Info Service on Finance and Development (Jan19/02)
Geneva, 22 Jan (Kanaga Raja) – Global foreign direct investment (FDI) fell by 19%, from US$1.47 trillion in 2017 to an estimated US$1.2 trillion in 2018, the UN Conference on Trade and Development (UNCTAD) has said.
In its latest Investment Trends Monitor (Issue 31 of January 2019), UNCTAD said the decline was concentrated in the developed countries where FDI inflows fell by 40%, to an estimated US$451 billion, mainly due to large repatriations of accumulated foreign earnings by US multinational enterprises (MNEs), following changes in tax laws (Trump administration’s tax cuts).
This caused an unprecedented 73% decline in flows to Europe to only US$100 billion, a value last seen in the 1990s, it added.
In contrast, said UNCTAD, FDI flows to developing economies remained resilient, increasing by 3% to US$694 billion.
Looking ahead, UNCTAD said that a rebound is likely in 2019 but that the underlying trend remains weak.
At a media briefing, James Zhan, Director of the UNCTAD Division on Investment and Enterprise, highlighted that global investment has continued its decline, with 2018 being the third consecutive year of a decline in FDI.
Global FDI flows declined by 19% in 2018, which is on top of the 23% decline in 2017, and a modest decline in 2016. FDI has reached the low point of the last 10 years, he said.
The decline in FDI was mainly concentrated in the developed economies – a decline of 40%. This decline is largely due to the repatriation of accumulated investment earnings by US MNEs, he said.
Zhan also pointed to the growing risks in the dampening of the recovery in global FDI, including the potential trade-investment-technology war which will affect global investment, rising protectionist measures in a number of countries, and the worsening prospects of global economic growth.
All these policy and economic factors will have an impact on global FDI flows for this year, he said.
On top of that, there could also be structural factors, such as where MNEs are now moving in the direction of asset-light type of investment, benefiting from the digital economy, he added.
According to UNCTAD, the sharp decline in FDI, due to large repatriations of retained earnings by US MNEs following the corporate income tax reforms introduced at the end of 2017 was in contrast with the trends in cross-border M&As (+19%) and announced greenfield investments (+29%).
The share of developing economies in global FDI increased to an estimated 58% of the world total, with half of the top 10 host economies continuing to be developing economies.
The US remained the largest recipient of FDI, attracting an estimated US$22 6 billion in inflows, followed by China with flows of US$142 billion and the United Kingdom with US$122 billion.
FDI flows to developed countries declined by 40%, with inflows to Europe falling by almost three quarters to only US$100 billion (with a number of countries registering sizeable negative inflows) and those to the United States by almost one fifth.
At an estimated US$451 billion, inflows to developed countries were at the lowest level since 2004, well below the troughs in 2009 (at US$652 billion) and 2014 (at US$595 billion).
While mergers & acquisition (M&A) deal-making remained active, rising by 23 % in value terms, it was not enough to compensate for the negative outward FDI from the United States (repatriations of retained earnings) caused by the changes in tax laws.
According to UNCTAD, prior to 2018, US FDI outflows were almost entirely accounted for by reinvested earnings. US MNEs refrained from bringing home overseas earnings to avoid tax liabilities.
The changes in tax-rates that came into effect in January 2018 reduced those liabilities and US MNEs duly began repatriating accumulated overseas profits.
In the first two quarters of 2018, reinvested earnings by US MNEs were -US$ 200 billion, compared to US$168 billion in the same period in 2017, a net change of US$367 billion.
These negative flows resulted in declines in global FDI flows, especially in Europe.
Although reinvested earnings in the third quarter reverted to a positive value (US$42 billion), the effect may persist far longer as there is no time limit on the tax advantage and profits repatriated so far are still relatively small compared with the total accumulated profits overseas of US MNEs, said UNCTAD.
“Furthermore, the removal of the provisions triggering tax liabilities upon repatriation may lead to structurally lower reinvested earnings by US MNEs in the future.”
[According to Paul Krugman (NYT column of 21 January), the Trump tax cuts did not result in the promised increased business investment. The tax breaks received by corporations were mostly used to pay higher dividends and buy back stocks. SUNS]
In Europe, the repatriations had major impacts on a few important host countries for US MNEs, such as Ireland and Switzerland (which registered negative inflows of US$121 billion and US$141 billion, respectively).
Nevertheless, completion of M&A mega-deals resulted in higher flows to the United Kingdom (up 20% to US$122 billion), the Netherlands (up 11% to US$64 billion) and Spain (where inflows tripled to US$70 billion).
In addition to negative outflows, FDI inflows to the US also declined by 18 %, mainly because assets in the US featured less prominently among M&A mega-deals completed in 2018.
FDI flows to other developed countries rose by 17% to US$88 billion. Completion of cross-border M&A deals in Australia and Japan contributed to an increase in FDI flows by 39% to US$61.5 billion and 18% to US$12.4 billion, respectively.
According to UNCTAD, FDI flows to developing economies increased by 3% (to an estimated US$694 billion).
However, the increase was very unevenly spread, with almost all the growth concentrated in East and South-East Asia.
Developing Asia as a whole and Africa registered modest increases (+5% and +6% respectively), while Latin America fell (-4%).
There was a 9% increase in cross-border M&A value across developing regions during the year (from US$112 billion to US$122 billion).
The value of announced greenfield projects rose strongly by 47% to reach an estimated US$539 billion, again mainly due to near doubling of values in developing Asia.
FDI flows to developing Asia rose by 5% to an estimated US$502 billion, with the region, already the largest recipient of FDI flows in the world, also showing the highest value of greenfield project announcements.
In East Asia, China, the largest developing economy FDI recipient, attracted an estimated US$142 billion, an increase of 3%, including a rise in investment in manufacturing.
Flows to Hong Kong-China, the region’s second largest host economy, were stable at US$112 billion, with most going into the services sector.
UNCTAD said that the main FDI growth engine is South-East Asia, where inflows rose (+11%) for the third consecutive year to a new record level of US$145 billion.
Much of the region’s FDI growth in 2018 was driven by a rise in investment in Singapore to US$77 billion, due largely to a 94% increase in cross-border M&A activities.
But other major recipients also continued to attract sizeable FDI inflows. Investment in Indonesia (US$21 billion) stayed close to the record level in 2017, and flows to Thailand rose by more than 60% to US$11 billion.
South-East Asia also accounted for much of the global growth in greenfield investment activity, which doubled to US$140 billion in 2018.
FDI to South Asia rebounded from a dip in 2017 to about US$56 billion (+8%) , due to a 7% rise in inflows in India (US$43 billion) and record flows to Bangladesh (US$3 billion) and Sri Lanka (US$2 billion).
In West Asia, FDI flows were flat at US$26 billion, with Turkey attracting the largest share of FDI flows (about US$11 billion, a similar level to the previous year), representing 40% of the total.
According to UNCTAD, FDI flows to Latin America and the Caribbean (an estimated US$149 billion) were 4% lower than in 2017, against the backdrop of slow economic recovery in the region.
FDI declined by an estimated 6% due to lower flows to Brazil and Colombia.
“The challenging economic situation and the uncertainty prior to the election may have deterred foreign investors in Brazil, the region’s principal recipient , where FDI flows declined by 12% to US$59 billion,” said UNCTAD.
Flows into Chile and Peru rose by 31% and 23% respectively, sustained by higher copper prices and by increased greenfield project announcements and cross-border M&A sales in mining and services industries.
In Central America, flows were stable, increasing by 3% compared to 2017.
Mexico received US$32 billion, a similar level to the previous year, as foreign investors were reassured by the signing of the revised North American Free Trade Agreement (now USMCA).
In the Caribbean, excluding offshore financial centres, flows declined by 24% driven by falling flows to its largest FDI recipient, the Dominican Republic, despite strong economic growth in 2018.
According to UNCTAD, the fall mainly reflected a normalisation after M&A-driven record FDI inflows in 2017.
Africa registered a 6% increase in FDI inflows in 2018 (US$40 billion, up from a revised US$38 billion in 2017), but the growth was concentrated in a few economies.
The aimed-for shift from the natural resources dominated FDI profile of the continent towards a more balanced sectoral distribution was only partially visible, in that the relatively diversified economies, such as Egypt and South Africa, saw more stable and increasing FDI inflows, said UNCTAD.
Egypt, with an increase of 7% from US$7.4 billion to US$7.9 billion, was the biggest recipient of FDI in Africa in 2018, with investments in real estate, food processing, oil and gas exploration, and renewable energy.
South Africa, which had seen a steep fall in FDI inflows since 2014, registered a strong recovery in 2018, with inflows amounting to US$7.1 billion in 2018 compared to US$1.3 billion in 2017, driven by large investments in mining, petroleum refining, food processing, information and communication technologies, and renewable energy.
In West Africa, Ghana (US$3.3 billion) overtook Nigeria as the largest recipient of FDI in 2018. However, Nigeria reported a few significant greenfield project announcements in the oil and gas and chemical sectors, which could lead to a recovery in 2019.
“Progress towards the implementation of the Continental Free Trade Agreement, diversification in greenfield projects targeting the manufacturing sector, and the stabilization of commodity prices indicate that FDI in Africa could potentially grow at a higher pace in 2019, despite the downward adjustment of global economic growth forecasts,” said UNCTAD.
FDI inflows in the transition economies of South-East Europe and the Commonwealth of Independent States (CIS) declined for a second consecutive year, by 8% in 2018, to about US$44 billion.
According to UNCTAD, cross-border M&As increased by 19% in 2017, reaching their third highest level since 2007 as MNEs continued to take advantage of low borrowing costs and strong liquidity positions.
The freeing up of retained earnings of US MNEs may have contributed as well – one-third of total M&A deals were carried out by US MNEs, double the previous year.
Net M&A sales rose to US$822 billion, spurred on by acquisitions in services (+35%, to US$462 billion), and in the primary sector (+65%, to US$40 billion).
In particular, sales of assets related to financial and insurance activities and crude oil and natural gas activities rose sharply.
Cross-border M&As in manufacturing remained at a similar level (-2%, at US$320 billion).
Developed economies were the main target of the upswing in cross-border M&As. Net sales in Europe rose 66% to US$371 billion, driven by strong increases in the United Kingdom, Germany and the Netherlands, on the back of a few large deals and corporate re-configurations.
The value of cross-border M&A sales in developing economies rose moderately in 2018 by 9% to US$122 billion, or 15% of the global total, reflecting the fact that FDI in developing countries is predominantly greenfield and expansion driven, said UNCTAD.
PROSPECTS FOR FDI THIS YEAR
According to UNCTAD, prospects for FDI in 2019 are mainly driven by a likely rebound from anomalously low levels in 2018 in developed regions.
As the initial flood of earnings repatriations of US MNEs abates, the developed economies that experienced the largest drops in inflows are likely to see a rebound to “average” levels of inflows, which would imply large upward swings in countries that normally make up a significant part of global FDI flows.
Project announcements also appear to bode well for new investments in 2019. Announced greenfield projects increased significantly in 2018 (+29%) – albeit from relatively low levels in 2017.
However, the increase is almost entirely in developing regions and very unevenly spread, with the most significant rises in East and South-East Asia.
Balancing these positive indicators for global investment prospects, a number of risk factors temper expectations, UNCTAD cautioned.
First is the deteriorating macro-economic backdrop. According to the most recent forecasts, the outlook for the global economy is darkening.
[In its latest update released on Monday, the IMF said that the global economy is projected to grow at 3.5 percent in 2019 and 3.6 percent in 2020, 0.2 and 0.1 percentage points below the projections that it had made last October in its World Economic Outlook.]
UNCTAD said that global financing conditions are tightening, industrial production in major economies is readying to downshift, trade tensions could intensify, and some emerging market economies are vulnerable to financial market stress.
Beyond the immediate impact of economic headwinds, the underlying trend for global FDI – net of annual fluctuations driven by one-off factors such as tax reforms, mega-deals and volatile financial flows included in FDI – remains weak.
The underlying FDI trend has shown anaemic growth since the global financial crisis and has been on a downward trajectory since 2013.
According to UNCTAD, the key drivers of the negative trend include policy factors and a return of protectionist tendencies, the impact of the digital economy and the resulting shift towards intangibles in international production, and a significant decline over the last five years in returns on foreign direct investment.
Medium term prospects for FDI will continue to be affected by these structural factors, it said.