According to recent estimates by the United Nations Conference on Trade in Development (UNCTAD), global foreign direct investment (FDI) flows have decreased by 42 percent year-over-year in 2020 and will most probably not start to recover until 2022.

Even though developed countries have experienced the most significant fall, developing countries are also losing a lot. However, since FDI could be considered a tool to help developing countries coping with the coronavirus crisis, that’s concerning, even though India, for example, has tried to facilitate the inflow of FDI.

What is Foreign Direct Investment?

Foreign investments can be divided into portfolio investments and foreign direct investments (FDI). Portfolio investments occur when an investor acquires a minority stake in an existing firm and holds less than 10 percent ownership. According to the international standard definition, a foreign direct investment (FDI) occurs when a foreign investor gains a controlling interest in the company abroad and has a minimum of 10 percent ownership. FDI, therefore, takes place when:

  • An investor from another country buys 10 percent or more of an existing business in the host economy through a merger or acquisition (M&A).
  • A foreign-owned firm establishes a new affiliate in the host economy through greenfield or brownfield investments. Brownfield investments occur when the firm purchases or leases existing production facilities to launch a new production activity, while greenfield investments refer to constructing a new plant.
  • A foreign-owned firm in the host economy expands its business through reinvested earnings or locally raised capital.

Why is Foreign Direct Investment important?

FDI promotes the international division of labor and helps companies build global value chains (GVCs) that, in turn, are important to exchange know-how between suppliers. In this way, FDI contributes to increasing economic interdependence between countries and people.

FDI creates jobs, increases tax revenues, and can reduce the cost of both consumer goods and factors of production. As a result, economic growth, productivity, and living standards usually rise in the countries involved.

In developing and emerging economies, in particular, the transfer of capital, technology, and know-how through FDI can play a crucial role in economic development. For China, for example, foreign direct investment was an essential component of the reform and opening-up policy from the 1980s onward and made a significant contribution to the country’s economic rise. Other developing countries have been trying to copy this development model.

Foreign Direct Investment is in Free Fall

On January 24, the United Nations Conference on Trade and Development (UNCTAD)  published preliminary estimates on global foreign direct investment (FDI) flows. And there is hardly any good news: While global FDI flows are down by 42 percent in total, FDI in developed countries is estimated to have fallen by 69 percent. Developing countries were not hit as hard, with a decrease of only 12 percent.

However, the decline appears to be mostly due to a sharp drop in greenfield project announcements (-46 percent for developing countries), an important indicator for new FDI activities. Since greenfield investment is especially important for creating jobs and increasing productivity, prospects are still gloomy. Only China might have a reason to celebrate: For the first time, the Middle Kingdom is the largest recipient of FDI inflows, thus overtaking the United States as the long-term uncontested number-one FDI destination.

Developing countries’ reaction to COVID-19: The example of India

India reacted quickly to the consequences of the coronavirus crisis on FDI flows by taking a range of measures to steer FDI inflows in April 2020  – not all of which were aimed at facilitation, though. The actions can be tracked by looking at 2020 media coverage for FDI in India. Using a cutting-edge consumer intelligence platform, we can see three peaks:

  • The highest media coverage for FDI occurred on April 18, 2020, with Rahul Gandhi (Member of the Indian National Congress) getting more than 10,000 retweets on India’s decision to require government approval for FDI in specific cases. These specific cases are mainly pointed in China’s direction as government approval for FDI inflow from neighboring states is now mandatory.
  • The second-most prevalent mention of FDI in the media took place on May 16, 2020. On this day, India announced that it raised the FDI limit in defense manufacturing from 49% to 74%.
  • The third-highest media coverage of FDI was on July 22, 2020. On that date, India raised the FDI cap for investment in insurance to 49 percent.

For the time being, India seems to have fared well with the decision to take a two-fold approach to FDI in the COVID-19 crisis. UNCTAD estimates FDI inflows to India to have risen by 13 percent in 2020, which is more than the increase for China and well above numbers from any developed country.

India’s reaction also shows that the coronavirus pandemic, on the one hand, offers momentum for developing countries to relax controls on FDI to remain attractive to foreign investors in times of crisis. India did that by making it easier for outside investors to engage in specific sectors, which were much more restricted to them beforehand.

On the other hand, India’s case also points out that FDI is no one-way street and increasingly bears geopolitical implications. If one country introduces protectionist measures as China did with neighboring countries, including India, political tensions could become a risk if the countries involved unilaterally keep their markets open. They could, in turn, be tempted to retaliate with protectionist measures.