FOREIGN

DIRECT
INVESTMENT
AND
INTERNATIONAL
TRADE
Direta Wonahausi (1306417515)
Harry Patria (1306417660)
Nurhadi Pancawibowo (1306354792)
Victor G P Matindas (1306355006)

POTENTIAL ECONOMY-WIDE
EFFECTS OF FDI
The dramatic increase in FDI over the last decade has had at
least three sources:
1.

Technological
improvements
in
communications,
information processing, and transportation, coupled with
new organizational structures, have enabled firms to
become more effective in existing firms.

2.

The changing framework of international competition has

led to the liberalization of capital flows among
integration in Europe.

3.

Developing countries are increasingly liberalizing their

regimes for inward foreign investment. These countries
accounted for 37% of total FDI flows in 1997, an increase
of 20 % since 1990. At present, 1/3 of the worlds FDI
stock located in developing countries, although it
remains heavily concentrated in a few of them.

FDIS POTENTIAL EFFECT ON NATIONAL

ECONOMIES (1)
According to Stevens and Lipsey (1992), There are two
implication:
1. FINANCIAL IMPLICATION - The effect is indirect;

Focuses on possible substitution effects between

domestic and foreign investment.

Limited Budget Constraint, The cost of borrowing

increases with indebtedness make the decision to invest in
abroad foreclose the possibility of investing at home.

Empirical evidence found that substitute effect dominated

US Firms: Berbedos (1992)- using Dutch Data, Svensson
(1997) using Swedish Data.

If investment decline, expansion of output, variety and

quality will be reduce. There can lead to market share
reduce and potentially non-price competitiveness decline
(Erkel Rousse et al., 1999).

FDIS POTENTIAL EFFECT ON

NATIONAL ECONOMIES (2)
2. PRODUCTION IMPLICATION - The effect more direct
nature;
Based on Mainstream Theory about FDI and endogenous
growth model. There are 2 (two) distinction benefit from
spillovers:

Horizontal spillovers, Foreign affiliates tend to hire more

qualified workers and manage more efficiently

Vertical spillovers, foreign affiliates need efficient

suppliers. The affiliates train local firms upstream od
induce cascading investments.

FDI can be expected to contribute to the rate of

technological progress in the Host country (Findlay, 1978).

TO SUM UP

FDI tends to enhanced economic growth in host countries

primarily through spillover effect associated with the
transfer of technology and knowledge.

There are interactions between different kinds of effects,

including those on competition and technological spillover.

The development level of host countries, and the policies

they pursue, influence their ability to absorb technology.

TRADE & FDI PERSPECTIVES

The bottom-up & Home-Host-3rd Party perspective

Home
Substituting : hurting homes production and employment
Complementary : expand market through affiliate
competitiveness
Host
Substituting : Improve the current account, domestic
production and employment
Importation of inputs might imply a weakening of the host
countrys account
3rd Party
Affiliates: increasing export of intermediate products to host
country
Non-affiliates: get benefit from FDI in the host country or
the host country increases export to 3rd countries
However 3rd party competitors may lose market share in the

Interaction between FDI & Trade

FDI Effect between sectors

s.t. large complementarity effect on trade.
Ex. An investment in the retail sector may lead to
increased
manufactured
exports,
whereas
production abroad, at the level of the individual firm,
may substitute for previous or potential exports
FDI impacts depend on the organization of
international business activities (Caves, 1982).
Vertical integration
specialization, trade liberalization, various techno
and prices and economies of scale at the plant level
Horizontal Integration
operations resemble those of the parent company

HYPOTHESES

FDI substitute trade? Theoretically explained

Alternative Strategies (Barlet, 1992)
Firms can either produce at home and export, or produce
abroad and substitute local sales of foreign affiliates for
exports considering economies of scale and transportation
cost
Proximity-concentration trade off (Brainard, 1993)
IRS limit the number of efficient plant vs. transportation
cost and more generally trade barriers. MNC would locate
subsidiaries near their different markets and local
production would be expected to displace trade (Markusen
and Venables, 1995)
FDI complementary for trade? Empirically explained .
Various factors should be observed such as the organization
of firm activity, or the size and income of host countries, or
proximity, transport cost and tariffs, influence outcomes.
The relationship has never been addressed in the literature

MICRO LEVEL EVIDENCE

Outward FDI results positive impacts on US exports as well
as a positive correlation between total exports of the parent
and the local production of the affiliate (Lipsey and Weiss,
1981; 1984), 10% increase in the share of intra-firm
bilateral trade leads to a 40% increase in trade with the
country considered (Sachs and Shatz, 1994)
Helleiner and Lavergne (1980) observed that intra-firm
trade is much more important in US trade with other
countries than in other bilateral trade relations. Micro
evidence suggest that the relationship varies over time as
explain by Bergstern et.al (1978). Trade between affiliates
in different host countries will gradually replace trade
between the home country and affiliates (Pearce, 1982).
Swedenborg (1972, 1982) fount that FDI induced exports of
intermediate goods, or complementary supply of finished

MICRO LEVEL EVIDENCE (2)

Svensson (1996) found that the complementary relationship

was overturned in the 1980s. This impact may stem from the
advanced stage of internalization of Swedish MNCs, but is also
strongly influenced by the economic policies pursued in
Sweden during the 1980s and the countrys position outside
the integrating European Market at that time. Such conditions
have impacted on the structure of Swedish production
(Blomstrom and Kokko, 1994)

OECED (1994) found that foreign affiliates in the US typically

export as much and import more than domestic US firms. As
well as US, France with A large share of intra-firm trade
concerns final products. Even if local sales partly substitute for
previous exports, but they need imported inputs.

MACRO LEVEL EVIDENCE

Even FDI displaces trade at the firm level), this not apply at
the industry or macroeconomic level. Inward and outward
FDI need not have a symmetric impact on trade.
Classical theory by Mundell (1957) viewed the mobility of
goods and factors as opposing forces. Migration or FDI leads
factor rewards, and hence product price.
FDI may induce trade or vice versa Causality between
FDI and trade
a large and positive relationship between outward FDI and
export, as well as imports for both Japan and US, but not
obtained in the case of inward (Eaton and Tamura).
Henry (1994) suggest the prevalence of eight possible
causal effects: (Exports-Imports vs. Outward-Inward FDI and
Outward-Inward FDI vs. Exports-Imports).
Macro evidence produced varying result across countries.
For US only causal relationship is imports causing inward
FDI due to restrictive trade policies in sensitive sectors such

MACRO LEVEL EVIDENCE (2)

Export-induced outward investment for Germany.
However, all these relationships are affected by a turning point in
the mid-1980s. Before the mid-1980s, there is evidence of many
cases in which trade caused investment (the United Kingdom is
the main exception, as outward FDI is found to have caused an
increase in imports).

In contrast, since the mid-1980s, two causal linkages seem to

have dominated. First, outward FDI is caused by exports (France,
the United States, Japan, Sweden and Korea).
Second, FDI causes trade for all countries with the exception of
the United States and Korea.
British : a positive relationship between inward FDI stocks and
exports, and a negative relationship between outward FDI stocks
and exports.
France: significant differences in elasticity for exports and imports
reflect the presence of foreign firms, with a large increase in
imports, and a small increase in exports, in the industries
concerned.
United States: stocks of inward investment have a very weak

EMPIRICAL EVIDENCE
AT THE INDUSTRY LEVEL
The United Kingdom

There is complementarity with exports and imports for both inward

and outward investments flows

But, the net impact on trade is negligible since the increase in

exports and imports are roughly similar

France

There is complementarity with exports and imports for both inward and
outward investments flows

But, the net impact on trade is negligible since the increase in exports and
imports are roughly similarOutward and inward FDI flows are
complementary with exports and imports

The potential negative impact of inward investment on the trade balance is

assessed by the high sensitivity of imports and low sensitivity of exports

Each dollar of outward investment is associated with a 35 cent trade

surplus

Each dollar of inward investment is associated with a 12 cent trade deficit

EMPIRICAL EVIDENCE
AT THE INDUSTRY LEVEL
The United States

Outward investment has much stronger complementarity effects than

France outward investment

But impact of inward investment is much weaker than France inward

investment

Each dollar of inward investment is associated with an additional USD 1,4

of imports in France and 60 cents in the USA

eter Estimates for FDI Flows in the Pooling of 14 Countries (1984 1993
Inward FDI Flows

Outward FDI Flows

Exports

0,484

2,203

Imports

2,045

0,359

The impact of FDI on the trade balance is negative for the host
country

There is no, or weak, empirical evidence of relationships involving

third countries

EMPIRICAL EVIDENCE
AT THE INDUSTRY LEVEL
Conclusion

The short term direct effects of FDI flows on the trade

balance tend to be detrimental to the host country

In the long run, the impact may well vanish as a

result of spillovers, technological progress and growth

CONCLUSION AND POLICY ISSUES

The United Kingdom

There is complementarity with exports and imports for both inward

and outward investments flows

But, the net impact on trade is negligible since the increase in

exports and imports are roughly similar

France

There is complementarity with exports and imports for both inward and
outward investments flows

But, the net impact on trade is negligible since the increase in exports and
imports are roughly similarOutward and inward FDI flows are
complementary with exports and imports

The potential negative impact of inward investment on the trade balance is

assessed by the high sensitivity of imports and low sensitivity of exports

Each dollar of outward investment is associated with a 35 cent trade

surplus

Each dollar of inward investment is associated with a 12 cent trade deficit

CRITICAL REVIEW
FDI
impacts depend on the organization of
international business activities. There is no
explanation on impact of other parameters despite
economies of scale in terms of horizontal & vertical
integration?
Less explanation on impact FDI in developing countries
which depend on trade policy and more generally
trade barriers and non-trade barriers.
This paper analyzed dynamically the relation between
FDI & Trade. Thus, it should be better to consider other
attributes associated with the investment, including
positive spillovers of technology and management
practices which enhance competitiveness. (in the long
run, the impact may well vanish as a result of those
spillovers, which the short-term impact is associated
with induced imports of intermediate and capital
goods as a source of much of the spillovers).