What drives FDI?

The relationship between strengthening the international legal framework and the flow of Foreign Direct Investment (FDI) has been a contested one. Proponents argue that a strong, pro-investor friendly regime is a pre-requisite for encouraging FDI into an economy while the naysayers argue that other factors are critical to FDI flow and not the international investment regime.

WSJ's piece on FDI flows during the pandemic is revealing. FDI as a percentage of GDP has fallen from 3.39% in 2007 to 1.24% in 2021. And it is expected to fall further.

What are the factors impacting FDI flows - both equity investments as well as greenfield investment. For one, the covid situation across the world would be a factor. An interesting aspect of FDI growth is the ability for investors to travel - fairly straightforward right? You can't travel - how will you decide on investing abroad!

FDI is particularly sensitive to the ability of investors to travel. Buying shares in a manufacturing firm in a foreign country is one thing. Buying a plot of land, building a facility and running the factory yourself is quite another: FDI cannot fully recover until international travel starts approaching previous levels.

Reference to a report by Kearny on FDI global trends was interesting. What are the factors that influence business leaders to invest in economies?

As per this table in the report referred to above, "strength of investor and property rights" stands sixth. Does this refer to strong IIAs with ISDS clauses? What if the other factors are stronger without a IIA in place? Or is it a combination of factors? Also, investment facilitation probably has a role when looking at point 4. But overall, the domestic regulatory framework of taxes and governance efficiency seems to play a major part.

Interestingly, data protection and localisation issues figures pretty high in the confidence boosters:

Local storage requirements mandating that companies must keep a copy of certain types of data within their national territories are also growing more common in other parts of the world and are top of mind for investors (see figure 9). This often applies to specific types of data, such as accounting or bookkeeping. Denmark is one example of a nation that mandates local storage of accounting data through its Book Keeping Act, which dictates that companies must store their accounting data for five years. Under special circumstances, the Danish Commerce and Companies Agency may grant companies permission to preserve accounting records abroad. However, permission is rarely granted. Finland’s Accounting Act (1997) also requires that companies store a copy of their accounting records, though the records can be stored in another EU country if a real-time connection to the data is guaranteed. And Germany’s Commercial Code requires companies to store accounting data and documents locally.

Data localisation does impact costs and it is something businesses have to factor in.

In terms of risk factors that businesses look at, the report suggests the following:

However, lack of strong investor protection or the mode of dispute settlement doesn't seem to be a major factor.

What explains Brazil's position in the ranking then? It is in the top 25 - without BITS and ISDS.

The analysis above indicates that there are a multitude of factors that businesses look at in terms of potential investment destinations. The existence of BITS as well as provisions relating to ISDS may be a small or insignificant part of the overall consideration. On th eother hand, in countries that do have a high confidence rating, these protections do exist.

Scope for further research?