More isn’t better, Latin American FDI policies need changes

A recently convened Latin American seminar on FDI policies has found that, with their undiscriminating approach to attracting foreign investment, the economies of the region have largely been unable to significantly enhance their international competitiveness and local industrial base through FDI. What these countries need therefore, the seminar concluded, are focused FDI policies which channel investment inflows towards realization of national development priorities.

by Chakravarthi Raghavan

GENEVA: The countries of Latin America which have generally followed the “more is better” approach to foreign direct investment (FDI) policies have not improved their international competitiveness in the same way as several Asian countries, and countries of the region need to change and follow a combination of policies, including FDI targeting, to increase the coincidence between transnational corporations’ business strategies and goals of national development strategies.

This appears to be among the conclusions of a regional seminar on FDI policies held in Santiago (Chile) between 7-9 January and organized jointly by the United Nations Conference on Trade and Development (UNCTAD) and the UN regional Economic Commission for Latin America and the Caribbean (ECLAC).

At the final session of the seminar, the ECLAC Executive Director Jose Ocampo presented a summary of conclusions, which is available (in Spanish only) on the ECLAC website <>.

For a seminar held in the Latin American region, where most governments speak the language of neoliberal- ism, the conclusions appear to be even revolutionary on FDI and FDI policies, the need to relate them to national development strategies and the imperative of developing countries having available to them the widest possible repertoire of policy options for attracting FDI and channelling it towards national priorities.

Until the Argentine crisis that erupted in December last year, the countries of the region adopted neoliberal policies, including on trade and investment. Even at the 4th WTO Ministerial Conference at Doha in November, they were largely supportive of a new round of multilateral trade negotiations that encompasses new issues (including investment).

However, the crisis in Argentina, with its high political and social overtones and a populist upheaval, has led to a rethink by policy-makers everywhere in the region.

Also, there are now emerging critical views from academia, civil society and others about the economic policies and the commitments made under various trade and other agreements which have not brought about visible benefits to the people. These too are having an effect and injecting some caution in governments.

The discussions and conclusions at the regional seminar perhaps were also reflective of these trends.

There is some reference in the conclusions of the seminar to the WTO agenda of negotiations and the “development dimension” (on the new issues), but it is not clear whether there was any in-depth discussion on this at the meeting, particularly in relation to the kind of targeting policies making transnational corporate investors subserve national development strategies that appear to have been advocated.

It is not clear also whether, for example, the fundamental question of the constraints that would be set in any investment agreement (even one with undefined development dimensions) located in the WTO trade system was discussed in-depth - though the reference towards the end of the summary to the WTO negotiations and the development dimension would suggest that the problem is beginning to appear on regional radar screens.

The seminar took place within days of the eruption of the Argentine crisis and just a few weeks after Doha, and it is perhaps too much to expect this issue of overall political economy to figure. Nevertheless, it would appear that having been one of the forces behind the launch of the new WTO negotiations with new issues and behind efforts to conclude the negotiations by early 2005, the regional economies and their policy-makers do not seem to have much time to reassess and reformulate their stands and policies and get the support of other developing countries in Asia and Africa.

Modest success

According to the summary of conclusions, the seminar has found that compared to the experiences of many Asian countries, Latin American countries have tended towards “self-imposed limits”, and this has been done by way of accepting bilateral, plurilateral and multilateral agreements on investment and the investment chapters of trade agreements that do not go beyond security and guarantees for investors - and not clearly or explicitly defining the relationship of these agreements with the objectives of national development strategies.

Analyzing in detail the national experiences in the region, the seminar concluded that the success of the FDI policies in the region has been modest compared with the experiences of Asia and Europe. “Very few Latin American countries have improved their international competitiveness through FDI in the same way that several Asian countries had done and virtually no country had in place the institutions, human and financial resources or the sophisticated policies that many European countries have.”

The seminar analyzed the policies and situations of several developing countries in Asia that succeeded in improving their international competitiveness, with and without FDI, experiences in Europe with very active and sophisticated FDI policies, and the national experiences in Latin America.

The Latin American countries currently are facing increased competition for a reduced flow of FDI and  they have to respond with increasingly effective and focussed policies.

According to the summary of conclusions, the seminar found that one group of countries (Mexico, Costa Rica and Honduras) have improved their international competitiveness through FDI in manufacturing. A second group (Chile and Argentina) did so through FDI in natural resources or in manufactures based on natural resources, while a  third group (Brazil and the Andean Community) did not succeed in improving their international competitiveness through FDI.

Though there have been important differences within the region on FDI policies, generally they have been of a “more is better” nature, with strong emphasis on attracting as much FDI as possible and with FDI typically being seen as an alternative way of financing deficits.

The experience of Mexico was seen as a separate case where the country managed to improve its international competitiveness through FDI, although its success is based more in its trade agreements, mainly the North American Free Trade Agreement (NAFTA), than in a focussed FDI policy.

The seminar however also has found that while Mexico (and Costa Rica and Honduras), which focused on FDI for manufacturing, improved international competitivity, the increased exports have not been followed by a similar development of the local industrial base.

There were not many examples of FDI policies integrated in a development strategy that defined explicit objectives.  The main exception to this has been Costa Rica, with its strategy in the electronic and medical goods sectors, and, less so, Honduras in the garments sector.

The FDI policies of the countries in the region were focussed on attracting FDI without any concern for selecting or channelling it according to national development priorities and without any effort to compensate possible shortcomings. The policies were more concerned with short-term macroeconomic priorities than with enterprise development requirements.

The experiences showed a combination of important advances, but with notable weaknesses.  For instance, many countries that improved their international competitiveness through FDI in manufactures not based on natural resources generated very weak linkages between the local economy and the export platforms. In general the lack of a linkage promotion strategy was highlighted, especially in the cases of Mexico, Costa Rica and Honduras, where success in exports has not been followed by a similar development of the local industrial base.

The countries that have improved their international competitiveness by way of FDI in natural resources or manufactures based on natural resources (Chile and Argentina) demonstrated that countries that specialize in goods that are declining in world trade, natural resources, have to work much harder to improve their international competitiveness because advances in global market shares can only be won by taking away shares from competitors.

Furthermore, these kinds of investments are extremely lumpy and the commodities involved are hounded by wild cycles in terms of international prices, which can upset the macroeconomic framework.  Although these activities contribute substantially to the national value-added, they usually involve no linkages with the national industry. Because of these characteristics the FDI in these kinds of projects is much more difficult to fit into a concrete FDI policy connected to a formal developmental strategy.

Chile, Argentina, Brazil and Peru were cases in which FDI flowed increasingly to the services sector, and although there has been an upgrading of these services, which is important for improving the systemic competitiveness of the economy, in many circumstances these are still far away from the international best practice in terms of quality and cost. In these examples there were important failures in the regulatory frameworks and competition policies, often the outcome of a defective privatization process.

In the Argentine and Brazilian cases, it was observed how FDI focused on the services sector. This does not generate exports directly, and can provoke balance-of-payments problems in the medium and long run.

All kinds of FDI do not have the same impact on national development. A large proportion of the FDI received by Latin America in the last few years has come in the form of the acquisition of existing companies, sometimes in the context of privatization programmes. Generally, greenfield investments that create new plants that increase productive capacity and provide greater national value-added are usually considered to have a stronger direct impact on national development.

In the last few years some Latin American countries seem to be following the example set by many Asian and European countries by focusing their FDI strategies on a reduced number of sectors. For example, Chile has selected high-technology activities and Ecuador has focused on mining, tourism and agro-industry.

Crafting a coherent FDI policy

The seminar found that FDI policy is much more important than it appeared to be. Depending on the case and the priorities defined in the national development strategy, FDI policy can be either marginal or central. However, the tendency seems to be towards the latter.

If Latin America wants to close the gap with the rest of the world, it must design and implement better policies. Macroeconomic stability combined with passive FDI policies (opening the economy and providing across-the-board incentives) is not good enough, the seminar concluded.

In this regard, there are no easy solutions. The positive results of some Asian countries, such as Singapore, or European countries, such as Ireland, are the product of decades of active and focused FDI policies couched in explicit national development strategies. Without the use of such policies, TNC strategies tend to prioritize the “static” comparative advantages of developing countries.

If countries wish to attract and channel FDI to “dynamic” comparative and competitive advantages, they must design and implement the policies that produce that effect.

Modern FDI policy has become extremely sophisticated in terms of its human and financial resource needs, as is exemplified by FDI promotion agencies in Europe, such as Sweden, Ireland, United Kingdom and France, among others. Latin American investment promotion agencies cannot compete with them on those terms; rather they must do so in terms of the design, coordination and implementation of their FDI policies. In this regard, a coherent and consistent policy implemented over a considerable period of time seems to pay the best dividends, as the cases of Mexico and Costa Rica during the 1990s demonstrate.

Overall, it is the countries that have succeeded in best defining their developmental priorities in general and the objectives of their FDI policy in particular, that have had the most success with attracting and channelling FDI to specific priorities and objectives. In the same fashion, they are capable of measuring the impact of FDI on those goals. In this sense, their experience ratifies the belief that FDI is not a goal in itself but rather a means to attaining broader developmental objectives.

It also became clear that the most consequential FDI policies are those designed to coincide with the principal business strategies of transnational corporations (efficiency-seeking, natural resource-seeking, national market-seeking, etc.) operating in or interested in the region.

Since these distinct business strategies prioritize different elements of economic policy-making, it is important to achieve consistency and coherence in national FDI policy.

Often the macroeconomic team focuses on the quantity of FDI from a balance-of-payments or external-financing perspective, which results in promoting the greatest volume of FDI without concern for its specific impact. Those elements of the national government concerned with specific national developmental goals (improving international competitiveness, deepening industrialization, promoting transfer of technology and management practices in certain sectors or activities, etc.) tend to stress the quality of the FDI. Since both aspects are necessary, a stronger effort to harmonize the general economic policy with the FDI policy is called for.

Faced with an international conjuncture characterized by increased competition for reduced volumes of FDI, the seminar concluded that it is imperative that developing countries have available to them the widest possible repertoire of policy options and modern techniques for attracting FDI and channelling it towards national priorities.

Compared to the experiences of many Asian countries, it seems that Latin American countries tend towards self-imposed limits. They do this by way of accepting bilateral, plurilateral and multilateral agreements on investment and the investment chapters of trade agreements that do not go beyond security and guarantees for investors, and thereby do not clearly or explicitly define the relationship of these agreements with the objectives of the national development strategy. Development goals related to FDI rarely figure in these agreements.

At the same time, the Latin American countries have shown a certain reticence to utilize all the policy instruments at their disposal. For example, the use of FDI targeting is still extremely scarce in spite of its growing popularity in the rest of the world. FDI targeting is common in Asia and Europe. FDI targeting allows policy-makers to focus on certain types of FDI, in defined activities or sectors that represent comparative or competitive advantages.

Targeting in the context of a well-defined national development strategy has produced impressive results in other regions, something that Latin American countries would do well to evaluate  and emulate where relevant, the seminar’s conclusion said.

To compete better, make better use of scarce resources and increase the coincidence between the objective of TNC business strategies and the goals of national development strategies, it is necessary to learn from the experiences of other regions. It is also necessary to innovate on the basis of Latin American experiences. The combination of both allows Latin American countries to provide better content to the “developmental dimension” mentioned in the context of a round of WTO negotiations on investment.

The need to establish and deepen the linkages between TNCs and national companies is clearly one way of increasing the impact of FDI on national development by further embedding the TNC operations in the local business environment.

Linkages policies worked better where there existed a strong political commitment, where there was a coherence between goals and means, and where public-private partnerships could be fomented, the seminar concluded. (SUNS5048)