Economic
Environment of
Business
Multinational Corporations (MNCs) and FDI
(Foreign Direct Investment)
What is an MNC?
“…it owns and operates production or
distribution facilities in two (Transnational) or more (Multinational)
countries” Atkinson & Miller, 1998, p210.
What are the characteristics of an
MNC?
It controls economic activities in more than
one country
It can take advantage of differences between
countries (e.g. geographical and natural)
It can move resources between different
parts of the world to avoid the use of markets.
(i.e. trade is determined by decisions taken
within the firm and the management set the
price charged on intra-firm activity).
Why do firms become MNCs?
oThe target market may be poor at distributing finished
goods (e.g. marketing and after-sales service)
oIt is hard to keep up with changes in market conditions
overseas- therefore better to be in the target country
oImport restrictions: e.g. non-tariff barriers
oExchange rate changes make trading hazardous
oStrategic alliances and licensing agreements with firms
in target market may be unreliable
What are the advantages for
MNCs?
Cut costs (typically via vertical integration)
Cut transaction costs (imperfect information and
negotiation costs etc) by internalising the market
(again, typically via vertical integration)
Improved marketing (hotels, car companies etc;
typically via horizontal integration)
Owner-specific advantages
What kind of owner-specific
advantages?




Patent- nobody can legally copy the product
Large-scale: scale economies
Technological advantage
Extending the product life cycle

(see Fig.7.3, Griffiths and Wall,2001, p121)
Foreign Direct Investment
The acquisition of share or loan capital
through mergers or joint ventures and also
through starting new subsidiary companies
The transfer of funds from parent
companies to overseas subsidiaries
The transfer of profits from overseas to the
parent company
NOT portfolio investment (investment in the
shares of a company)
Why carry out FDI?
The MNC will typically increase the capital stock of the
host nation, thereby raising the marginal productivity of
capital. Value is thus added to the domestic labour force.
The importance of FDI can also be seen in the sheer
amount of money involved:
Selected Inflows of FDI in 2004 ($m):
USA 95,859
UK 78,399
China 60,630
India 5,335
(Source: The
Economist, Pocket
World in Figures 2007)
Transfer pricing
Plants can switch parts between countries, such that
the low tax country plant shows the greatest profit,
thus lowering the tax burden of the MNC as a whole.
 Maximise global profit.
Balance of Payments
implications:
Increase trade and improve host’s BP
oTake profits out of host country and
worsen host’s BP, but:
Import substitution improves host’s
Balance of Trade
oMay be facilitating exports to other
countries
Implication for Jobs:
Local labour may be dismissed to increase
productivity but..
…may be recruited for new factories
Production may switch to other countries
o
(eg Ford switch from London to Belgium)
Effects of MNCs on Competition:

MNCs often play-off governments to receive
inducements. E.g. Ford.

They may move operations from countries with
unfavourable conditions.

The strength of their bargaining position will be
subject to their importance as an employer, their
investment and their reliance on the host country.
Competition (cont.)

The host can always ultimately deny access to its
markets and natural resources. It can provide
incentives such as tax breaks, infra-structure etc. It
may still be pressured to allow such firms to bring in
investment and with it jobs.

Although some would claim that the MNCs are too
powerful, they can and do bring benefits to many
host countries.
Summary
We established:
 A definition of MNCs
 Motives for becoming an MNC
 The importance of FDI
 Implications of MNCs for globalisation and
host countries