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Policies towards foreign direct investment in developing countries: emerging best-practices and outstanding issues

Working paper

Written by Dirk Willem te Velde

Working paper

Governments in developing countries are increasingly looking for best-practice policies towards inward Foreign Direct Investment (FDI). FDI can bring positive effects (market access, technology, finance, skills), but also negative effects and hence a substantial quantity of FDI alone is not sufficient to generate economic growth and poverty reduction. The positive effects are not automatic for host countries and depend on policies in place and other factors. The policy factors can be divided into 1) specific industrial policies and 2) macro-economic policies and into whether they are used to 1) attract FDI 2) upgrade FDI or 3) enhance linkages and spillovers to domestic firms. Which policies are important in which country depends on how they fit in with the development strategy to achieve predefined objectives taking into account specific country characteristics. However, they are likely to be some combination of policies in each of the above categories. Whilst many of the richer countries with more public resources and local capabilities can employ a risky and costly pro-active stance towards FDI (e.g. Singapore and Ireland), poorer countries are left behind with relatively fewer local capabilities. This is particularly worrying since local capabilities play a dual role of attracting FDI and absorbing positive spillovers associated with FDI.

Dirk Willem te Velde