Chapter 14 Foreign Capital and Aid

Foreign Direct Investment Total resource flows consist of a)Portfolio investment b)Official flows c)Foreign Direct Investment by multinational corporations

Multinationals – Size and Patterns Multinational assets are in many cases higher than the GDP of many countries Five of the top 10 MNCs have combined sales greater than GNI of India Sales of any two of them are greater than GNI of Indonesia South-South investment is increasing

Contribution of Foreign Direct Investment (MNCs) According to two-gap model, foreign capital fills in ‘Saving-gap’ and ‘Foreign-exchange gap’ Saving gap is the difference between domestic saving and domestic investment F = I – S Foreign-exchange gap is the difference between targeted foreign-exchange requirements and export earnings (m 1 – m 2 )I + m 2 Y – E ≤ F m 1 = marginal import share of investment m 2 = MP to import out of income MNCs contribute to LDC’s development in terms of knowledge and technology and management

Disadvantages of Foreign Direct Investment (MNCs) Discourage domestic saving and investment MNCs import intermediate goods and capital goods and adversely affect balance of payments Employment in low-skill areas do not create high level management jobs MNC’s dominance discourages local entrepreneurship and small businesses They bring inappropriate technologies

Disadvantages of Foreign Direct Investment (MNCs) Demand for consumer goods is created while LDC’s need critical inputs (fertilizers, machines etc.) for industrialization Compete for scarce resources – Coca Cola using up clean water Political influence on government and elections Contribute to inequalities by locating in and developing urban areas (Table 4.1)

Foreign Aid Tied aid is conditional Non-tied aid is a general purpose grant Foreign aid also fills two gaps discussed earlier Foreign aid can successfully generate growth if o Complementary resources are available o Country has absorptive capacity o Taiwan and South Korea used foreign aid successfully