Foreign investors in developing countries are often subject to regulations and requirements that are more stringent than those faced by domestic investors. These regulations may require exclusion from some sectors, limits on foreign equity participation, domestic content minima, export obligations, employment quotas, establishment of research and development facilities, appointment of host-country nationals to senior managerial positions, ceilings on repatriation of profits and royal ties and limits to the duration of technology licensing agreements. At the same time, governments offer foreign investors a wide variety a incentives such as tax holidays, tax concessions, accelerated depreciation allowances, duty-free imports of capital goods, investment subsidies, and guarantees against expropriation. This mixture of restrictions and incentives reflects an ambivalence on the part of some developing countries. On the one hand, they fear that foreign direct investment may undermine their sovereignty, limit their tax revenues, displace domestic firms, blunt local initiative, introduce inappropriate technology, pollute the environment and squander exhaustible resources. On the other hand, they recognize that foreign direct investment augments domestic investment, transfers new technology and avoids some of the risks of external borrowing.
Many of the concerns about foreign direct investment arise when countries use protection to stimulate local output. Foreign (as well as domestic) investors can then earn financial returns that are often much higher than the economic returns to the country. Thus, protection attracts foreign direct investment. But this can mean a net loss of foreign exchange for the developing country if the sum of repatriated profits and imported inputs exceeds the foreign exchange saved through local production. In such circumstances, foreign direct investment can even reduce a country's real income. Many controls on foreign investors therefore take the rents from protection that accrue to foreign firms and channel them to groups within the country, such as organized labour, shareholders, or domestic entrepreneurs. But this may deter foreign firms from investing in the first place.
Controls seem to matter more than incentives to foreign investors. Countries that follow outward-oriented strategies tend to have fewer problems with foreign direct investment. Since they do not discriminate between import substitution and exports, they tend to attract foreign firms wishing to take advantage of their resources. Foreign investments, therefore, are more likely to align themselves with the country's comparative advantage and to augment domestic resources in fostering efficient industrial development.
There are many restrictions and contra-indications to direct foreign investment including: obtaining authorization to invest, the legal forms permitted and the rights of establishment; the rights of foreign investors to participate in privatization, the procedures for acquisition of state-owned enterprises and their assets under privatization programmes and the provisions for protecting the purchaser of the property from claims arising from previous owners and creditors or from the environmental damage caused when the property belong to the state; and issues relating to the operation of businesses with foreign participation, such as tax rates and fiscal incentives, guarantees (or lack of) against nationalization, protection of intellectual property, employment law and the right of foreigners to buy land.
