Financial systems and development

Box 1.3 Foreign equity investment
Economic policies that promote sustainable growth are attracted large flows which, along with domestic inalso
likely to attract foreign equity investment. Investor vestment, have contributed to rapid growth.
surveys show that growth and stability of the host Mauritius shows that policies to provide incentives
economy are key factors in determining the attractive- for foreign investment can work, provided the macroness
of a foreign investment. In part, this is because economic environment is stable. To attract foreign inequity
investment is relatively illiquid and sometimes vestment and diversify from its traditional reliance on
requires a lengthy development phase before earning raw sugar, it adopted an Export Processing Zone propositive
returns. When the foreign investment pro- gram in 1970. Mauritius successfully expanded the
duces for the host market, as in Brazil and Korea, the share of manufactures from almost nothing to 24 perinvestor's
concern with the long-term macroeconomic cent of total exports by 1977. But growth slowed in the
environment is reinforced. late 1970s and early 1980s, partly because of failures in
Industrial and trade policies also strongly influence macroeconomic policy (currency overvaluation, fiscal
foreign investment. Outward-oriented strategies sup- overexpansion, and a tax policy that discouraged doported
by tax, foreign exchange, and other policies mestic saving). Foreign investment plummeted. The
usually attract more foreign equity investment, espe- country adopted a structural adjustment program in I
cially to the export processing sectors. Transparent and the early 1980s that called for better credit allocation, an
consistent investment policies are important. Singa- expansion of term finance for the private sector, and
i
pore, for example, treats foreign investments on essen- investment policies aimed at further export diversifica-
tially the same terms as domestic investments. It has tion. Growth and foreign investment have revived.
funds to developing countries. Saudi Arabia con- the return of flight capital and to ensure that dotinues
to provide 3 percent of GDP in development mestic and external resources are made available
aid, and Kuwait has recently provided 2 percent. and are put to productive use. And creditors need
In general, however, low oil prices in the 1980s to be more imaginative in their lending; they must
have prevented the high-income oil-exporting tailor the form and maturity of financial flows to
countries from maintaining their aid programs. the characteristics of the projects being financed.
Moving beyond the debt crisis calls for effort by The creativity of the international capital markets
debtor and creditor alike. Credible and sustainable should be brought to bear on the problems of the
structural adjustment is necessary to encourage debtor countries.
24