Location theory: Host-Country Policies
The policy environment of a country has an important impact on its attractiveness. Policies such as corporate tax rates affect the costs of anMNC. Hence disproportionate amounts of FDI (relative to gross domestic product, GDP) occur in low-tax countries such as Ireland and tax havens such as the Cayman Islands. Conversely, some countries put restrictions on FDI such as not allowing wholly owned subsidiaries, requiring technology transfer, limiting the repatriation of profits, and mandating a certain proportion of added value be produced in the local market.Other things being equal, countries withmore restrictive policies toward FDI tend tobe less attractiveFDI locations.Despite a global trend of liberalization of policies toward FDI (OECD2006), restrictions continue in some formin almost every country.
Other features of a country’s policy environment also affect its attractiveness. Labor market institutions such as the degree of unionization affect FDI flows. Similarly, the protection of property rights and intellectual property, strong institutions for contract enforcement and capital market governance, environmental regulation, and trade policy may also affect MNCs’ FDI location choices (Javorcik and Spatareanu 2005).
Recently, researchers have studied various types of political risk as influences on MNCs’ FDI location decisions. MNCs make location decisions based on expectedfutureprofits, andgreater risk creates greater uncertainty with regard to future income streams. Thus, other things being equal, risk reduces FDI inflows. Countries that are politically risky in the sense of having a history of expropriating FDI, weak institutions, endemic corruption, autocratic governments, periodic coupsd’e´tat, or ethnic tensiontendto receive negligible FDI flows (or far less than would otherwisebe expected).Manyof thepoorestcountries in the world, for example, Haiti, Honduras, and much of sub-Saharan Africa, are beset with political risk and receive very little FDI. To a greater or lesser extent, some of the aforementioned risks are present in many countries, some of which, for example, ChinaandNigeria,arerecipientsof largeFDI inflows, as other things are not equal. Nigeria is one of the most oil-rich countries in the world, and China has the largest population in the world and a rapidly growing economy. These factors offset some of the risk MNCs encounter in China and Nigeria. However, if these countries were less risky, they likely would enjoy even larger inflows of FDI.