Development Co-operation Report 2016
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branch I. The SDGs as sustainable business opportunities and five approaches to make it happen
  branch 2. Trends in foreign direct investment and their implications for development


Michael Gestrin

Directorate for Financial and Enterprise Affairs, OECD

Foreign direct investment can play an important role in financing development, with multinational enterprises also providing employment, technology transfer and access to international markets. Between 2005 and 2014, foreign direct investment flows to non-OECD countries more than doubled in absolute terms since 2012, these countries receive more than 50% of the global total, compared to 35% in 2005. Recently, however, some types of international investment in emerging and developing economies have started to decline. There are important warning signs that these investment flows could experience a sharp slowdown over the coming years (or could even reverse in some cases). This chapter examines these trends, the main factors shaping them and their implications.

Challenge piece by Karl P. Sauvant, Columbia Center on Sustainable Investment. Opinion pieces by Andrew Chipwende, Industrial Development Corporation, Zambia; Shaun Donnelly, United States Council for International Business; James Zhan, United Nations Conference on Trade and Development.

The challenge: How can foreign direct investment fulfil its development potential?

Karl P. Sauvant, Resident Senior Fellow, Columbia Center on Sustainable Investment, Columbia University

International investment, and in particular foreign direct investment, has an important role to play in helping to achieve the Sustainable Development Goals. It can be a powerful international mechanism for mobilising the tangible and intangible assets (such as capital, technology, skills, access to markets) that are essential for sustainable growth and development.

Yet to fulfil this potential, foreign direct investment must increase substantially; it must be geared as much as possible towards sustainable development; and it must take place within a framework of international investment law and policy that is enabling, yet at the same time respectful of host governments' own legitimate public policy objectives.

Foreign direct investment flows reached their peak in 2007 at around USD 2 trillion, dropping to USD 1.2 trillion by 2009 as a result of the international financial crisis. While this represents a relatively small share – about 10% – of gross domestic capital formation, in individual countries this share can be even higher than domestic investment.

To help meet the investment needs of the future, these flows have to increase substantially. There is no apparent reason why they could not do so over the longer term, say to a level of USD 4 or 5 trillion annually.

How to get there? Improving the economic determinants, the principal factors governing investment decisions, is fundamental. Official development assistance will continue to be important, especially for the least developed countries, including to leverage higher foreign direct investment flows. This is a long-term challenge.

However, national regulatory frameworks and investment promotion efforts can be improved in the short term, especially in the least developed countries.

The first challenge is to increase foreign direct investment through a concerted international effort to help developing countries, and especially the least developed among them, to improve their foreign direct investment regulatory frameworks and investment promotion capacities. At present, there is no such international effort – along the lines of the Aid-for-Trade Initiative and especially the Trade Facilitation Agreement – in the area of foreign direct investment. But in a world of global value chains, these trade arrangements can help only so much, precisely because they address only one side of the task, namely to increase trade. But a concerted international effort for foreign direct investment, such as an international Aid-for-Investment Initiative or even a Sustainable Investment Facilitation Understanding, could help developing countries, and especially the least developed among them, rapidly to improve their regulatory frameworks as well as their capacity to promote investment – thereby helping to increase investment flows to developing countries.

Encouraging higher foreign direct investment flows is, however, not enough.

The second challenge is to promote foreign direct investment that is geared as closely as possible towards sustainable development: “sustainable foreign direct investment for sustainable development” . This presents the challenge of defining “sustainable foreign direct investment” . A first approximation could be: commercially viable investment that makes a maximum contribution to the economic, social and environmental development of the host country and takes place in the context of fair governance mechanisms, as established by host countries and reflected, for instance, in the incentives they offer. Yet any definition needs to be operationalised. So this challenge would also involve developing an indicative list of sustainability characteristics to be considered by governments seeking to attract sustainable foreign direct investment (and to encourage sustainable domestic investment). Such a list would also be a helpful tool for international arbitrators considering (as they should) the development impact of investments, as well as for identifying the mechanisms – beyond those deployed to attract foreign direct investment in general – that encourage the flow of sustainable investment and increase its benefits for host countries.

The third challenge is to reform the international investment law and policy regime. National foreign direct investment rule making increasingly takes place in the framework of international investment law and policy. For this reason, it is important to ensure that the international investment regime constitutes an enabling framework for encouraging the flow of sustainable foreign direct investment, while at the same time allowing governments to pursue their legitimate public policy objectives. This requires asking several questions, including: How can the objective of sustainable development be made the lodestar of the international law and policy regime? What are the implications of such a concept for the regime's rights and obligations? How will this affect the mechanism for settling disputes between investors and states? This last function is central to the regime and gives it its strength, yet it is precisely the existing dispute-settlement mechanism that is strongly questioned – especially by non-governmental organisations, but also by a number of governments. Any reform needs to address this challenge adequately to avoid threatening the very legitimacy of the regime.

In conclusion, governments need to find ways and means to increase sustainable foreign direct investment flows within a reformed international investment law and policy regime to realise the sustainable development potential of this investment.


Until 2002, foreign direct investment by multinational enterprises was widely viewed with suspicion, if not outright hostility. Multinationals were seen as icons of irresponsible business conduct and as instruments of political interference and neo-colonialism. In some instances this was true. Over time, however, more and more governments have come to recognise that the case for investment protectionism – on the grounds that foreign investment was, on balance, bad for development – had been overstated. In 2002, the Monterrey Consensus fundamentally transformed the development agenda by explicitly recognising that rather than being part of the problem, foreign direct investment can play an important role in financing development objectives. Many developing countries had already figured this out; for others, multinational enterprises have increasingly come to be seen as promising sources of employment, technology transfer and access to international markets.

This shift in attitudes motivated two high-profile attempts to negotiate multilateral rules that would facilitate international investment: the World Trade Organization Doha Round and the OECD Multilateral Agreement on Investment negotiations. Although these attempts failed, across the developing world a less conspicuous – yet transformational – agenda for domestic investment policy reform has led to greatly improved business climates, with impressive results. Between 2005 and 2014, foreign direct investment flows to non-OECD countries more than doubled in absolute terms; since 2012, these countries have accounted for more than 50% of the global total, compared to 35% in 2005 (Figure 2.2). More recent trends, however, are less encouraging. Some types of international investment in emerging economies are starting to decline: project finance, mainly for infrastructure, fell by a third over 2014-15 (Figure 2.7). Record-high corporate debt levels, slowing growth and the prospect of an increase in US interest rates are, in addition, providing restraints for would-be foreign investors in emerging markets.

With the challenge of financing the Sustainable Development Goals (SDGs) looming large, many are looking to foreign direct investment as a means of filling the financing gap (see the challenge piece by Karl P. Sauvant at the beginning of this chapter). This chapter examines recent trends in cross-border investment flows to developing countries and looks at the main factors shaping the outlook. It flags important warning signs that investment flows to the emerging and developing countries could experience a sharp slowdown over the coming years, in some cases even reversing.

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