Foreign Direct
Investment (FDI),
Technology Transfer,and Poverty
Alleviation: Africa’s
Hopes and DilemmaMoses M. Ikiara

ATPS SPECIAL PAPER SERIES No. 16

Published by the African Technology Policy Studies Network, P.O. Box 10081, 00100
General Post Office, Nairobi, Kenya.

© 2003 African Technology Policy Studies Network (ATPS)

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ABOUT THE AFRICAN TECHNOLOGY POLICY STUDIES NETWORKThe African Technology Policy Studies Network (ATPS) is a multi-disciplinary network of researchers,
policy makers, actors in the private sector and other end users interested in generating, promoting
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5.1.1.3 Sectoral Composition of FDI in Africa
5.1.2 FDI and Technology Transfer
5.2 Determinants of FDI in Africa
5.2.1 The Determinants
5.2.2 Lessons from Asia
5.3 So, is Africa Realizing its Hopes?

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6.

What must Africa do?

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7.

A Research Agenda

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REFERENCES

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List of Abbreviations and Acronyms
BITs
EPZ
FDI
GDP
ICC
IPRs
LDCs
MNCs
NEPAD
NICs
ODA
OECD
R&D
SMEs
UNCTAD
US
WTO

Bilateral Investment Treaties
Export Processing Zone
Foreign Direct Investment
Gross Domestic ProductInternational Chamber Of CommerceIntellectual Property Rights
Least Developed Countries
Multinational Corporations
New Partnership for Africa’s Development
Newly Industrializing Countries
Overseas Development Agency
Organization For Economic Cooperaton And Development
Research and Development
Small and Medium Enterprises
United Nations Conference on Trade and Development
United States Of America
World Trade Organization

List of Tables & Figures

Table1: Distribution of World FDI Inflows, 1986-2000 (percentatge)
Table2: Attractiveness to FDI of the top 20 African Countries in 2000-2003
Table3: Determinants of FDI in Africa, 2000-2003: Survey Findings

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Figure 1: Transmission Mechanisms between FDI and Poverty Reduction
Figure 2: Relative Trends of FDI/GDP, 1970-1997

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1.

Introduction: Poverty, Hopes, Dilema over FDI
in Africa

Poverty reduction is Africa’s overriding goal and also its most important challenge. Half of Africa’s
800 million people live in extreme poverty; they make do with less than US$ 1 a day. Within thecontinent’s least developed countries (LDCs) the situation is worse; over the period 1995-1999, 87%of the population in these countries was surviving on less than US$ 2 a day and 65% on less than US$
1 (UNCTAD, 2002a). This was much worse than the case for all LDCs, in which 81% and 50% of the
population lived on less than US$ 2 and 1 a day, respectively. Not only is the poverty situation in Africa
grave, it is worsening. Thus, the proportion of the population in African LDCs living on less than US$
1 a day rose from about 56% in 1965-1969 to 65% by 1995-1999 (UNCTAD, 2002a). The incidenceof extreme poverty is higher in non-oil commodity exporting LDCs than those that export services andmanufactured products.
The continent is in a debilitating vicious circle of economic stagnation and poverty, in which poor
economic performance fuels poverty, which in turn, leads to deteriorating economic performance.
Rapid economic growth is thus absolutely necessary (albeit not sufficient) for poverty reduction andinvestment is a critical requirement for that growth. It is estimated, for example, that at least 1% outof the 3.4% difference in growth rates between East Asia and Africa can be accounted for by low
investment1 Sachs and Warner (1995). Not surprisingly, therefore, the New Partnership for Africa’s
Development (NEPAD) targets annual investment of US$ 64 billion to achieve the economic growthrate of 7-8% per year required to reverse the continent’s economic decline and arrest poverty.
Considering the paucity of domestic resources, most of this investment is expected from externalsources in the form of official development assistance (ODA) and foreign direct investment (FDI).
FDI can contribute in significant ways to breaking of the growth-poverty vicious circle, and thereinlies Africa’s hope. The continent hopes that FDI can make up for domestic capital shortfalls; provide
technology, management and marketing skills; facilitate access to foreign markets; and generate
both technological and efficiency spillovers to local firms. By providing access to external markets,transferring technology, and building capacity in the local firms generally, FDI is expected to improve
the integration of the continent into the global economy, spur economic growth and alleviate poverty.

It should be noted, however, that use of conventional methods of measuring savings and investment could lead to misleading
results in Africa.
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ATPS SPECIAL PAPER SERIES N O. 16

Consequently, FDI has become very important, with countries competing aggressively for it. FDI has
been growing faster than world trade and output. Between 1980 and 1996-1997, for instance, global
FDI outflows grew at an annual average rate of 13% compared with 7% for world exports of goods
and non-factor services and world gross domestic product (GDP) at current prices, Mallampally andSauvant (1999). From 54,000 in 1999, there are now about 65,000 multinational corporations (MNCs)
worldwide, with more than 850,000 foreign affiliates and employing 54 million people, Mallampallyand Sauvant (1999); UNCTAD (2002b). These MNCs account for about one-tenth of global GDP
and about one-third of global export trade.
Many developing countries, including those in Africa, have improved their investment environments
and now offer numerous incentives to attract FDI, often at great cost. Indeed, there is a real risk of‘racing to the bottom’ among developing countries as they compete for FDI. Developing countries
now account for 24% of world FDI inflows and 30% of global inward stock. This, however, isconcentrated in about 10 developing countries, mainly in Asian newly industrializing countries (NICs)
and Latin America. Sub-Saharan Africa’s (SSA’s) share is still low, at about 3% of total FDI going todeveloping countries, and is falling. In 2000, Africa accounted for only 0.6% of global FDI inflows,
down from 1.2% the previous year. Because of the relatively smaller economies, however, FDI flows
are more important in Africa than in Asia and Latin America, accounting for about 10% of SSA’s grossfixed capital formation.
Besides losing out in the competition for FDI, it is not clear whether FDI coming to Africa generates
the expected benefits. It is not known, moreover, whether FDI flows are helping the continent in its
prime challenge; that of poverty alleviation. In other words, it is not clear whether FDI is being
attracted into the industries and sectors that have relative advantage or potential in poverty alleviation.
The dilemma facing the continent therefore is whether to use the scarce resources available forpoverty reduction as meager as they are, or to use them for attracting FDI, whose contribution topoverty reduction is not certain.
This paper looks at Africa’s hopes and dilemma with respect to FDI. In the next section, transmission
mechanisms between FDI and economic growth/poverty reduction are explored. Because of its
relative importance, the link between FDI and technology transfer is discussed in detail in section 3.
In section 4, the motivation for and determinants of FDI globally are discussed. This is followed, insection 5, by an account of Africa’s experience with FDI and whether this has led to technology
transfer and economic growth/poverty reduction. The options available for resolving Africa’s dilemma
and realizing the hopes are then discussed in section 6. Section 7 then proposes a research agenda
to shed more light on FDI, technology transfer and poverty reduction in the continent.

2.

FDI and Poverty Reduction: Transmission
Mechanisms

This section explores the channels through which FDI contributes to economic growth and therefore
poverty reduction, from theory and empirical evidence.
2.1 What is FDI?
FDI is defined as long-term investment reflecting a lasting interest and control, by a foreign direct
investor (or parent enterprise), of an enterprise entity resident in an economy other than that of theforeign investor, IMF (1993). Mallampally and Sauvant (1999) agree. They define FDI as investment
by multinational corporations in foreign countries in order to control assets and manage production
activities in those countries. FDI is widely thought to bring with it, into the host country, a bundle ofproductive assets, including long-term foreign capital, entrepreneurship, technology, skills, innovative
capacity, and managerial, organizational and export marketing know-how. Compared to foreignbank loans and portfolio investment, the capital flow associated with FDI is more stable, has no fixedinterest payments or repayments, is invested directly into productive capacity, and is largely motivatedby prospects of long-term profitability, Eglin (2001; Mallampally and Sauvant (1999).
The theory of internationalization of firms views exporting and overseas production (by either FDI or
arm’s length licensing) as alternative means of doing business abroad for a firm. Two decisions,
therefore, confront firms seeking to serve foreign markets: first, whether it is more profitable to produce
in the home country and export or to produce in the targeted markets; and second, if overseas
production is chosen, how to transfer technology to its overseas affiliate (Saggi, undated).
Empirical evidence, however, suggests that exports and FDI could be complementary (Lipsey andWeiss, 1984; Saggi, undated). Using elaborate product level data, Blonigen (1999) found that exports
of intermediate goods by the parent company and sales of final goods by affiliates are complements
whereas exports of final goods by the parent firm and affiliate sales of the same goods are substitutes.
Initial exports may yield learning and information and help the firm to decide over FDI. Horstmann
and Markusen (1996) and Nicholas et al. (1994) find that foreign firms first license local agents orexport to a country as a way of information acquisition before investing locally to avoid agency fees.
2.2 Role of FDI in Poverty Reduction
FDI is thought to contribute to economic development (and therefore poverty reduction) throughinitial macroeconomic stimulus and by raising total factor productivity and efficiency of resource use
in the recipient economy by:3

ATPS SPECIAL PAPER SERIES N O. 16

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•
•
•
•
•
•
•

transferring more advanced technology and organizational forms directly to MNC affiliates
in the host country
triggering technological and other spillovers to domestically owned enterprises
assisting human capital formation
contributing to international trade integration
helping to create a more competitive business environment
enhancing enterprise development
improving environmental and social conditions (OECD, 2002; Blomström et al., 2000)

These transmission mechanisms are illustrated in Fig. 1. They all lead to higher economic growth,which is the most potent tool for poverty reduction in developing countries (UNCTAD, 2002a; OECD,
2002). Although growth is not a sufficient condition for poverty alleviation, there is evidence thathigher incomes in developing countries benefit the poor segments of the population proportionately(OECD, 2002). For Africa to halve its poverty by 2015 UNCTAD estimates that its economies need to
grow by 7-8% annually in real terms, which is a major challenge considering that these economies
grew by only 2% annually between 1991 and 1997. Achievement of this growth is estimated torequire the continent to raise its investment level from 16% of GDP to 22-25%.

FDI

Transmission Mechanisms:• Direct technology
transfer to affiliates• Technological and otherspillovers• Human capital formation• International tradeintegration• Competitive businessenvironment• Enterprise development• Improvement of

Enhanced
Economic
GrowthFig. 1: Transmission mechanisms between FDI and poverty reduction

Poverty
Reduction

FDI, T ECHNOLOGY T RANSFER, AND POVERTY ALLEVIATION: AFRICA’S H OPES AND D ILEMMA

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FDI is associated with many potential shortcomings including (Wells Jr., 1993; OECD, 2002):• Importation of capital intensive and outdated technology• Exploitation of local labour• Increase in local wage cost through payment of high wages by MNC affiliates• Contribution to economic leakage (and deterioration of balance of payments) through preferenceof imported inputs to local ones
• Lack of linkages with local communities, that is, development of ‘enclaves’• Adverse effects on competition in the national market• Use of transfer prices2 to escape local taxes and to cheat local partners on returns• Encouragement of corruption• Pollution of the environment, especially in extractive and heavy industries• Social disruptions associated with accelerated commercialization and creation of tastes for
expensive foreign consumer goods• Political dependency on FDI source countries and, therefore, loss of sovereignty
In the remainder of this section, empirical evidence of the benefits and costs of FDI, and of thetransmission mechanisms depicted in Fig. 1 are discussed.
2.2.1 FDI and Economic Growth
According to neoclassical theory, FDI influences income growth by increasing the amount of capitalper person. It does not influence long-run economic growth, however, because of diminishing returns
to capital. Recent endogenous growth theorists (e.g., Romer, 1986 and Lucas, 1988), however,argue that FDI spurs long-run growth through such variables as research and development (R&D)
and human capital. They suggest that, through technology transfer to their affiliates and technologicalspillovers to unaffiliated firms in the host economy, MNCs can speed up the development of new
intermediate product varieties, raise product quality, facilitate international collaboration on R&D,
and introduce new forms of human capital.
Many empirical studies, especially those using firm-level data, find no evidence that FDI causes
economic growth 3 and that FDI is no more productive than domestic investments (Kumar, 1996). A
recent macro study, Carkovic and Levine (2002), which controls for simultaneity bias, country-specificeffects, and proper use of lagged dependent variables in growth regressions, concurs. The studies
show marginal macroeconomic impacts, with FDI actually crowding out local investments andother types of foreign flows in some countries, and adversely affecting their current accounts. The

These are internal prices set by MNCs for the supply of components from one subsidiary to another. These often deviate fromthe market prices for the purpose of minimizing tariff costs and/or shifting profits from high-taxation to low-taxation countries.
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Instead, the studies find that it is economic growth that leads to FDI inflow.
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majority of studies (e.g., Balasubramanyam et al., 1996; Keller, 1996; and OECD, 2002), however,conclude that FDI contributes to total factor productivity and income growth in host economies, over
and above what domestic investment would trigger. The studies find, further, that policies that promoteindigenous technological capability, such as education, technical training, and R&D, increase theaggregate rate of technology transfer from FDI and that export promoting trade regimes are also
important prerequisites for positive FDI impact.
On shortcomings, empirical evidence suggests that:• Domestic market oriented foreign firms employ more capital intensive technology than local
firms• There are no pervasive differences in wage rates strictly attributable to foreign ownership• FDI contributes to transfer pricing and has a negative effect on the balance of payments• The indirect costs related to restrictive clauses often included in technology transfer contracts
are much higher than the direct costs, Kumar (1996). Some of the costs could be ameliorated
by such general policies as environmental regulations, competition policies, and good
governance but FDI incentives reduce the welfare benefits, Kumar (1996).
Empirical evidence, therefore, tilts in favour of positive net FDI benefits even though these are notautomatic, Wells Jr. (1993); OECD (2002). Even without technology spillovers the total welfare effectof FDI on the local economy may be positive because the very act of curtailing spillovers by MNCs
may create positive externalities to local agents, for example, higher wages, Saggi (undated).
Empirical evidence on the magnitude of the economic growth impact is scant. FDI tends to have asmaller effect on growth in least developed countries (LDCs), however, due to ‘threshold externalities’
OECD (2002). For FDI to contribute to economic growth, the host country must have achieved aminimum threshold level of development in education, technology, infrastructure, financial markets,and health.
2.2.2 FDI and International Trade Integration
There is emerging consensus that trade and investment are mutually reinforcing channels of crossborder activities and that FDI contributes, in the long term, to the integration of the host economy
more closely into the global economy, OECD (2002). In the short and medium terms, however,interactions of MNC affiliates and their parent enterprises could impact adversely on the hosteconomy’s foreign exchange reserves.
Evidence is not categorical whether FDI leads to export expansion in host economies, Kumar(1996). Some studies, such as Fairchild and Sosin (1986) and Kumar (1990), do not find a positive
relationship while others, such as Willmore (1992), find it. Examples where FDI has unambiguously
increased exports are to be found in cases where a host country lacks resources to exploit its
resource endowment (such as minerals) or its location advantage, OECD (2002).

FDI, T ECHNOLOGY T RANSFER, AND POVERTY ALLEVIATION: AFRICA’S H OPES AND D ILEMMA

72.2.3 FDI and Competition in the Host Market
FDI is thought to spur economic growth by increasing domestic competition, thereby raisingproductivity, lowering costs, and improving efficiency of resource allocation. It is feared, on the other
hand, that FDI could lead to higher concentration in the host economy as uncompetitive domestic
firms collapse.
Empirically, FDI is found to affect host country market structure directly, through its tendency tooperate at larger scales than other firms, and indirectly through its tendency to compete throughnon-price rivalry (including advertising and product differentiation), thereby raising barriers to entry ofother firms, Kumar (1996). In addition, MNC affiliates have an advantage over local firms especiallyin knowledge and brand name sensitive industries because of their global technological strength,
international reputation, and brand name, Kumar (1996). Evidence that FDI raises productivity is
weaker in developing countries and the risk of concentration is higher in the same countries, OECD
(2002). Where productivity spillovers exist, their magnitude and dispersion of their effects are positively
related to the prevailing levels of competition, OECD (2002). Generally, the more competitive thehost environment is, the greater the likelihood of FDI developing linkages to the local economy,
committing state-of-the-art technology and know-how, disseminating the new technology within thehost economy, and focusing on the export rather than domestic market, and the lesser the ability of
FDI to extract abnormal profits from the host economy and to crowd-out domestic investment, Eglin(2001).
2.2.4 FDI and Enterprise Development
By exploiting synergies, improving efficiency, reducing costs, developing new activities, andrestructuring enterprises, FDI is thought to contribute to enterprise development. Empirical evidence
suggests that significant improvement occurs in the firms acquired by MNCs, especially in industries
with economies of scale, OECD (2002).
2.2.5 FDI and Environmental/Social Concerns
There is empirical evidence of both positive and negative environmental impacts of FDI. Particularly
where host-country environmental regulations are adequate, the technologies transferred throughFDI tend to be more modern and cleaner and positive environmental spillovers (through local imitation,
labour movement, and supply-chain requirements) occur in some cases OECD (2002).
On social concerns, there is evidence that FDI contributes to poverty reduction and improves social
conditions through higher incomes, with this contribution being stronger when FDI is used as a tool
to develop labour-intensive sectors of the host economy; and adherence by MNCs to national labour
law and to internationally accepted labour standards is strictly required, OECD (2002). Empiricalevidence, further, shows a positive relationship between FDI and workers’ rights.

3.

FDI, Technology Transfer and Economic
GrowthThe greatest contribution of FDI to economic growth and, therefore, poverty reduction occurs throughtechnology transfer. Technology is defined as any tangible or intangible resource that can generate
economic rent for host country firms by, for example, improving total factor productivity, Blomström etal. (1999). It includes managerial skill, know-how, production techniques, machinery, information,and other intangible forms of capital. Many empirical studies e.g. Temple (1999) demonstrate thattechnical change and technological learning are important determinants of economic growth.
Technology is generated by R&D, most of which is conducted in industrialized countries, making
technology transfer very important for economic prosperity of countries with weak R&D and innovation
capacities. In the 16th and 17th centuries, for instance, deliberate technology transfer policies of KingHenry VIII made Britain a leading manufacturing nation, Chang (2001).
3.1 FDI and Technology Transfer
FDI is one of the channels of technology transfer. Other channels include:
•
•
•
•
•

importation of machinery and intermediate inputs (or trade in general) international movementof labour, for example reverse brain drain and movement of consultants; “arms length” transactions
or technology licensing
government efforts such as education provision and investment on high-tech projects
contract manufacturing for developed country markets
expert-guided tours of factories apprenticeshipillegitimate means such as industrial espionage Sjöholm (1999); Mathews (2000); Chang,(2001). The FDI channel, the focus of this paper, is the most important

Over 80% of global royalty payments for international technology transfer in 1995, for instance, wereby MNC subsidiaries to their parent firms, UNCTAD (1997). MNCs are the main transmitters oftechnology, with each mode of foreign involvement (FDI, joint ventures, and international
subcontracting) being a potential channel for technology transfer.
Technology transfer can occur directly to local firms involved in joint venture with the MNC or
indirectly, as a spillover benefit to unaffiliated local firms. There are four interrelated channels throughwhich spillovers occur: vertical linkages between affiliates and their suppliers and customers in the8

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host country, horizontal linkages between the affiliates and domestic firms in the same industry,labour turnover from the affiliates to domestic firms, and internationalization of R&D.
3.1.1 Theory
The Knowledge-Capital Model, Markusen and Maskus (1999) argues that multinational firms choose
to internalize technology transfer (through FDI) over market-based alternatives such as technology
licensing because knowledge capital has a public good property. According to this theory, MNC
affiliates are able to compete successfully with local competitors, which have better understandingof the local market and other conditions, because of their superior technologies, management, andmarketing know-how. If licensees of this technology or local partners in a joint venture gain accessto the MNC’s proprietary knowledge, the value of such knowledge can be dissipated. Dissipation
can occur either because of increased competition, Ethier and Markusen (1991); Saggi (1999); andBlomström et al., 1999) or because the local partner has inadequate incentive to protect the MNC’sreputation, Horstmann and Markusen (1987). The fear of dissipation may prevent the firm frominvesting or it may bring less advanced (older) technologies to the affiliates, Blomström and Sjöholm
(1999).
The foreign firm may, however, allow local firms to appropriate its technology if this guarantees it
access into some of the benefits available in the host country such as access to valuable local
technology and possibility of receiving commercial advantages. Other reasons why a foreign firm
may allow appropriation of its technology include avoiding the cost of preventing technology transfer
and increased efficiency within the MNC global network through development of manuals that allow
quicker technology transfer among MNC affiliates, Blomström et al. (1999).
Foreign technology made available to domestic firms is thus partly endogenously determined byforeign investors. The investors can expend resources4 to prevent technology transfer if it is notconsistent with their profit-maximizing strategy and if the cost of preventing the transfer is low Blomström
et al. (1999). The externality of limiting diffusion of their technology also affects their ability to limit it.
For example, the cost of litigation to secure protection of intellectual property rights (IPRs) may be
incident only on the MNC initiating it while the result (better protection of IPRs) benefits all MNCs.
Thus, some rivalry between MNCs in a developing country increases the probability of sometechnology transfer in that country.
Local firms expend resources to adopt the technology made available, including the cost of making
the technology complementary to existing production structure, reverse engineering, hiring of MNC
personnel, licensing and management fees paid to the MNC, and getting around intellectual property
restrictions, Blomström et al. (1999). The degree of technology adoption (and therefore the value of

4

For example, they can pay ‘efficiency wages’ to managers to keep secrets or employ expatriate managers.

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spillovers) is negatively influenced by the ratio of adoption cost to value of underlying technology.
Other factors influencing demand and supply of technology adoption include host country
characteristics, host government policies, and size of technological gap between foreign anddomestic firms (Blomström et al., 1999; Findlay, 1978). Host country characteristics include size andaverage real income of host country markets, market structure, degree of competition, technology
competence of host country firms, and location advantages such as presence of relatively cheap
factors of production. While highly competitive markets force host country firms to demand and seek
appropriate technology, stiff competition in the presence of high costs of protecting technology
against appropriation may reduce supply of technology. The presence of technological centers-ofexcellence in host countries creates potential for MNCs to benefit from reverse technology flows.
Important host government policies include restrictions on the extent and nature of foreign ownershipand policies to build capabilities to absorb technologies, and degree of protection of IPRs.
Findlay (1978) hypothesizes that the wider the technological gap between foreign and local firms,
the larger is the potential for technological imitation. Lapan and Bardhan (1973), however, argue thatlarge technological gaps may hinder spillovers, as technologies developed in industrialized countries
may be unsuitable for developing country conditions.
Access to developed country technology by developing countries is constrained by:• Lack of basic technological capabilities and policies, such as teaching and research
institutions, institutions to raise awareness regarding advanced technologies such as
museums and model demonstration factories, and incentives to encourage use ofadvanced technologies. Technology transfer in the absence of technologicalcapabilities cannot lead to technological and industrial development (Lall, 2000; Lallet al., 1994; Ogbu et al., eds., 1995).
• Shortage of foreign exchange that hampers access to imported spare parts andtechnical consultancy.
• Increasing restrictiveness of technological transfer through control of immigration ofskilled workers, restrictions on machine exports, restricted export of raw materials,
strict intellectual property rights regimes, and high technology licensing fees, among
others.
• Language and cultural barriers to expatriate workers that hamper transfer of tacitknowledge contained in technology.
3.1.2 Does FDI lead to technology transfer in reality?
This sub-section looks at empirical evidence of direct technology transfer benefits to joint venturefirms, and of “spillovers” to unaffiliated local firms.
3.1.2.1 Impact on Productivity
Technologies involve significant lags in their productivity effect and therefore short time series data
may not show direct and indirect productivity benefits (Kumar, 1996). Moreover, before productivity
benefits are realized domestic firms should be expected to suffer from an increase in competition,

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with some of the inefficient ones weeded out to release resources for more efficient investment
Blomström et al. (1999).
With the analytical techniques and data desegregation improving over time, many studies testingwhether FDI leads to productivity improvement of local affiliated and non-affiliated firms have been
conducted. In general, most firm-level studies find foreign equity participation to be positively correlated
to firm or plant productivity (own-firm or plant effect), suggesting that at least joint ventures benefit
from FDI. Overall, evidence on positive FDI spillovers for local firms not engaged in joint venture withforeign firms is weak (particularly in the case of developing countries) according to literature surveys
by Blomström et al. (1999), Saggi (undated), and Kumar (1996) show. Empirical studies in developed
countries consistently find positive spillovers but evidence for developing countries is mixed. Kokko(1994), Blomström et al. (1994), Sjöholm (1999), and Blomström and Sjöholm (1999) find spillovers
for Mexico, Uruguay, and Indonesia while Haddad and Harrison (1993) and Aitken and Harrison(1991) find limited or no spillovers for Morocco and Venezuela.
The strongest and most consistent evidence of positive spillovers is found for vertical linkages, inparticular backward linkages with local suppliers in developing countries (OECD, 2002). Studies
finding positive vertical spillovers include Willmore (1986) and Kumar (1990). MNCs provide technicalassistance, training and information to local suppliers to ensure high quality. They also assist local
suppliers in the purchase of raw materials and intermediate inputs, in modernizing and upgrading
their production facilities, and even offer export and management advice.
Empirical evidence of horizontal spillovers, especially to domestic firms that directly compete with
the MNC affiliates, is mixed. Horizontal spillovers are rare, however, except between enterprises
operating in unrelated sectors, Saggi (undated); OECD (2002).
FDI generates spillovers and therefore economic growth under some conditions including higheducation levels, Borensztein et al. (1998); Engelbrecht (1997); OECD (2002), wealth, Blomström etal. (1994), fully developed financial markets, Alfaro et al.( 2000), and trade openness
Balasubramanyam et al.(1996). Other factors having significant influence on the magnitude ofspillovers are:• direct domestic competition• host country labour market standards• technological capability or absorptive capacity of local firms• limited technological gap between MNC and host country firms, OECD (2002) complementarityof foreign and host country technologies• the nature of FDI• the motives and attributes of the foreign investors

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FDI spillovers may occur through a variety of activities, including labour and management training,demonstration, technological copying, direct licensing of technology, and vertical linkages in the
production and distribution value chains. There is no consensus on the relative importance of thedifferent channels, however.
3.1.2.2 Impact on Innovation
FDI appears to substitute local R&D (and therefore innovation), as the technology recipient enterprise
becomes a mere link in the global chain of affiliates subject to central decision-making. MNCs
centralize R&D and other technology-promoting efforts in the parent companies with the affiliate in adeveloping country undertaking local R&D only if it fits in the global strategy of the MNC, Kumar(1996). This significantly slows down technology transfer to host countries.
Bernstein and Mohnen (1998), however, found that host country firms could appropriate productivity
benefits from R&D performed by foreign owned firms regardless of where it is performed throughimports of intermediate goods produced by the foreign firm and through other channels. They also
found that R&D performed by foreign firms raises the rate of return to R&D and other innovationgenerating activities of domestically owned firms. Innovation, in fact, is one of the direct benefits of
FDI. By increasing competition in the host country market, FDI forces local firms to innovate toremain competitive.
3.1.2.3 Impact on Technology Adoption
Technology adoption is a function of local technological capabilities, which in turn are largely
determined by R&D, Bernstein (1989). FDI may therefore lead to technology adoption if it builds suchcapabilities, for instance, by establishing linkages with domestic firms through subcontracting andother mechanisms. Local firms may adopt technologies introduced by MNCs through imitation,
reverse engineering, or vertical linkages.
3.1.2.4 Impact on Human Capital
MNC affiliates enhance internal human capital through training and on-the-job learning. Empiricalevidence of this is scarce. There is some empirical and anecdotal evidence that MNC affiliates tend
to provide more of this training and learning than do domestic enterprises, OECD (2002). With
physical movement of workers, the human capital (knowledge embodied in workers) could betransferred to other sectors of the host economy. Gershenberg (1987) found that MNC affiliates in
Kenya offer more training to their managers than local firms but there was limited evidence of labour
turnover from the former to the latter. The World Investment Report of 1992 found remarkable labour
turnover in Bangladesh’s garment industry while a Taiwanese study found that almost 50% of all
engineers and approximately 63% of all skilled workers that left MNCs joined local firms in the mid
1980s (Saggi, Undated).
The ability of local firms to absorb technologies introduced by MNCs may be a key determinant of
whether or not labour turnover occurs as a means of technology diffusion, Glass and Saggi (1999a).
Such ability is determined by local investment climate, capability of local competitors, and level ofFDI, T ECHNOLOGY T RANSFER, AND POVERTY ALLEVIATION: AFRICA’S H OPES AND D ILEMMA

13

entrepreneurial effort. MNCs may offer higher wages than local rivals as a way of limiting the diffusionof their technology, with wage premiums paid by MNCs being indicative of their determination Saggi(Undated). Local competition policy may also affect labour turnover, for example, through restrictions
on how soon a worker is allowed to move to a competitor firm, and trade secret laws.
3.1.3 Technology Transfer and Spillovers: Does Type of FDI Matter?
It is generally believed that local participation with MNCs reveals the latter’s proprietary knowledge,
thereby facilitating technology spillovers to the domestic sector, Blomström and Sjöholm (1999).
Consequently, policy of local partner requirement for FDI is frequently adopted by developing countries
with the objectives of restricting foreign influences and increasing the degree of technology diffusionin the host country. It is also known, however, that majority foreign ownership facilitates greater
control over profits, thereby creating greater incentive for transfer of technology and management
skills to the affiliates, Blomström and Sjöholm (1999). It would be expected, therefore, that thegreater the control a MNC has over its affiliate, the more sophisticated the technologies it would
transfer to the affiliate, Ramachandran (1993). Thus, whether wholly owned MNC affiliates lead togreater technology transfer and spillovers compared to joint ventures, is an empirical question.
There is ample empirical evidence that technologies transferred to wholly owned subsidiaries are ofa newer vintage than licensed technologies or those transferred to joint ventures (Mansfield andRomeo 1980; Caves, 1996) due to reduced risk of technology appropriation. Furthermore, possibilityof greenfield entry as opposed to joint venture increases the MNC’s R&D expenditure, particularly inhigh technology sectors where the MNC has greater concern to protect the technology (Smarzynska,
1999)5. In low technology sectors, higher probability of a joint venture is positively correlated to the
MNC’s R&D expenditure relative to the average R&D expenditure in the industry.
Since local partners in minority owned firms probably get closer contact with the foreign technology,
this may enhance technology diffusion in the host economy. MNCs may seek out joint ventures bythemselves because local partners have better knowledge of local conditions regarding factor
endowments and skill of employees, Beamish (1988), and of consumer preferences, Blomström
and Sjöholm (1999). Blomström and Zejan (1991) find that Swedish firms with little experience withforeign production are likely to choose minority ventures when they go abroad.
Joint ventures are easier in relatively mature host industries because of relative ease of finding
suitable local partners, Smarzynska (1999). To keep fixed costs low, MNCs may choose joint venture
at the initial phase when foreign labour productivity is in doubt and become wholly owned subsidiaries
once productivity is proven, Saggi (undated). Although the finding was not very robust, Blomström

5

Quoted in Saggi (undated).

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and Sjöholm (1999) report that even though local content requirements could discourage inward
FDI, they could promote increased local purchasing by MNC affiliates.
The relationship between mode of FDI and appropriable spillover benefits to host countries is notclarified by empirical evidence. In some studies, for example, Blomström and Sjöholm (1999),
spillover benefits are as significant in joint ventures as they are in wholly owned foreign firms,
suggesting that local participation with MNCs does not facilitate technology diffusion. In other studies
e.g. Caves (1996) and Blomström and Zejan (1991), the degree of foreign ownership determines thevintage of technology transferred. In some cases, if the foreign investor does not receive controllinginterest spillovers may be extinguished ,Blomström et al.(1999). In a detailed study, Aitken andHarrison (1999) found that joint ventures (unlike purely domestic firms) benefit from FDI, but that thebenefits are concentrated in sectors with higher shares of foreign investment.

4.

Motivation for and Determinants of FDI

That FDI and exports could be complements rather than alternatives motivates firms to supply FDI.
Other motivations include the presence or threat of trade barriers in the market targeted by the MNC(‘tariff-jumping motive’) ,Bhagwati et al. (1992); the desire to maintain competitiveness by copying
competitors (‘following the leader’ motive), Lin and Saggi (1999); and the desire to exploit learningfrom earlier FDI, Kinoshita and Mody (1997).
The theory of determinants of FDI flows has developed substantially over time. Beginning with theneoclassical approach, summarized by MacDougal (1960), other theories include Jorgenson’s(1963) model, the radical theories (for example, Baran and Sweezy, 1966), the relative competitive
advantage approach, Hymer (1976), the theory of industrial organization, Agarwal (1980), the macro
approach, Kojima’s (1982) model, and the ‘eclectic paradigm’ Dunning (1993)6. These theories
and other literature show that the major determinants of FDI flows include domestic market size andits growth, domestic business environment, technological capability, trade policy, investment policy,
commitment to international rules and agreements, and other factors.
4.1 Domestic market size and its growth
There is a positive relationship between FDI flows and domestic market size and its growth. This is
supported by inter-country empirical studies, Kumar (1996). Market size and its growth are especially
important for FDI targeted at supplying the local market. Access to regional markets is thus also very
important.
4.2 Enabling Investment Environment and Technological Capability
Macroeconomic and political stability, low business environment risk, well-trained labour force,competitive labour cost, good industrial relations, effective and efficient legal institutions, and quality
infrastructure services are key determinants of an enabling business environment, according toempirical evidence. Convertible currencies, liberal exchange rates, low inflation rates, small current
account deficits, extent of industrialization and urbanization, high credit rating, freedom frombureaucratic intervention, and similar arrangements promote FDI, Wells Jr. (1993); Kumar (1996).

6

See details about these models in Ikiara (2002).

15

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Access to capital and level of external indebtedness, good governance, transparency, institutionalsoundness, and security are also important ingredients of a conducive business environment.
FDI manufacturing in Asia has tended to locate in areas with developed ports, roads, power, andtelecommunications, Wells Jr. (1993). Education and literacy levels are also important especially in
Africa. MNCs are concentrated in industries that exhibit a high ratio of R&D relative to sales and alarge share of technical and professional workers, Markusen (1995). Policies encouraging
performance of R&D in the host economy enhance technical capability of local firms and therefore
attract FDI and facilitate technology transfer. These include provision of technological infrastructure;subsidies for enterprise R&D; and protection and support for innovative enterprises, design
engineering and consultancy organizations and leading local firms, Kumar (1996).
4.3 Trade Policy
Protection of the local market influences MNCs’ choice between exporting to that market andproducing in it, and the balance between FDI and licensing as alternative modes of production in thehost country, Kumar (1996). Tariff barriers can encourage inward FDI and might increase spillovers.
In the long run, however, such protectionism may reduce spillovers through slower economic growthand slower accumulation of technical competence Blomström et al. (1999). Excessive tradeliberalization in the host country may induce MNCs to export to that market instead of producing
there. Import liberalization may also however stimulate competition, thereby encouraging foreign
firms to transfer technology to their affiliates in the liberal market to maintain competitivenessBlomström et al. (1999).
For international knowledge spillovers, the balance strongly tilts in favour of free trade, Saggi (undated);
Eglin (2001). The Asian experience Wells Jr. (1993) has demonstrated that reduced protection may
result in a reduction of FDI but an increase in the probability that the attracted FDI will be beneficial.
Policies specifically targeting export-oriented FDIs are necessary because these are special typesof FDI that have positive effects on the host country economy Kumar (1996); Westphal (2001) andbecause they face stiff competition. Liberal but selective technology import policies stimulateinnovation and therefore enhance local technological capabilities,Kumar (1996).
4.4 Investment or FDI Policy
FDI policy is the degree to which foreign ownership is constrained and business decisions of foreign
investors are regulated (Blomström et al., 1999). These policies determine the amount and quality of
FDI, Eglin (2001). To encourage development of local firms, restrictive FDI policies were pursued inmost of Africa, Latin America, and Southeast Asia. Japan and South Korea restricted FDI but
aggressively encouraged licensing of foreign technology. Sometimes policy has favoured joint
ventures over wholly owned subsidiaries (for example in China) with hope that this will generate
more spillovers. Southeast Asian countries also frequently pursue industrial targeting due to differential
spillovers’ potential.

FDI, T ECHNOLOGY T RANSFER, AND POVERTY ALLEVIATION: AFRICA’S H OPES AND D ILEMMA

17

Policies that lower the risk of investment, for example minimal restrictions on equity ownership,
attract FDI, Wells Jr. (1993). Surveys show that foreign investors prefer host countries with transparent
and predictable FDI policies that prohibit discriminatory treatment of foreign investors and provide
an open and competitive business environment, Eglin (2001). Liberalization of investment restrictions
may favour FDI over licensing. Theoretically, protection of intellectual property rights (IPRs) in hostcountries:• positively influences the magnitude and quality of technology transferred to those countries,• may affect the mode of technology transfer and therefore the size and scope of FDI spillovers• alters the composition of FDI at the industry and firm levels, Kumar (1996); Saggi (undated).
Empirical evidence is mixed, however. For example, Lee and Mansfield (1996) and Gould andGruben (1996) find positive effects while Siebeck (1990) and Chang (2001) do not. Glass and Saggi(1999b) finds that FDI actually decreases with strengthening of IPR protection in developing countries
because an increase in the cost of imitation crowds out FDI.
Effective investment promotion, relying on personal contacts instead of advertising and investment
missions, for countries that were relatively unknown by investors or had a negative image proved
effective in attracting FDI into export manufacturing in South East Asia, Wells Jr. (1993).
Policies that discourage inward FDI in any form (for example those that reduce ex ante profitability offoreign investment) will reduce spillovers while those that require or encourage MNCs to transfer
technology more quickly will enhance potential spillovers, Blomström et al. (1999). Policies obliging
foreign firms to form strategic alliances with local firms are likely to yield more spillover benefits
when there are technically competent local firms but less if the commercial value of the technology
the foreign firm possesses is very high.
The proliferation of fiscal and financial incentives to lure FDI is likely to reduce welfare in hostcountries since there is no consensus that strong, positive FDI spillovers exist. There is no clear
evidence that even export processing zones (EPZs) succeed in attracting FDI (OECD, 2002). Kumar(1996), however, reports some evidence that the presence of EPZs attracts export-oriented FDI.
Investment incentives without economic fundamentals and other determinants will not stimulate FDI
inflow, Kumar (1996).
4.5 Commitment to International Rules and Agreements
Anchoring domestic regimes to international rules and agreements, through commitment andmembership, reassures foreign investors. The World Trade Organization (WTO) and otherinternational agreements on investment and trade7 and bilateral investment treaties (BITs) areparticularly important.
For example, the Convention establishing the Multilateral Investment Guarantee Agency (MIGA) and the Convention on the
Settlement of Investment Disputes between States and Nationals of Other States.
7

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4.6 Other Determinants
Geographical proximity to major markets and production centres, natural resource endowments,
competition for FDI, economic performance in FDI-source countries, privatization, language,
dependence of potential host country on the source country, and influential episodes, such as
Aquino’s succession in Philippines and Sukarno’s rule in Indonesia are also important determinantsof FDI. Inter-industry studies find that FDI intensity is positively influenced by advertisement intensity,
skill intensity, R&D intensity, and capital intensity requirements, Kumar (1996).

5.

FDI in Africa: Are Hopes being Realized?

This section looks at how Africa is performing with respect to FDI, including the countries andsectors that are attracting FDI, determinants of FDI flows within the continent, and whether FDI iscontributing to growth and poverty reduction.
5.1 FDI and Technology Transfer to Africa: the Reality
Are Africa’s hopes being realized in terms of FDI inflows and their impact?
5.1.1 Status and Nature of FDI Flows to Africa
Regions receiving the bulk of FDI inflows are developed countries, Latin America and the Caribbean,
Asia and the Pacific, and the transition economies of Central and Eastern Europe (Table 1). Africa
has suffered serious decline in the share of FDI inflows, from 1.8% in 1986-1990 to 0.8% in 19992000, while the share for LDCs stagnated at about 0.5% of world FDI over the period.
Table 1: Distribution of World FDI Inflows, 1986-2000 (percentage)
Region1986-1990

1993-1998

1999-2000

Developed countries
Developing countries•
Africa•Latin America & Caribbean•
Asia & PacificCentral and Eastern Europe
Least developed countries (LDCs)

82.4
17.5
1.8
5.0
10.6
0.1
0.4

61.2
35.3
1.8
12.3
21.2
3.5
0.6

80.0
17.9
0.8
7.9
9.2
2.0
0.4

Source: UNCTAD (2002b), World Investment Report 2002.

Within the developing world, FDI inflows are concentrated in about 10 developing countries, mainlyin Asian newly industrializing countries (NICs) and Latin America. In 2001, for instance, the fivelargest host countries in the developing world received 62% of total inflows into the region while the
10 largest received three-quarters, UNCTAD (2002b).
The share of Africa in FDI flows to developing countries has declined substantially over time fromabout 17% in 1960 to about 3% by 1999, Wells Jr. (1993) and UNCTAD (1999). FDI/GDP ratio trends

19

ATPS SPECIAL PAPER SERIES N O. 16

20

show that the continent‘s performance fell and then lagged behind those of Latin America and Asia
(Fig. 2). The whole continent (except South Africa) received only $8.2 billion in 2000 or just 0.6% of
total world FDI inflows, equivalent to what tiny Finland alone received, UNCTAD (2002b).
In spite of the small share of developing country bound FDI that reaches the continent, FDI flows
account for about 10% of SSA’s gross fixed capital formation, Eglin (2001). The relatively high FDI/
GFCF ratio reflects the relative smallness of many African economies, their inadequate domestic
savings and investment, and the relatively larger developmental impact of FDI in the continent
UNCTAD (1999). The ratio is very high in some African countries. In 1996-1998, for example, theratio was 53.1% for Lesotho and 44.1% for Angola.
Fig. 2: Relative trends of FDI/GDP, 1970-1997
40$FDI per $1,000 GDP

35
30
25

Africa20

Latin America & the Caribbean
Asia

15
10
5
0
1970

1990

1997

Year

Figure 2: Relative trends of FDI/GDP, 1970-1997
5.1.1.1 Destination of FDI in Africa
The little FDI that comes to Africa is concentrated in a few countries. The top 10 African countries interms of magnitude of FDI inflows in 1999 were Angola, Egypt, Nigeria, South Africa, Morocco,
Mozambique, Sudan, Tunisia, Cote d’Ivoire, and Gabon, Eglin (2001). Traditional FDI frontrunners
in Africa are Egypt, Mauritius, Morocco, and Nigeria. The share of total continental FDI flows goingto Egypt and Nigeria has, however, declined from 67% in 1983-1987 to 38% in 1993-1997, UNCTAD(1999).
Angola, Botswana, Equatorial Guinea and Seychelles had higher FDI/GDP ratios than the averagefor developing countries in the early 1990s. Botswana, Equatorial Guinea, Ghana, Mozambique,
Namibia, Tunisia, and Uganda have recently attracted rapidly increasing FDI inflows. Using theFDI, T ECHNOLOGY T RANSFER, AND POVERTY ALLEVIATION: AFRICA’S H OPES AND D ILEMMA

21

yardsticks of annual inflows, per capita inflows, inflows per $1,000 GDP, and FDI/GFCF, these are
now seen as FDI frontrunner countries in the continent, UNCTAD (1999). Together, they accounted
for more than 25% of FDI flows into Africa in 1996 but only 9% of the continent’s population and 8%
of its GDP.
Table 2 shows survey ranking of the top 20 African countries in 2000-2003 with respect to their
attractiveness to FDI, and progress in improvement of the attractiveness. The table shows that
Tanzania and Uganda have made tremendous improvement in their attractiveness while Libya,
Angola, Zimbabwe, and Nigeria are likely to lose some of their attractiveness. Most other countries
are unlikely to experience significant changes in their attractiveness.
Table 2: Attractiveness to FDI of the top 20 African countries in 2000-2003
Country

Ranking: attractiveness to FDISouth Africa
Egypt
MoroccoNigeria
Tunisia
Ghana
Libya
Cote d’Ivoire
Algeria
Kenya
Mozambique
Botswana
AngolaZimbabwe
Tanzania
Mauritius
Namibia
Ethiopia
UgandaMalawi

1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20

Ranking: progress in improving attractiveness
1
3
2
7
4
6
14
5
10
11
9
12
23
18
8
16
15
17
13
21

Source: UNCTAD/ICC survey of TNCs (November 1999 – January 2000), reported in UNCTAD (2000).

5.1.1.2 Source of Africa Bound FDI
The most important source regions for FDI, the so-called “Triad”, are the European Union (EU),Japan, and the US. Africa’s share of FDI from the “Triad” has fallen over time. Between 1987 and1997, the share never exceeded 2% until 1996 and it was only 2.4% in 1997, UNCTAD (1999). Nontraditional investor countries like Canada, Italy, the Netherlands, Norway, Portugal, and Spain helped

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ATPS SPECIAL PAPER SERIES N O. 16

to reduce the rate of decline of Africa’s share of FDI. Between 1988-1992 and 1993-1997, these six
countries increased their share in African FDI inflows from 8% to more than 22%, UNCTAD (1999).
Investors from other developing countries, particularly South-East Asia, have also emerged as new
sources of FDI for Africa. Some African firms, particularly from South Africa, are becoming MNCs andalso investing in other African countries, through mergers and acquisitions. Total African MNC FDI
stock is small, however, at $ 43 billion in 1997, 13% of total outward FDI stocks of all developing
countries, UNCTAD (1999).
5.1.1.3 Sectoral Composition of FDI in Africa
Like the tendency to concentrate in a few countries, FDI in Africa has tended to concentrate in a few
economic sectors, traditionally in natural resource industries such as mining and oi,l Wells Jr.
(1993). Africa continues to attract FDI only into sectors where competitive advantages outweigh thecontinent’s negative factors. These include minerals, timber, coffee, tea, cocoa, and oil, Mills and
Oppenheimer( 2002). However, FDI is now diversifying even into manufacturing and services, Eglin(2001) and UNCTAD (1999). In 1992, for instance, 30% of FDI stock in Nigeria was in the primarysector, 50% in manufacturing, and 20% in services, UNCTAD (1999). In 1995, 48% of FDI inflows
into Egypt were in services, 47% in manufacturing, and 4% in the primary sector. Mauritius has also
managed to increase the amount of FDI going into the manufacturing sector (textiles and electronicequipment). FDI from Germany is going increasingly into manufacturing. More than 60% of British
FDI stock in Africa is in the manufacturing and services sectors, UNCTAD (1999). The share ofUSA’s FDI stock in Africa that is in the primary sector dropped from 79% in 1986 to 53% in 1996. In
terms of industries, US FDI going to manufacturing has been to food and related products, primaryand fabricated metals, and other manufactures, UNCTAD (1999). South African MNCs are in mining,financial services, breweries, food processing, retailing, and other services, UNCTAD (1999).
FDI in manufacturing has tended to concentrate on the local rather than the export market, Wells Jr.
(1993). A survey of MNCs in 2000 indicated that the sectors with the greatest potential to attract FDI
in Africa are tourism, natural resource industries, and industries for which the domestic market isimportant (such as telecommunications), UNCTAD (2002a). This gradual diversification is
encouraging given that agriculture and labour-intensive manufacturing are two sectors that canmake the greatest contribution to poverty reduction, UNCTAD (2002a).
While it is tempting to think that FDI should be targeted at the primary commodity sectors, which
employ the majority of people in the continent, it should be realized that employment in those sectors
is not sustainable due to the deteriorating terms of trade facing them. This paper, in section 7,
proposes a research agenda to inform FDI targeting efforts for poverty reduction.
5.1.2 FDI and Technology Transfer: Evidence from African ManufacturingThough there are few studies addressing the link between FDI and technology transfer in Africa,
some indicative evidence is available from Wangwe (ed., 1995) covering firms in six African countries(Zimbabwe, Tanzania, Nigeria, Kenya, Ivory Coast, and Mauritius); Biggs and Srivastava (1996)
covering Ghana, Zimbabwe, and Kenya. Others include Lundvall et al. (1999); Haddad and Harrison

FDI, T ECHNOLOGY T RANSFER, AND POVERTY ALLEVIATION: AFRICA’S H OPES AND D ILEMMA

23(1993) on Morocco; Gershenberg (1997) on Kenya; Phillips et al. (2000) on Mauritius, Uganda and
Kenya; and Herbert-Copley, (1992). The evidence suggests that:• There may be limited technology transfer and spillovers to the domestic firms. Phillips et al.
(2000) report that a 1% increase in FDI/GDP leads to a 0.8% increase in future domestic
investment in Africa compared to 1.17% in Latin America. Many exporting firms are found tolocate foreign partners and either form joint ventures with them or hire them as agents for
specific technology and/or marketing tasks. In Mauritius, foreign investment has played a positiverole in building local technological capabilities. In some countries, MNCs bought out the local
firms affected by competition and monopolized activities.
• Previous experience either through trade or association with MNCs and foreign technicalassistance contribute to export success.
• In MNC affiliates and firms in which foreign partners play important technological functions,accumulation of indigenous or local technological capabilities is limited, except in cases where
the affiliate is engaged in activities that the parent is not engaged in (for example, Del Monte of
Kenya).
• Interactions with foreign partners enhance managerial and technological capabilities but only
under certain circumstances: when the top managers and entrepreneurs have some previous
experience, when the firms are targeting export markets, and when the top positions are notreserved for expatriates.
• On-the-job training closely followed by information links established by FDI are the best channelsof learning and therefore the largest contributors to value added in the firms. A 1% increase in thenumber of trained workers (or information links established by FDI) resulted into an increase invalue added of 60% (or 30%), Biggs and Srivastava (1996).
• MNC affiliates and local firms managed by expatriates have higher skills than other local firms
due to access to technology.
• With the exception of MNC affiliates and large exporting firms, African firms are technologicallyisolated from the world, indicative of weak or non-existent learning mechanisms or capabilities.
Dependence on foreign technology remains high at least in large, formal-sector firms. Even
though some local capabilities have been built, the local skill base is incomplete and therelatively complex tasks (such as design and engineering) are still carried out by expatriates
usually under technical service agreements. This is largely attributable to lack of adequate
provisions for training, localization of technical and managerial positions at the pre-investment
stage, and poor economic performance during post-investment stage.
• Due to limited vertical and horizontal linkages, there is hardly any technology diffusion.
• In Kenya, foreign investment may not be transferring up-to-date technology, as exporting, skill, or
foreign ownership are found not to explain differential productivity of manufacturing sub-sectors(food, wood, textiles, and metal).
• Technical effort is directed less toward performance enhancement (“capacity stretching”), unlike
in Latin American firms, and more toward piecemeal product innovation and adaptation.
These studies show that the challenge facing Africa is how to accumulate basic technologicalcapabilities, promote export activities as they bring greater technological learning opportunities

ATPS SPECIAL PAPER SERIES N O. 16

24

than domestic-market oriented activities, encourage the most appropriate modes of technology
transfer, and build capable bureaucracy and a robust information exchange network with the private
sector, as proven by East Asian experiences.
5.2

Determinants of FDI in Africa

5.2.1 The Determinants
There are many studies that address determinants of FDI in Africa. To mention a few, these include
Geda (2000), UNCTAD (1999, 2000), Phillips et al. (2000), Wells Jr. (1993), Eglin (2001), and OECD
(2002). These and other studies show that FDI flows to Africa are determined by: 8• Relative market size and its growth. Small local markets and weak growth have seriously
constrained FDI attraction efforts. High GDP growth rates in the past 10 years, however,
have helped frontrunner countries to attract FDI.
• Access to regional markets and prospects of inclusion in free trade arrangements withmajor markets. There are poor prospects for Africa except the case of Lomé Treaty. Intraregional trade accounted for 6% of total African exports in 1990 and only 10% by the end of
the 1990s, Mills and Oppenheimer (2002).
Table 3. Determinants of FDI in Africa, 2000-2003: Survey Findings.
Determinant
Growth of local market
Profitability of investment
Size of local market
Access to regional markets
Trade policy
Political and economic outlook
Tax regime
Regulatory & legal framework governing FDI
Access to skilled labour
State of physical infrastructure
Investment incentives
Access to natural resources
Administrative costs of doing business
Access to low-cost unskilled labour
Access to capital /finance
Access to global markets
Level of extortion and bribery% viewing it as positive
determinant %
67
62
62
60
58
52
48
45
41
41
40
39
39
32
31
30
19

% viewing it as
negative Determinant*
11
27
28
12
14
28
23
21
20
25
20
21
28
24
28
38
49

* This column should be interpreted with care. In the case of profitability of investment, for example, 27% of the
respondents felt that it was low and discouraged FDI.
Source: UNCTAD/ICC survey of TNCs (November 1999 – January 2000), reported in UNCTAD (2000).
8

See also Table 3.

FDI, T ECHNOLOGY T RANSFER, AND POVERTY ALLEVIATION: AFRICA’S H OPES AND D ILEMMA
•
•

•
•

•

•
•
•
•
•
•
•
•
•

25

Access to natural resources. Availability of natural resource reserves has contributed to FDI
inflows to Guinea, Botswana, Ghana, Mozambique, and Namibia.
Level of taxes, risk of capital losses, and returns to investment. High tax rates and risk havediscouraged FDI into many countries in the continent, in spite of the generally high returns
to investment. Perception of risk in the continent is still very high and continues to hinder FDI
Eglin (2001).
Historical pattern of FDI.
Macroeconomic and other policies. Overvalued exchange rates, lack of convertible
currencies, other discouraging policies, and ideological opposition to FDI have discouraged
FDI into Africa to a large extent. Tedious FDI screening processes and organizations
established by many African countries discouraged even beneficial FDI while politicaldecisions crowded out economic reasoning, Wells Jr. (1993). Partly due to absence in Asiaof the anti-FDI rhetoric that characterized Africa and Latin America in the 1960s and 1970s,
Asia accounted for more than half of all FDI to developing countries by the 1980s. Efficiency
has attracted FDI to Tunisia, especially in its textile and apparel industry. Efforts to improveeducation levels of citizens, particularly at primary and secondary levels, and develop
infrastructure have attracted FDI into several African countries.
Socio-political instability (armed conflicts and lack of democracy). It is estimated that onefifth of the total African population lives under conditions of conflict, Mills and Oppenheimer,(2002). Export-oriented manufacturers have proved very sensitive to host country politics
and policies. End of civil strife helped Mozambique, Namibia, and Uganda to attract FDI
Bhattacharya et al. (1997).
Enforceability of contracts or transparency of the judicial system. Lack of enforceability
raises risk of capital loss in many African countries and has hindered FDI.
Perceived sustainability of national economic policies. In many African countries, policies
are not perceived as being sustainable, a factor that discourages FDI.
Quality of public services. The low quality of service in many African countries discourages
FDI into those countries.
Openness of trade regimes. Efforts to adopt favourable trade policies have helped frontrunnercountries to attract FDI.
Privatization programmes. Where these have taken place, they have generated investment
opportunity and therefore attracted FDI.
Modernization of investment codes and high profile publicity efforts. Tax incentives are notnecessary but freedom from bureaucratic intervention, deregulation, few restrictions onequity ownership, and investment promotions have proved useful.
Adoption of international FDI agreements and capacity for bilateral negotiations on investment
arrangements with larger and more powerful trading partners.
Prioritization of projects on the basis of economic impact has helped countries like
Mozambique, Namibia, Senegal, and Mali to attract FDI.
Distance to major markets like Japan, USA, and Europe. Location advantages helped Asiaand countries like Mexico to build export-manufacturing industries. Location advantage
has shifted from low labour cost to competitive characteristics, such as product and service
quality, and timeliness of delivery, Wangwe,(ed), (1995).

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5.2.2 Lessons from Asia
The Asian experience9 provides a number of lessons for Africa. Appropriate macroeconomic policies,
deregulation policy, elimination of bureaucratic hassles, effective investment promotion, and attractive
investment policy are important determinants of FDI flows. The experience shows that NICs of Asia
may make better promotion targets for Africa than firms in the US, Europe and Japan, due to theirtendency to invest in distant locations. Textile firms from these Asian NICs are potential first targets
for the continent.
MNCs from developing countries are preferable to those from developed country MNCs becausethey:• undertake technology modifications in response to developing country raw material endowment
and other characteristics• tend to produce simpler, lower-technology, low-cost products which require little marketing
ability to sell in world markets• have a higher propensity to form joint ventures with local firms• tend to use more local human resources and raw materials• tend to have down-scaled imported technologies• are more appropriate for developing country needs in terms of the characteristics of technology
they specialize in and therefore transfer, their integration with domestic demand, and theireffects on the balance of payments• are in a learning stage, they transfer not only the know-how but the know-why, Wangwe, (ed),(1995).
“Petty patents” or “utility models” which accord lower level protection (4-7years) to innovations thatfall short of patent standards, in terms of originality, played an important role in industrial developmentof Japan and other East Asian countries and could have utility for promoting technologicaldevelopment in developing countries, Chang (2001).
5.3 So, is Africa Realizing its Hopes?
It has been shown that a few African countries are realizing their hopes of attracting significant FDI
inflows. It is encouraging also that FDI is diversifying into non-traditional sectors, mainly manufacturing
and services, which may contribute to poverty alleviation. Whether the impact of the FDI is large
enough to justify promotion expenditure is not clear, however, FDI benefits are not automatic; theyrequire proactive, deliberate and strategic policy and adequate technological capacity in the potential
host countries. They also require a minimum threshold level of development in education, technology,
infrastructure, financial markets, and health, which most of the African countries lack.

9

See, for example, Wells Jr. (1993) and Mathews (2000).

6.

What Must Africa Do?

To realize its hope of attracting large and growing FDI flows and maximizing the poverty alleviationrole of those flows, Africa must put in place the requisite institutional, policy, and regulatory frameworks
and enforce them aggressively. Specifically, the continent must:
1. Invest in a thorough understanding of the international production systems, MNC strategies,
and what pulls MNCs, as a first step towards getting integrated into regional and global
production networks of MNCs. Surveys have shown that managers of African investment
promotion agencies have incomplete understanding of the factors that attract the appropriate
type of MNCs.
2. Adopt a proactive, deliberate, and strategic approach to FDI policy. FDI promotion andlinkage policies should be consistent with each country’s overall development andindustrialization strategies. African countries should employ FDI as a tool to develop labourintensive and other target industries (value-adding, technology-intensive, and export-oriented
industries), as a way of maximizing the impact of FDI on poverty reduction. They should also
take precaution against large foreign firms that may crowd SMEs out, and encourage
foreign firms to develop linkages with the domestic economy. Adequate environmental
regulations could also serve to minimize FDI costs. There is need for targeting of FDI
source as well. Because of various advantages Africa should target developing country
MNCs, especially those from Asian NICs.
3. Promote cooperation with developed countries, in the spirit of NEPAD. This will lead to:• improved access to developed country markets• assistance (ODA) towards building and improving the infrastructure and other competencies
necessary for attracting FDI• greater sensitivity to the technological needs of the continent and establishment of codes ofconduct for MNCs
reduction of developed country subsidies to inward direct investment• reducing restrictions on immigration of skilled workers and technology transfer in general• greater technical assistance and capacity building in the continent
4. Improve the general macroeconomic and institutional frameworks, including stable andhigh economic growth rate, liberal exchange rates, convertible currency, low inflation,
minimal current account deficit and external indebtedness, low interest rates and accessto capital, efficient banking system and capital markets, and competitive corporate tax
rates. In terms of institutions, there is need for predictability and stability in politics, leadership,

27

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ATPS SPECIAL PAPER SERIES N O. 16

judicial system, security, and effective institutions for dealing with corruption and enforcing
good governance in general. The lead that the NEPAD initiative is taking is commendable.
5. Create a healthy and enabling business environment that encourages both foreign andlocal investors, provides incentives for innovation and skills improvement, and contributes
to competitive corporate climate. This could be done by:• improving the transparency of regulatory and legal frameworks• streamlining of customs clearance• creating bureaucracy and business licensing• creating institutions to reduce business risk such as risk insurance agencies adopting
deregulation policy• formulating policies to safeguard levels of competition, such as openness tointernational trade, efficiency-enhancing competition laws including the principle ofnon-discrimination, and establishment of effective enforcement agencies; rational
investment/FDI policies• accelerating privatization
Membership to multilateral institutions like WTO and commitment to international FDI agreements
such as OECD Declaration on International Investment and Multinational Enterprises and MIGA
also improve the local business environment. With an enabling environment, costly investment
incentives are not necessary, which can resolve Africa’s dilemma.
6. Raise the effective market size by striving for stable macroeconomic and socio-politicalregimes, pursuing regional trade liberalization and integration, and pursuing inclusion infree trade arrangements with major markets such as the EU and the US. The NEPAD
strategy of promoting intra-African trade is thus a step in the right direction.
7. Formulate competition policy to create a level playing ground since MNC affiliates enjoy
substantial advantages over local firms. Elements of such policy include initial protection ofleading local firms (local champions) to build their brand names, restriction of the use by
MNC affiliates of international brand names in the local market, and prevention of takeovers
and mergers involving affiliates and local firms to avoid accumulation of monopolistic
advantages.
8. Upgrade infrastructure, technology, and human and other competencies to levels thatfacilitate full realization of FDI benefits. Ways of doing this include:• Establishing focused programmes of reducing the cost of doing business, withsuch elements as improving the quality and reducing the cost of infrastructure(transportation, roads, electricity, and telecommunications, among others). The
NEPAD strategy of establishing regional infrastructure links is commendable.
• Allowing foreign participation, under requisite regulatory frameworks, in physicalinfrastructure and financial services sectors.
• Providing good general basic education, scientific training and skills, and health,and developing human capital and technology policies jointly since technologicaland educational achievements are mutually reinforcing.

FDI, T ECHNOLOGY T RANSFER, AND POVERTY ALLEVIATION: AFRICA’S H OPES AND D ILEMMA•

29

Providing policies to support local technological effort and encourage
entrepreneurship including provision of technological infrastructure; subsidizationof enterprise R&D and other incentives to encourage use of advanced technologies;
and provision of protection and support to innovative enterprises, design
engineering and consultancy organizations, and leading local firms. The continent
could establish regional technology centres to boost technological capabilities.
Institutions to raise technology awareness such as museums and model
demonstration factories are also important, nationally and regionally.
• Providing policies to enhance labour market flexibility and implementation ofinternational agreements to reduce child labour, eliminate workplace
discrimination, and remove impediments to collective bargaining.
9. Have strong states to play crucial roles of providing enabling business environments andbasic education and skills; building local technological capabilities; promoting efficient
programmes to link MNCs with domestic firms; promoting and supporting small and medium
enterprises to act as suppliers to MNC affiliates; and identifying, exploring and developing
markets.
10. Exploit the strength of public-private partnerships in designing infrastructure and policies
that would attract and sustain FDI, building local technological capabilities, and designingpolicies and incentives to maximize the net benefits of FDI.
11. Formulate and implement effective investment promotion policies, including regional
marketing initiatives, but only after the fundamental determinants of FDI are in place. This
promotion is critically important if the continent’s negative business image is to be changed.
If the Nepad plans of combating the continent’s conflicts and diseases and instituting good
economic and political governance succeed, they will be an unprecedented boost to thecontinent’s image.

7.

A Research Agenda

This paper has shown that the impact of FDI on economic growth and, therefore, poverty reduction
is not clear in Africa. Indeed, even managers of African investment promotion agencies do not fully
understand how and why foreign investors make the choices they do. Research is obviously therefore
critical on:(a) How foreign investors make decisions and the factors that drive those decisions(b) Transmission mechanisms between FDI and poverty reduction, specifically on:• Which sectors have the largest prospects for poverty reduction in the continent?
• Is FDI being attracted into these sectors?
• What is the relative importance or potential, of the economic sub-sectors that attract FDI, in
poverty alleviation (in terms of direct and indirect FDI benefits, employment intensity, andskill intensity)?
• Do firms with foreign ownership have greater linkages with the local economy (particularly
farmers and small scale enterprises) than do locally owned firms?
• Which dimensions of poverty does FDI affect?
• How are FDI spillovers distributed?
• Which policies promote spillovers in sectors with the largest relative impact on poverty
alleviation?
(c) FDI and technology transfer in various sectors in Africa. Specifically,• Are there FDI spillovers (efficiency and technology) to domestic firms?
• If there are spillovers, are they generic to most types of inward FDI or concentrated amongcertain types of FDI (say joint ventures) or among specific types of MNCs?
(d) The link between FDI and the specific components of technology transfer such as innovation,technology adoption, and managerial learning.
(e) Whether FDI incentives and subsidies are justified in Africa given the high opportunity cost ofresources in the continent?
(f) Alternative modes of technology transfer to Africa and their relative implications on poverty
alleviation.

30

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Table of Contents
1.

Introduction: Poverty, Hopes and Dilemma over FDI in Africa

1

2.

FDI and Poverty Reduction: Transmission Mechanisms
2.1 What is FDI?
2.2 Role of FDI in Poverty Reduction
2.2.1 FDI and Economic Growth
2.2.2 FDI and International Trade Integration
2.2.3 FDI and Competition in the Host Market
2.2.4 FDI and Enterprise Development
2.2.5 FDI and Environmental/Social Concerns

3
3
3
5
6
7
7
7

3.

FDI, Technology Transfer and Economic Growth
3.1 FDI and Technology Transfer
3.1.1 Theory
3.1.2 Does FDI lead to technology transfer in reality?
3.1.2.1 Impact on Productivity
3.1.2.2 Impact on Innovation
3.1.2.3 Impact on Technology Adoption
3.1.2.4 Impact on Human Capital
3.1.3 Technology Transfer and Spillovers

8
8
9
10
10
12
12
12
13

4.

Motivation for and Determinants of FDI
4.1 Domestic market size and its growth
4.2 Enabling Investment Environment and Technological Capability
4.3 Trade Policy
4.4 Investment or FDI Policy
4.5 Commitment to International Rules and Agreements
4.6 Other Determinants

15
15
15
16
16
17
18

5.

FDI in Africa: Are Hopes being realized?
5.1 FDI and Technology Transfer to Africa: The Reality
5.1.1 Status and Nature of FDI Flows to Africa
5.1.1.1 Destination of FDI in Africa
5.1.1.2 Source of Africa Bound FDI

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