dictated certain terms and conditions of TNC behavior to better ensure the capture of social and economic benefits from foreign investment (Chang, 2003, 2014; Yeung, 2013). For entry of FDI, certain types of investments were promoted over others (Lall, 1997; Chang, 2003; Yeung, 2013). For example, investments that would supply critical intermediate inputs while using more sophisticated technology or labour intensive export investments that would generate more jobs and foreign exchange were approved over investments targeting market oriented consumer goods (Chang, 2003). These countries also used screening measures to ensure the ‘right kind’ of technologies was brought in via TNCs and on the right terms (Rasiah, 2006).

Several researchers (Lall, 1997; Yeates, 2001; Pierson, 2004; Kwon, 2004, 2014; Miura, 2012) highlight that the Asian development strategy incorporated social welfare activities into the corporate structure following what is referred to as the Japanese model of social welfare. Whilst many of the welfare activities did not provide direct finance, the overall strategy appeared to pay greater attention to the production-enhancing role that social welfare can play (Mkandawire, 2004; Kwon, 2014). Labour protection strategies through lifetime employment were offered in Japan (Yeates, 2001; Miura, 2012) and affirmative action policies were implemented in Malaysia (Mkandawire, 2004). Education, training, low rent public housing, and land reform were other examples of social welfare policies implemented in the Asian experience that helped the development process (Ghosh, 2004; Kwon, 2014).

In sum, although business has structural and agency power to influence the terms of investment and undermine, social policy, the state has power to implement effective investment strategies to intervene in the activities of business to try and extract benefit and mitigate for potential risks.



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