Dr M.S.Kapadia looks at a perspective study on 'South-South' FDI and Political Risk Insurance: Challenges and Opportunities by Multilateral Insurance Guarantee Agency of the World Bank.

Global foreign direct investment flows reached an estimated $1.5 trillion in 2007, according to a recent report by the Economist Intelligence Unit, and are set to continue on an upward path, with some year-to-year fluctuations. While FDI is expected to decline somewhat in 2008 as global merger and acquisition activity slows down, analysts forecast a steady growth over the next three years.
FDI flows going to emerging markets are expected to reach $535 billion in 2007, decline somewhat in 2008, and continue growing in the subsequent three years at an annual rate of 3-4 per cent. North Africa and the Asia-Pacific region are expected to fare particularly well. China is expected to retain its position as the largest recipient of FDI. Sub-Saharan Africa is likely to continue to attract resource-seeking investors, while investment flows to Latin America are forecast to grow modestly. Much of this growth is expected to be driven by the relocation of labor-intensive manufacturing to emerging markets and the off shoring of services.
Emerging markets are becoming important sources of FDI for the rest of the world. Overall, FDI flows from emerging markets increased from $12 billion in 1991 to $99 billion in 2000, and are estimated to be around $210 billion as of 2006. While still small relative to global FDI flows, they have been growing rapidly in recent years.
'South-South' FDI (investment outflows from emerging markets to other emerging markets) has been growing even faster, increasing from under $5 billion in 1994 to over $50 billion in 2000. It is estimated that South-based FDI accounts for about one-third of all FDI flows into emerging markets, reflecting the growth of intra-regional investment, the rise of new multinationals and relaxation of foreign exchange controls. By investing in other developing countries, South-based multinationals, like their North-based counterparts, are looking for new markets, natural resources and lower costs.
What drives South-South FDI?
A variety of factors encourage South-South investment:
u Rising demand for energy in emerging markets: Many national oil companies based in China, and to a lesser extent in India and Malaysia, are actively pursuing joint ventures and other forms of collaboration in Asia (e.g. Myanmar), Sub-Saharan Africa (also North Africa; Libya) and Central Asia. Russian energy and mining companies are also turning to Sub-Saharan Africa and Central Asia, while Brazil has oil exploration activities in Mexico and is pursuing more in Sub-Saharan Africa.
l Increase in South-South trade: The share of trade amongst developing countries has more than doubled (currently 43 per cent of world exports compared to only 20 per cent in 1970). Trade interdependence and FDI interdependence go hand in hand given the close relationship between overall trade and trade between multinational enterprises and their foreign affiliates (and amongst foreign affiliates).
u Proximity and cultural affinity: Being small and medium- sized compared to their peers in industrialized countries, South-based firms' competitive advantages often lie in their ability to operate in economic environments similar to those found at home.
u Cost competitiveness: Like North-based firms, South-based multinationals seek to improve their competitiveness by building international networks of affiliates that take advantage of cost differences.
u Government support: Governments of several developing countries are not only allowing outward FDI, but they are also actively promoting it through loans on preferential terms, tax rebates, and investment insurance. Outward investment promotion has been supported by a sharp increase in the number of bilateral investment treaties and double taxation agreements concluded amongst developing countries over the past decade.
In December 2007, MIGA's Investment Information Services group conducted a survey of private companies based in developing countries. The main findings of the survey regarding South-based investor perceptions were:
u Political risk is rising and is higher in emerging markets than in industrialised countries. The expected trend is that political risk in emerging markets will stay the same or increase over the next five years.
u Virtually all companies consider it important carry out some type of political risk assessment.