Foreign Direct investment occurs when multinational companies invest in productive capacity in countries rather than the one in which they are based. Foreign direct investment implies the actual productive capital which generates output, rather than in financial assets such as bonds or shares. Governments are keened to encourage FDI as it brings valuable funds, which ultimately increases the overall investment in the country.
Foreign Direct Investment could create thousands of jobs as well as bringing in technical development. This is if the multinational companies import technology to which the country doesn't already posses. Local people in the country being invest in gain knowledge and skills through training schemes and eventually resulting net gain in the national economy. However, foreign direct investment could also be fairly risky to any business. If the market isn't suitable to that particular firm, it could result in low growth potential/ profit levels.
For example, China has been the leader of foreign direct investment in the past decade. It's the hottest and most popular economy for firms to explore. Shanghai and Beijing, being the heart of China's growth has seen improvements in almost all sectors. The infrastructure in China has enhanced immensely over time promoting its economic development. Statistics show that Shanghai now contributes to 1/8 of China's GDP and almost 1/2 of China's industrial output. As we can see from the chart on the left, FDI in China has started to boom in the 1990s. In the mid 1990s, FDI has already accumulated 7% of the nations GDP.
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In this coursework, I would asses and evaluate the implications and suitability of Chiang Mai as a FDI destination for investors. A range of different theories will be applied when analyzing Chiang Mai as a potential investment center. The reason in which we chose to analyze Chiang Mai is that it is based in an emerging market. Emerging markets have adopted policies which encourage market forces and reduce government controls. They grow fast and thus provide markets for developed countries. Businesses love to explore potential new markets because they offer chances to expand sales.
To investigate the suitability of Chiang Mai as a FDI destination, I will need to collect both primary and secondary data for a fair analysis. Fortunately, my school organized a school trip in order for us to experience first hand to collect information from local workers from a range of positions and status. Eg. Employees, managers, owners. I performed a variety of tasks including:
* Visit an enterprise zone in the outskirts of Chiang Mai. Where I toured two factories and spoke to local investment manager.
* Visit Northern Regional Industrial Estate for an in-depth interview with representative of estate management office.
* An in-depth interview with representative of local Department of Industrial Promotion
* Visit local villages which have been impacted deeply by tourism and economic development.
* Meeting with local Board of Investment representatives. This was extremely helpful as it provided me information on the situation of Chiang Mai what is being done to attract FDI.
Where to invest? Why?
Ask any economist or a successful entrepreneur, the most obvious factor in considering investment is the location. Many complications arise from choosing the location but in the end it could be the reason to the success or failure of a firm. The location of a firm could determine the type of labour it wishes to employ. Different countries perhaps specialize in different types of labour. For example, Northern Thailand specializes in handicraft and known for their hospitality. On my visit to a Chiang Mai gem factory, I notice that it is filled with skilled handcraft workers. However, if a firm is seeking for a more educated group of employees, then they should possibly invest in a country with a more suitable labour force. The geographic location of the firm must be fairly examined as it is the means of transporting the goods of the firm to its targeted market. The closer to the market, the lower its transport costs. A firm would like to cut its costs in every way possible. Likewise, the closer the factory is with its suppliers, the more cost cutting.
FDI is not only beneficial to certain individuals of the society; it is spread through out the economy via the theory of the multiplier effect. As workers of an investing firm are paid their wages, they would decide to spend it on their essential needs, which in turn, become the income for other certain individuals. This cycle is repeated, known as the multiplier effect. This ultimately boosts the economy of Thailand raising its standard of living.
* Thailand currently is politically stable. The government does a good job of preventing political and economical conflicts
* Stable government
* Though the government is continually battling its internal problems of Corruption, it is still a serious issue not only in the northern area but also the rest of Thailand
* Thailand Financial Crisis
* Inflation rate has been stable, at about 2%.
* FDI to increase economic growth in Chiang Mai. In 2004, the economic growth of Thailand was at 7.1%
* Export to stimulate the economy
* Low interest rate
* Money injected into the local economy and spread using the multiplier effect.
* Government aid supports investors
* Fairly high crime rate in northern Thailand which could be an impact to its rising economical state.
* Negative externalities eg. Pollution
* Improve standard of living in Chiang Mai (due to FDI)
* Northern Thailand suffers relative poverty where uneven distribution of income between the rich and the poor exist.
* Chiang Mai is not as up to date technologically compared with the other areas of Asia. However, transnational could import capital to improve technology in Chiang Mai.
The Thai government is constantly trying to improve its economy through a variety of ways. As you can see from the economic table above, there has been a 7.1% economic growth in 2004. The local economy is constantly growing and improving. They look forward to new investment opportunities, new markets and other openings to prosper even more.
From July 2004 Labor Force Survey by National Statistical Office, northern region labor force stood at 6.8 million, of this, 6.7 million were employed. Employment rate registered at 98.5 %, slightly improving from 98.3 % in July 2003, as non-agricultural sector employment increased by 14.1 percent year-on-year, with employment in businesses of manufacturing, construction, hotels and restaurants, and education, expanding well. Agricultural sector employment, on the other hand, declined slightly by 0.7 percent year-on-year as labors shifted to non-agricultural businesses. Unemployment rate was at 1.1 percent, improving from 1.4 percent in July 2003.
The inflation rate has been controlled very well by the government and is kept at a stable rate of around 2%. This is a huge attraction for any investor to come to Thailand. With low stable inflation rates, there is much less risk involved. An unstable inflation rate could be a large obstacle to a firm, when making decisions especially on their expenditure and investment.
In Thailand, the interest rate is relatively low; at the rate of 6% per annum on loans. This means that the cost of borrowing money is low and a firm should ideally receive a higher rate of return. A low interest rate would attract a firm to borrow more money to setup the business and invest more on capital goods.
Though it might seem that it would ultimately be the best idea to invest in the developing market of Chiang Mai; taking advantage of its cheap land, labour and capital to produce the highest return rate possible. However, that is not necessarily the case. A firm also needs to look at the obstacles which are brought to them when investing. So what prevents FDI benefiting in developing countries?
First of all, I have noticed the poor level of infrastructure when I visited Northern Thailand. This slows down the process of production which in the long run creates additional costs. Also, as we have mentioned before, the Thai workforce is skilled only in specific areas of production, which are fairly outdated. A company which wishes to produce a new product or one which the workforce has never dealt with before, then a lot of change would be needed, hence money needed to be spent on training.
Despite the fact that Thailand has a stable government, there are still many areas of corruption within its economy. When interviewing Mr. Massingham of the Maekok River Holiday Resort, he stated that many companies including his own, has in one way or another benefited from the local government officials through unfair practices against law enforcements.
Another major threat that would prevent a firm investing in Chiang Mai is the perception of Thailand being a terrorist attack destination. Since September 11th 2001, there has been a significant increase in terrorism threats and attacks around the world especially in tourist destinations like Chiang Mai. It is obvious that Thailand is under potential threats of terrorism.
Currently, Chiang Mai may not be the best place for FDI. Other Asian countries like China are a huge threat. China also has one of the fastest growing economies in the world at present and the Chinese government is also persistently promoting themselves as the best FDI destination. Thailand needs to come up with strategies to overcome its competitor.
Thailand Board of Investment, Northern Region Industrial Estate & Department of Industrial Promotion
The Thailand board of Investment is a government funded body in charge of providing incentives and aid to encourage investing firms. It assists the Thai government's objective to attract FDI into their country meanwhile actively promoting the country as a premier destination for FDI. The BOI offers two kinds of incentives to promoted projects, regardless of location: tax incentives and non-tax incentives. Tax-based incentives include exemption or reduction of import duties on machinery and raw materials, and corporate income tax exemptions. Non-tax incentives include permission to bring in foreign workers, own land and take or remit foreign currency abroad. The board of investment has separated Thailand into three different zones; Zone 1 (Bangkok and 5 provinces), Zone 2 (12 provinces) and Zone 3 (Remaining 58 provinces). In zone 1, firms are granted 50 per cent reduction of import duty on machinery and Corporate income tax exemption for 3 years for projects located within industrial estates or promoted industrial zones, provided that such a project with capital investment of 10 million baht or more. However, to promote the investment of Northern Thailand (Zone 3), the government grants slightly different; Full exemption of import duty on machinery and corporate income tax exemption for 8 years provided that a project with capital investment of 10 million baht or more
The Thai government is trying to promote FDI in Northern Thailand to the fullest extent. The incentives the Thai government provides are fairly strong compared to other destinations around Asia. The Northern Region Industrial Estate invests to build factory outlets and provide government subsidies for various projects. They stated that the most common type of production is in the electronics industry, followed by machinery and agricultural industry respectively. This suggests that Chiang Mai is a suitable destination dependant on the product. For example, industries which rely more on handicraft production would look to incest in Chiang Mai due to the appropriate skilled workforce.
As well as the NRIE and BOI, the department of Industrial Promotion also heavily aids the development of production technology for medium enterprises entering the Thai market. Their aim is to provide support to achieve greater potentials and production capacity for investments to gain competitive edge. They offer approximately 70 industrial technical training courses and seminar services for these firms.
Conclusion/Evaluation and Strategies/Recommendations
Chiang Mai has several implications as to whether it is a good destination for foreign direct investment. There are many advantages to what it has to offer. This conclusion is come about by many factors especially the large aid and assistance offered by the government laws and different government bodies and their effort to promote FDI. Chiang Mai has comparative advantage over other areas of Asia. These include skills labour, technology and its location. However, as we can see from the chart on the right taken from "International Experts Ranking", Thailand is ranked as the 4th most popular destination for Foreign Direct Investment in the world and 3rd in Asia.
The competitiveness with China and India is very high. Costs of production in China are still relatively lower than Thailand. But consumers know that China is one of the cheapest labour destinations and would therefore associate China with cheap production, low quality goods. Although Chiang Mai is in direct competition with China and some other various emerging markets, it still has large potential to be a very successful destination given that the right strategies are continued to be implanted by the government.
The negative effects are described as the negative externalities; eg. Water, air and noise pollution. Examples of this have been seen by the mass destruction of the rainforests in Northern Thailand. During my visit to Thailand, I noticed and was also told that the hillsides were cut down in order to make room for these multinationals as well as forms of building materials. In addition, the bringing in of multinationals means a new culture concept. There have been continuous debates about hill tribes in northern Thailand and if they are allowed to stay in their areas of living to preserve Thailand's culture. I've visited one of the hill tribes which have turned itself into a tourist resort museum to sustain their living. Dual economies could be seen in these villages; TV and satellite dishes have been installed while some families can still not afford shoes for their children.
Overall, Chiang Mai is an emerging economy and thus predicting what its status will be in the long run is very difficult. It all depends on the decisions and strategies of the government.
In order for Chiang Mai to stay as competitive as it is now, it needs to adapt to its changing environment and competitors, and implement various strategies to attract new investors and continue prospering. There are several things Chiang Mai could do, and may need to do to attract further FDI.
Firstly, Chiang Mai could market themselves more effectively as a foreign direct investment destination. I think that the incentives provided by the government that lowers tax on profit is a great way of marketing Chiang Mai as a FDI destination. It leaves firms not worrying about high tax rates leading to lower profits. But they may need to think of something more than that, as China offers the same incentives to investing firms.
They may need to remarket and look at different target investors altogether to try lure a range of investors to Thailand. Another way of gaining competitive advantage is by product differentiation. Thailand could look to attract companies other than those who wish to invest solely in manufacturing. They may like to consider attracting the service industry eg. Tourism industry. Although Chiang Mai is not an extremely large tourist destination, the service industry would be slightly risky.
The government knows Thailand is defiantly blooming economically after being named the 4th most desirable FDI destination. They started to moved forward on a 5-year, US$38.5 billion budget for new infrastructure projects, including new roads, satellite city located in Nakorn Nayok servicing by a Japanese style bullet train.
Looking to attract higher value goods and change their entire reputation from which China has transformed itself could be another solution. This may be able to reduce the competition with China as they will become different FDI destinations for different types of companies rather than only companies which seek for low costs and high incentives. Chiang Mai could look to rebuild a reputation of quality.
The government could look to get more involved with different ways attracting more FDI. As they have already reduced the tax on profits and provided incentives, more companies are likely to consider Thailand as their destination. Planning various projects and schemes to provide training to the local population to make workers more diversified could be a great start. Diversification allows risks to be spread since the working population will become more familiar with a wider range of skills.
In the SWOT analysis, we looked at the major threats such as terrorism and SARS. Though these are controllable beyond the hands of the government, their only job is to improve the quality of education and raise the awareness of these situations. These actions would certainly be very costly, but the return in the long run is all worthwhile.
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