Inward Foreign Direct Investment and Economic

Performance: Explaining the Paradox of New Zealand

Peter Enderwick

Introduction

• Nature of the paradox• Contrary experience of Singapore, Ireland,

Mauritius • IFDI plays a central role in the goal of

returning NZ to the top half of OECD

Introduction

• Intention to explain why IFDI has not had the expected growth impact in NZ

• Coverage– IFDI and growth– NZ experience with IFDI– Simple schematic model– Key implications of the model– Conclusions

FDI and Economic Growth

• Majority of studies find a positive association

• Growth theory highlights the likely impacts:– demonstration effects– competition effects– labour mobility– linkages

FDI and Economic Growth

• Studies indicate IFDI is necessary but not sufficient– benefit from liberal investment climate– magnitude of the technology gap– supportive policy

• policy influences the investment climate• intervention to facilitate FDI attraction, upgrading

and promotion of linkages

NZ’s Experience with IFDI

• Three distinct cycles of IFDI– 1840s open E-O economy IFDI expanded

production– 1938-1984 IFDI in inefficient, protected

manufacturing sector– 1984 sale of former SOE assets

• Inflows of FDI slowed significantly in late 1990s.

Table 1 Inward Investment Flows as a Percentage of Gross Fixed Capital Formation

1986-91(annualaverage)

1992 1993 1994 1995 1996 1997 1998 1999 2000

Alldevelopedcountries

3.5 2.6 3.0 2.8 3.9 3.6 6.0 10.7 17.4 25.0

NewZealand

19.2 31.6 27.7 25.8 21.4 15.4 19.2 11.1 12.8 38.2

Source: UNCTAD (2002)

Table 2 Inward FDI Stock as Percentage of GDP 1980-2000

1980 1985 1990 1995 2000All developed countries 3.8 4.9 6.6 8.9 17.1New Zealand 10.5 9.0 18.7 43.1 49.4

Source: UNCTAD (2002)

Of NZ’s top 200 companies, 83 are foreign-owned

Transnationality Index

• This composite index combines measures of a country’s dependence on FDI and its use of these resources.

• 1999 NZ had a TI of 28.1 much higher than the average for all 74 countries surveyed.

Transnationality Index

• NZ is much closer to the average on the two measures that relate to use of FDI resources.

• Suggests that while NZ is highly dependent on IFDI, it does not utilise those resources to the fullest extent.

NZ’s Performance

• NZ’s comparative economic performance has not been strong. 1974 NZ was 6th ranked of OECD countries, by 2002 was 20th.

• OECD incomes are on average 22% higher than NZ.

• Productivity growth has also been poor.

NZ’s Performance

• WEF International competitiveness ranking

• 1998 13• 1999 13• 2000 20• 2001 10• 2002 16

Forms of FDI

• Research suggests that the quantity of FDI must be considered in terms of both its form and the recipient environment.– Vast majority of FDI in recent years been through

M&As.– Half of the greenfield investment gone into property– Most IFDI focuses on the domestic economy

(results in low level of exports as % GDP)

Policy Focus

• CONCEPTUAL:• Explanations based on size/location cannot

explain:– how other small countries are prosperous– why NZ was wealthy in earlier periods

• Combination of size/location would suggest problems in attracting IFDI not its performance

Policy Focus

• EMPIRICAL• Evidence from numerous studies of the

importance of policy• Evidence from NZ surveys of foreign

investors

Existing level and structure of FDI

Level and forms of locational advantage

Government policy towards FDI

Government policies towards business

Collective competitive goods

Expenditure on welfare and adjustment processes

New Zealand’s economic performance

Policy consistency and synergy

Figure 1 Inward Investment and New Zealand’s Economic Performance

Modelling the Impact of IFDI

• Figure 1 highlights the importance of policy– Policy towards IFDI best described as passive.– Business and economic development not been

prioritised.– Problems of policy inconsistency and lack of

synergy.– MMP appears to have compounded these

problems.

Modelling the Impact of IFDI

• Global economy raises tensions between the need for investment in collective competitive goods (infrastructure, R&D, education) and welfare/adjustment.

• Both are necessary and compete for scarce resources, the policy issue is the appropriate balance.

Modelling the Impact of IFDI

• Performance of the existing stock of foreign firms is also important. 1999 accounted for 15.8% of employment and 22.4% of va.

• Impact of this sector depends on:– motives for investment– attractiveness of the NZ environment

(incentives for upgrading)– mechanisms encouraging spillovers

Key Implications

• Two elements to inward investment: the stock of FDI and flow of new FDI.

• Explanation focuses on five failures:– Policy balance– Policy inconsistency– Policy pragmatism– Insufficient investment in competitive assets– Constraints on firm size and growth

Policy balance(1)

Policy inconsistency(2)

Pragmaticintervention(3)

Insufficient and inappropriate expenditures (4)

Constraints on firm growth and development (5)

Level, structure and dynamism of IFDI

Domestic conditions for growth and development

Conditions for maximizing the IDP process

Slow rates of growth

Impacted by:Uncertainties

Impacted by:Inappropriate expenditures

Impacted by:Constraints

in New ZealandFigure 2 Policy Impacts and FDI Outcomes in New Zealand

Policy Uncertainties

• 1. Policy Balance– Globalisation has limited discretionary economic

power– Response has combined economic liberalisation and

social regulation– Opaque notion of the ‘Third Way’– Has raised compliance costs– Many of the problems result from a lack of clear

policy intentions

Policy Uncertainties

• 2. Policy Inconsistencies– Problem of inconsistent implementation of

policies– Two sources of inconsistency:

• Political institutions in NZ;• MMP

Policy Uncertainties

• Naïve Political Institutional Structure– NZ lacks:

• written constitution• multi-cameral parliament• federal structure• assertive constitutional court• binding referendum system

• Result is high rates of policy change, reversal and inconsistency.

Policy Uncertainties

• Inconsistency compounded by MMP:– more coalition governments– increased the importance of Parliament – select committee processes become more

important– affected cabinet and ministerial responsibility– assertiveness of minor parties

Policy Uncertainties

• Policy inconsistency also existed under FPP:– breaking of election promises– policy not in the interests of the entire

community– MMP brings different problems - lack of

accountability e.g. list MPs allegiance is to their parties

Policy Uncertainties

• 3. Policy Pragmatism • Individual interventions• Reflect the highly centralised political decision-

making structure• In NZ has involved:

– restrictions (logging, gold mining)– ad hoc rescues (airlines, railways?)– superior understanding of desires (the arts, America’s

Cup)

Policy Uncertainties

• Policy pragmatism is highly destabilising, shows disregard for property rights.

• Policy uncertainty reflects:– introduction of MMP– demise of effective political competition– policy trade-offs resulting from globalisation– addressing minority party concerns

Structural Weaknesses

• With regard to IFDI NZ suffers two structural weaknesses:

• 1. Insufficient investment in collective competitive goods;

• 2. Constraints on firm growth and development.

Under-investment in collective competitive goods

• Government expenditure on welfare crowds out other investments

• Results in problems in critical areas of infrastructure e.g. energy, roading, transport

• Room for improvement in areas of education and R&D

• Need to obtain agglomeration economies in Auckland

Constraints on firm growth

• Maximising the contribution of IFDI requires a dynamic domestic firm sector– High rates of entrepreneurship– But are small, domestic focus, high failure rates

lifestyle choices– Apparent barriers to growth (capital,

management, market size, lack of scale)– underdevelopment of clusters

Constraints on firm growth

• Ineffectiveness of spillover processes apparent from figures on OFDI

Table 3 Outward FDI Stocks as % of GDP 1980-2000

1980 1985 1990 1995 2000All developed countries 6.2 7.2 9.6 11.3 22.1New Zealand 2.3 6.6 14.7 12.6 10.8

Source: UNCTAD (2002)

Conclusions

• Policy weaknesses are key to NZ paradox with respect to INFDI and growth.

• Question the transformation approach based on NZ’s location and size.

• Fallacy of the BCG analysis• Need for stable, credible economic growth strategy.

Need to increase certainty• NZ investment climate seen in relative terms e.g.

Australia

IPA Spending on FDI Promotion

Country Annual FDIPromotionBudget(US$m)

Per capitabudget(US$)

Ireland (IDA 1999including grants) 213 57.6Ireland (IDA, 1999,excluding grants) 41 11.2Singapore (EDB) 45 14.1Costa Rica (CINDE) 11 3.14Mauritius ExportDevelopment andInvestment Authority(1996)

3.1 2.6

Thailand (BOI) 10 1.5Dominican Republic (IPC) 8.8 1.1Malaysia (MIDA) 15 0.7Zimbabwe (ZIC 1996) 1.2 0.1Philippines (BOI) 3 0.04Indonesia (BKPM) 2.8 0.01New Zealand (InvestNZ) 3.0 0.75