Foreign Investment, Transnationals and Developing Countries

We have now reached a stage of profound disillusionment with development economics. The days of optimism, when the problems of the poorer countries were thought to be fairly well understood, and when the solutions, though not easy, were thought at least to be amenable to the conventional tools of economic analysis, are almost past. There was a time when certain views on economic development were held with the conviction and clarity of Victorian morals: development meant, or at least was measured by, the growth of national product per head; governments could adopt generally agreed-upon policies to provide such development, by planning (balanced or unbalanced) economic growth and by encouraging international aid, trade and investment; there was often the implicit assumption of a fundamental harmony of interests both between different classes or groups within the poor countries and between different nations; the transfer of the most advanced technology and knowledge from the rich to the poor countries was considered desirable and necessary; and, more generally, there were purely ‘economic’ answers to problems of underdevelopment. The main conflict was seen to be neither between classes nor between nations but an intertemporal one: between consumption now and more consumption later, as a result of the savings effort. The maximum feasible savings ratio, combined with a largely technically determined capital-output ratio, yielded the target growth rate. The role of international ‘co-operation’, including foreign investment, was to supply missing components, in the form of extra savings, foreign exchange or skills, so as to accelerate the government-organised march of the people towards ‘take-off’.

The description of TNCs advanced in the previous chapter may already have suggested many of their prominent characteristics. Such a description is, however, not sufficient to provide an explanation of why firms expand abroad and are concentrated in certain industries, nor of how they react to each other’s moves and to the demands of increasing size. It will be useful for our purpose to review briefly the existing literature on this, using the classification of approaches—economic, organisational and motivational—adopted in the last chapter, and to highlight their main features, which to a large extent determine their effects on developing host economies.

The effects of foreign private investment on host LDCs are a subject on which there is considerable controversy and confusion. Not only does endless debate take place about the existence and magnitude of the various costs and benefits, but there is also fundamental disagreement about what constitutes ‘cost’ or ‘benefit’.¹ It is not uncommon to find different writers accusing each other of ‘bias’, ‘prejudice’, ‘subjectivity’ or even ‘extremism’ when discussing the welfare effects of TNCs, each implying that his own approach is in some way more neutral and objective. No normative analysis (dealing, in this case, with judgements about what is ‘good’ or ‘bad’ for society) can be value-free and objective, and certainly economics, despite the pretensions of several ‘rigorous’ practitioners, does not provide us with neutral, scientific tools for tackling welfare problems.² One may be consistent or inconsistent in welfare arguments or be more or less persuasive — but ultimately there is no scientific test of right or wrong. For this reason there cannot be a final objective judgement on the welfare implications of TNCs for developing countries.

The traditional method of analysing the effects of foreign investment has been to treat it as a ‘general’ inflow of capital from abroad, and to use the standard tools of neoclassical welfare, trade and growth theory to work out its impact on the host economy. By a ‘general’ inflow of capital we mean one or both of two things: first, in the narrow usage of ‘pure’ trade theory, direct investment inflows often are not distinguished from other types of capital inflows (loans, portfolio investments) from abroad, the whole being treated as foreign ‘borrowing’; second, in a slightly broader sense, foreign direct investment is differentiated from other capital inflows—but by virtue of the fact that profits rather than interest are paid abroad, and that the risk element is rather different—but the main distinguishing features of the large oligopolists (which in fact dominate international investment) are not taken into account in any significant way.

In this part of the book we shall deal with the methods used in, and the main findings of, empirical studies of the balance-of-payments and income effects of particular foreign investments in the manufacturing sectors of six less-developed countries: Jamaica, Kenya, India, Iran, Colombia and Malaysia. These studies were undertaken on behalf of the UNCTAD secretariat, and were conducted in three stages, covering two countries at a time, with the respective reports being circulated by UNCTAD over a period of three years (1970–3). The present chapter briefly describes the conduct of the research, the nature of the firms in the sample and the general policies pursued by the host governments with respect to foreign investment. Chapter 6 presents some data on the financial structure, profitability and performance of the sample firms. Chapter 7 gives the ‘direct’ balance-of-payments effects. The tools used to evaluate the ‘total’ balance-of-payments and ‘social’ income effects of these firms are discussed in Chapter 8, and the results obtained in Chapter 9. In Chapter 10 the merits and weaknesses of the approach used in trying to quantify the ‘social’ effects of foreign investments are assessed.

In this chapter we shall present a brief analysis of some aspects of the sample firms’ performance, financing and profitability as shown by their annual balance sheets and profit-and-loss accounts. A great deal of attention is devoted in the literature to discussing how foreign investors finance their investments, how profitable transnationals are, and how they ‘perform’ in various respects vis à vis other firms in less-developed countries; yet there is still a large grey area of semi-ignorance on these matters, illuminated only by fragmentary and scattered evidence, from small samples or else provided on a highly aggregated basis by capital-exporting countries (mainly the USA).¹ Our data, pertaining mainly to the 109 sample firms from India and Colombia, can add only a little to the empirical knowledge that exists (the analysis of financial patterns, productivity and performance was not germane to the main purposes of our research and so was not pursued at great length), but it may none the less prove useful in clarifying some of the issues.

The ‘direct’ balance-of-payments effects of a firm (B _d ), defined as those which immediately affect the foreign exchanges, may be derived thus:

The primary aim of our research project, to quantify the balance-of-payments effects of particular foreign investments, may not at first sight appear to raise any great theoretical difficulties. The immediate balance-of-payments effects of an investment, given by the direct impact of its operations on the host country’s foreign exchanges, have all been discussed already, and have been shown to raise a number of problems regarding oligopolistic practices, regulation and bargaining — all issues of great practical importance, but not particularly complex or baffling from the viewpoint of economic theory.

The findings of our studies on the ‘total’ balance-of-payments and ‘social’ income effects are presented in the order in which the alternative positions were described in the preceding chapter. The first section deals with the results of Alternative I, the Little — Mirrlees (LM) model, which forms the core of the work done to quantify the ‘total’ effects; the second deals with the results of Alternative II, ‘financial’ replacement; and the third deals with those of Alternative III, ‘most likely’ local replacement.

The last two chapters have described very briefly our examination of the ‘social’ income effects of sample firms on host economies, under a variety of assumptions. The original UNCTAD studies went into much more detail about the method and reported the results (including those of several alternative assumptions not mentioned here) at greater length. The simulation model used was ingenious and powerful. It could handle some sixty to eighty items of information for every firm for each year, transforming each into ‘shadow’ values according to different assumptions, allowing for different rates of tariff, taxation and inflation on each, tracking down the groups which gained or lost from the welfare evaluation of each, and simulating a number of ‘alternative positions’ after allowing for different rates of domestic replacement, differing efficiencies, effects of changes in scale, ‘learning’, and so on. In fact, only a fraction of the simulator’s potential was used. The parameters required were missing, and the possibility of virtually endless simulation, in return for practically no real addition to our knowledge, was a strong deterrent.

This part of the book deals with the policy issues facing host governments in LDCs. The previous discussions should have made it amply clear that TNCs raise a wide spectrum of problems for government policy. These range from the detailed work of bargaining with foreign companies and regulating and evaluating their investments to broad issues of defining national socio-economic objectives and creating the right political and institutional structures for the realisation of them.

In the previous chapter we assumed that host governments in LDCs were willing and able to formulate and implement comprehensive policies towards TNCs. It is now time to drop this assumption and to be more realistic.