Global foreign direct investment (FDI) flows fell by 13 per cent in 2018 to $1.3 trillion, the third consecutive year of a decline in FDI, the United Nations Conference on Trade and Development (UNCTAD) has said.
In its World Investment Report 2019, UNCTAD said that the decline was mainly due to large-scale repatriations of accumulated foreign earnings by United States multinational enterprises (MNEs) in the first two quarters of 2018, following tax reforms introduced in that country at the end of 2017.
Going forward, UNCTAD has forecast global investment to see a modest recovery of 10 per cent in 2019.“Geopolitical risks, trade tensions and concerns about a shift towards more protectionist policies could have a negative impact on FDI in 2019,” it, however, cautioned.
In other findings, UNCTAD said that new national investment policy measures show a more critical stance towards foreign investment.
In 2018, some 55 economies introduced at least 112 measures affecting foreign investment. More than one third of these measures introduced new restrictions or regulations – the highest number for two decades.
According to UNCTAD, they mainly reflected national security concerns about foreign ownership of critical infrastructure, core technologies and other sensitive business assets.
Furthermore, at least 22 large M&A (merger & acquisitions) deals were withdrawn or blocked for regulatory or political reasons – twice as many as in 2017.
Also highlighting the main theme for its report this year which is on special economic zones (SEZs), UNCTAD said that SEZs are widely used in most developing and many developed economies.
Within these geographically delimited areas governments facilitate industrial activity through fiscal and regulatory incentives and infrastructure support.
There are nearly 5,400 zones across 147 economies today, up from about 4,000 five years ago, and more than 500 new SEZs are in the pipeline.
“The SEZ boom is part of a new wave of industrial policies and a response to increasing competition for internationally mobile investment,” said UNCTAD.
At a media briefing on 11 June, Dr Mukhisa Kituyi, the Secretary-General of UNCTAD, said that after the sharp decline in FDI flows in 2017, there was a continued decline in FDI flows in 2018, falling by 13% globally to $1.3 trillion.
A significant pattern was the most substantial decline in FDI flows to the developed economies, falling by up to 27%, the lowest level since 2004.
A large segment of the decline in FDI to the developed economies was accounted for by the change in tax policies in the United States.
Developing Asia remained the largest recipient of FDI globally at 4%. Most importantly, after the flattening out in 2017, the year 2018 saw a virtual doubling of greenfield investments in resource-driven industries in East Asia, Dr Kituyi underlined.
One of the main reasons to explain the global decline in FDI is related to the trade wars (between the US and China), and the geopolitical issues underpinning the trade wars that impact investment flows, he said.
In addition, multinational enterprises have continued to shift their modus operandi to light-footprint investments in intangibles.
Turbulence or uncertainty, and the decline in FDI flows is not short-term, said Dr Kituyi.
The “Cold War” in technological competition that underpins the trade wars is not going to be over in the next few years, and this is one of the factors that is going to be with us for some time, he added.
He also said that the shifting modus operandi of multinational enterprises is tilting priority away from low-cost labour as a main incentive for destination investment and more towards digital preparedness.
The ecosystem for investment in the digital economy is more attractive as an incentive for investors than the fact that you have low-cost labour, said the UNCTAD Secretary-General.
Countries have to look again at industrial policies which have been very important. For many countries, the frontier of industrial policy to address the creation of employment opportunities, and investments to trigger technological absorption, have shifted towards special economic zones, he added.
The decline of global FDI is shaped by policies rather than by economic cycles, said James Zhan, Director of the UNCTAD Division on Investment and Enterprise.
Last year, there were 55 countries that introduced 112 investment policy measures that impact on investment.
While the majority of the policy measures were still in the direction of liberalization, facilitation, and protection of international investment, the measures relating to restrictions of international investment increased, with the ratio reaching 37%, the highest since 2003, he said.
TRENDS IN FDI FLOWS
According to the UNCTAD report, the fall in FDI in 2018 took place despite an 18 per cent rise in cross-border merger and acquisitions (M&As) (from $694 billion in 2017 to $816 billion in 2018).
The negative trend is also in contrast to a 41 per cent jump in announced greenfield investment values (from $698 billion to $981 billion).
FDI flows declined sharply in developed countries and economies in transition while those to developing countries remained stable, rising by 2 per cent.
As a result, developing economies accounted for a growing share of global FDI, at 54 per cent, from 46 per cent in 2017.
Repatriations of foreign earnings of US multinationals abated in the second half of 2018.
The lifting of tax liabilities on accumulated foreign earnings of United States MNEs may have contributed to the M&A boom recorded in the last quarter, limiting the global FDI decline for the year, after projections based on the first six months had estimated that annual inflows would be down by more than 40 per cent, said UNCTAD.
Even disregarding the fluctuations caused by the tax reform and the increase in cross-border M&As, the underlying FDI trend – which discounts the volatility caused by one-off transactions and swings in intra-firm financial flows – was still negative.
Average annual growth in the underlying trend, which was above 10 per cent until a decade ago, has since stagnated at less than 1 per cent.
That weak underlying trend will continue to affect FDI prospects, said UNCTAD.
FDI flows to developed economies reached their lowest point since 2004, declining by 27 per cent. Flows to Europe more than halved to $172 billion while those to North America were more resilient, declining by 4 per cent to $291 billion.
Although cross-border M&A deal making remained active, rising by 21 per cent in value, it was not enough to compensate for the negative outward FDI from the United States caused by the tax reforms.
In Europe, a few important host countries, such as Ireland and Switzerland, registered negative inflows of $66 billion and $87 billion, respectively. FDI flows to the United Kingdom also declined, by 36 per cent to $64 billion, as new equity investments halved.
Despite the repatriations, the completion of a number of mega-deals resulted in higher flows to the Netherlands (up 20 per cent to $70 billion) and Spain (where inflows doubled to $44 billion).
In the United States, FDI inflows declined by 9 per cent, to $252 billion, mainly due to a fall of one third in cross-border M&A sales.
Australia’s FDI inflows reached $60 billion – a record level – as foreign affiliates reinvested a record $25 billion of their profits in the country.
FDI flows to developing economies remained stable, rising by 2 per cent to $706 billion, with significant differences among regions.
Developing Asia and Africa recorded higher FDI inflows in 2018, while FDI contracted in Latin America and the Caribbean.
Developing Asia, already the largest recipient region of FDI flows, registered an FDI rise of 4 per cent to $512 billion in 2018, with positive growth occurring in all sub-regions.
China, the largest developing economy FDI recipient, attracted $139 billion, an increase of 4 per cent.
Flows to South-East Asia rose – for the third consecutive year – by 3 per cent to a new record level ($149 billion).
FDI flows to Africa expanded by 11 per cent to $46 billion, still below the annual average of the last 10 years (at about $50 billion).
The rise in flows was mainly due to the continuation of resource-seeking investments, slowly expanding diversified investments in a few economies, and a more than doubling of FDI flows to South Africa (from $2 billion to $5.3 billion), said the UNCTAD report.
FDI in Latin America and the Caribbean was 6 per cent lower ($147 billion) in 2018, failing to maintain momentum after the increase in 2017 (which followed five years of negative growth).
In South America, FDI declined due to lower flows to Brazil and Colombia; in Central America, inflows remained stable.
After a plunge in 2017, FDI flows to transition economies continued their downward trend in 2018, declining by 28 per cent to $34 billion.
The contraction was driven by a halving of flows to the Russian Federation, by far the biggest economy and largest FDI recipient in the group, from $26 billion to $13 billion.
Part of the decline was due to re-domiciliation of overseas entities that hold assets in the Russian Federation.
Half of the top 20 host economies in the world continue to be developing and transition economies, said UNCTAD.
Despite the FDI decline, the United States remained the largest recipient of FDI, followed by China, Hong Kong (China) and Singapore.
In other findings, UNCTAD said that in 2018, MNEs from developed countries reduced their investments abroad by 40 per cent to $558 billion. As a result, their share in global outward FDI dropped to 55 per cent – the lowest ever recorded.
“The significant decline was less a reflection of real investment intentions than of the impact of the large-scale repatriations of accumulated foreign earnings by United States MNEs, which resulted in negative outflows,” said UNCTAD.
In the first half of 2018, the reinvested earnings of United States MNEs slumped by a net $367 billion and turned sharply negative, at -$200 billion, compared with a positive $168 billion in the same period in 2017.
Although reinvested earnings in the second half of the year reverted to a positive value, FDI outflows from the United States for the full year still declined sharply, to -$64 billion, compared with $300 billion in 2017.
In addition to the immediate repatriation effect, the tax reforms resolved the tax liability overhang on overseas assets, which may have contributed to a jump in cross-border M&A purchases by United States MNEs to $253 billion – a record high.
Almost half of those purchases were registered in the fourth quarter of 2018. The majority of acquisitions took place in the EU, mainly in the United Kingdom and Germany, but also in India and Japan.
Outflows from European MNEs rose by 11 per cent to $418 billion. French MNEs invested more than $100 billion in 2018, all in equity investment, becoming the third largest investor country in the world.
Outflows from Ireland and Switzerland, both of which had recorded negative outflows in 2017, turned positive, reaching $13 billion (up $52 billion) and $27 billion (up $62 billion) respectively.
In contrast, outflows from the United Kingdom declined to $50 billion from $118 billion in 2017 despite a significant rise in cross-border M&As.
Investment from German MNEs also declined by 16 per cent to $77 billion. Although the value of their net M&A purchases more than doubled to $73 billion due to the merger of Bayer with Monsanto (United States) for $57 billion – the largest deal in 2018 – large negative flows of intra-company loans netted out much of the increase in equity investment.
Japanese MNEs became the largest investors in the world, despite a decline in outward FDI of 11 per cent to $143 billion.
The slow-down in the overall M&A activity of Japanese MNEs was the result of a 40 per cent decline in their outward FDI in developed countries, mainly in the United States but also in the United Kingdom. Their investment in Asia increased by 31 per cent to $49 billion, mainly in China, India and the Republic of Korea.
Outward investment by MNEs from developing economies declined by 10 per cent to $418 billion. Outflows from developing Asia fell by 3 per cent to $401 billion.
Investment from Chinese MNEs declined for the second consecutive year – by 18 per cent – to $130 billion, as a result of government policies to curb overseas investment, as well as increased screening of inward investment in the United States and Europe.
The country, nonetheless, was the second largest investor in the world after Japan.
Outward investment by Latin American MNEs plunged in 2018 to a record low of $7 billion, heavily influenced by negative outflows from Brazil and decreased investments from Chile.
Outflows from Brazil fell to -$13 billion, as foreign affiliates continued funnelling financial resources (often raised in overseas capital markets) back to their parents. MNEs from Mexico increased their outward FDI to $6.9 billion.
At $38 billion, FDI outflows from transition economies were unchanged in 2018. The Russian Federation accounts for the bulk of the outward FDI in this group (95 per cent).
The country’s outflows rose by 7 per cent to $36 billion, driven mainly by reinvested earnings and the extension of intra-company loans to established affiliates.
UNCTAD also found an increase in the values of net cross-border M&As and announced FDI greenfield projects in 2018.
The value of net cross-border M&As rose 18 per cent to $816 billion, recovering ground after the 22 per cent fall in 2017. The increase was driven by large deal sizes, especially in the chemicals industry and the services sector, while the number of deals actually declined.
The value of announced greenfield projects rose by 41 per cent to $981 billion. Also here, the average project size was the main driver of the increase, as investment activity measured by the number of projects increased by only 7 per cent.
The gains in value were mostly in extractive and processing industries, and in construction.
PROSPECTS FOR FDI IN 2019
According to UNCTAD, projections for FDI in 2019 point to a 10 per cent increase to almost $1.5 trillion – still below the average of the last 10 years.
The main factor driving up expectations is the likely rebound from anomalously low levels of FDI in developed countries in 2018, it said.
Following the subsiding of repatriations of foreign earnings of United States multinationals in the second half of 2018, developed-country inflows are likely to revert to prior levels, implying a significant jump in some countries that normally receive sizeable inflows.
The expected increase of FDI flows in 2019 is also apparent in the 41 per cent jump in greenfield project announcements (planned expenditures) from their low levels in 2017.
Despite these upward-pointing signs, the size of the expected increase in FDI is relatively limited because the long-term underlying FDI trend remains weak, said UNCTAD.
M&A data for the first four months of 2019 confirm the need for caution; the value of cross-border M&As was about $180 billion, 10 per cent lower than the same period in 2018.
The likelihood of an increase in global FDI is further tempered by a series of risk factors, UNCTAD cautioned.
“Geopolitical risks, trade tensions and concerns about a shift towards more protectionist policies could have a negative impact on FDI in 2019. Moreover, longer-term forecasts for macroeconomic variables contain important downsides.”
The projected increase of FDI flows is highest in developed economies, with Europe expected to see an increase of more than 60 per cent (recovering but remaining at only about half of 2016 values).
Flows to developing economies are expected to hold steady, with projections showing a marginal increase of about 5 per cent.
Among developing regions, FDI in Africa is likely to increase by 15 per cent, in view of an expected acceleration of economic growth and advances in regional integration.
Prospects for developing Asia are cautiously optimistic, especially in South-East Asia and South Asia, with flows rising slightly (by 5 per cent) thanks to a favourable economic outlook and improving investment climate, said UNCTAD.
Flows to Latin America and the Caribbean are expected to remain relatively stable, with a projected decline of about 5 per cent, while in transition economies flows are likely to see a recovery in 2019, reaching $50 billion.
The relatively modest increase in global FDI projected for 2019 is in line with the slow growth over recent years in the underlying trend, said UNCTAD.
That trend – net of fluctuations driven by one-off factors such as tax reforms, mega-deals and volatile financial flows included in FDI – has shown anaemic growth since the global financial crisis.
According to UNCTAD, the key drivers for the long-term slowdown in FDI include policy, economic and business factors.
The gradual opening of emerging markets worldwide that spurred FDI growth until the late 2000s is no longer fueling FDI to the same extent, it said.
In the last few years, restrictions on foreign ownership, based on national security considerations or strategic technologies, have again been front of mind for policymakers.
Uncertainty over the development of the international policy frameworks for trade and investment is also not supporting investor confidence.
Declining rates of return on FDI are a key factor behind the long-term slowdown, UNCTAD further said.
In 2018, the global rate of return on inward FDI was down to 6.8 per cent, from 8 per cent in 2010.
Although rates of return remain higher on average in developing and transition economies, most regions have not escaped the erosion. In Africa, for example, return on investment dropped from 11.9 per cent in 2010 to 6.5 per cent in 2018.
Structural changes in the nature of international production are also at work, said UNCTAD.
The adoption of digital technologies in global supply chains across many industries is causing a shift towards intangibles and increasingly asset-light forms of international production, as reaching global markets and exploiting efficiencies from cross-border operations no longer requires heavy asset footprints.
The trend is visible in the divergence of key international production indicators – on a scale from tangible to intangible – with a substantially flat trend for FDI and trade in goods and much faster growth for both trade in services and international payments for intangibles (royalties and licensing fees), said UNCTAD.