Asia sees outward FDI with its growing stake in world economy: ADB

Written by Sajan C Kumar | Chennai | Updated: Aug 19 2009, 06:27am hrs
While FDI inflows have made important contribution to the rapid industrialisation and growth of Asia in the past, the region has now itself become a significant source of FDI, says an Asian Development Banks (ADB) working paper on Asias sovereign wealth funds and outward FDI. Part of this transformation has to do with the growing relative weight of the region in the global economy and the emergence of globally competitive companies with the willingness and capacity to venture abroad. Asia is no longer merely the recipient of investments from internationally active multinationals but the home region of a rising number of companies with operations all over the world. Another major rationale behind the growth of outward FDI from the region is its transformation from a net importer of capital to a net exporter of capital since the Asian crisis of 1997-1998. Prior to that crisis, Asia was a capital-scarce region that relied on FDI and other external inflows to fuel its rapid growth.

One significant symptom of the transformation of Asia into net capital exporters has been the emergence of Sovereign Wealth Funds (SWFs) in the region. Another significant symptom is the rapid growth of outward FDI from the region. More generally, rising outward FDI from Asia is a consequence of its rapid economic growth and development, which has given birth to growing numbers of companies with the capacity to acquire and manage overseas assets. The growth of outward FDI from Asia is part of a broader trend of outward FDI from developing countries as a whole. This trend has been an integral part of the fast-growing share of developing countries in the global economy. Developing countries as a group have been growing significantly faster than developed countries over the past few decades, says the paper. For the most part, the intermediation of Asias surplus savings was performed by the public sector rather than the private sector. In particular, the regions central banks accumulated forex reserves on an unprecedented scale and speed since the crisis, and invested them mostly in safe and liquid but low-yield assets (ie, traditional reserve assets) such as US government bonds, according to the working paper.

The forex reserves have reached levels where there is a consensus that the region now has substantially more reserves than all plausible estimates of what it needs for liquidity purposes. SWFs have emerged in Asia as a policy response to political pressures for more active management of surplus reserves or reserves that are in excess of liquidity needs, with a view toward maximising risk-adjusted returns. Therefore, notwithstanding the concerns of host countries about noncommercial ulterior motives, SWFs are fundamentally commercial creations created with the very purpose of making as much money as possible for their ownersthe governmentsubject to tolerable risk.

The paper says FDI, which typically involves equity shares large enough to influence the management and a long-term relationship, is certainly one mode of investment available for earning higher returns than can be earned from traditional reserve assets.

Tracking record of the gradual transformation, the paper says although outward FDI was one of the main potential avenues for managing surplus forex reserves more actively, developing countries have traditionally been recipients of inward FDI rather than sources of outward FDI. The flow of FDI from rich countries to poor countries was an integral part of the broader flow of capital from rich countries to poor countries. Such flows are consistent with economic intuition since it implies that capital is flowing from capital-abundant countries where marginal returns to capital are low to capital-scarce countries where marginal returns to capital are high. Since the mid-1990s, however, capital has been flowing uphill from developing countries to developed countries primarily as a result of global imbalances, ie, large and persistent current account deficits of developed countries, in particular the United States, counterbalanced by large and persistent current account surpluses of developing countries, in particular developing Asia and oil-exporting countries. One significant consequence of the uphill flow of capital has been that many developing countries have now become significant outward foreign direct investors in their own right and an increasingly significant source of outward FDI. This trend not only reflects the transformation of developing countries as a whole into net capital exporters but also the broader trend of their fast-rising relative weight in the world economy due to their more rapid economic growth relative to developed countries, says the paper.

According to the paper, the upshot is that the global economic landscape today is very much different from that of 30 years ago when global economic activity was dominated by developed countries, and developing countries merely played a secondary supporting role. One interesting element of this change has been the growing importance of developing countries as a source of outward FDI. The primary vehicle for outward FDI has been multinational corporations (MNCs) operating across borders. The predominant majority of those firms have traditionally come from developed countries. Large and well-established MNCs such as Coca Cola, Toyota or Siemens almost invariably hail from the European Union (EU), Japan, and US. The role of developing countries in the context of MNCs was largely limited to hosting MNCs from developed countries. Examples include US software companies setting up research facilities in India, Japanese manufacturers establishing production facilities in the PRC, or British banks acquiring financial institutions in Brazil. Until quite recently, this stereotype of developed countries as homes of MNCs, and developing countries as hosts of MNCs, had been firmly rooted in empirical reality (Dunning 1993). Although it is true that there were MNCs from developing countries in the past, they were nowhere near as active or visible as they are today.