Japan FDI

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Introduction:

BIMP-EAGA was launched in 1994 as a cooperation initiative by Brunei,

Indonesia, Malaysia and the Philippines, all of which are member-countries of the regional

Association of Southeast Asian Nations (ASEAN). The objective behind the creation of BIMP-

EAGA is to accelerate economic development in the four countries' focus areas which,

although geographically distant from their national capitals, are in strategic proximity to each

other, in one of the worlds most resource-rich regions. The BIMP-EAGA initiative is market-

driven, and operates through a decentralized organization structure involving the four

governments and the private sector.

Foreign direct investment (FDI) has contributed significantly to the rapid economic growth of

East Asia from the mid-1980s until the economic crisis in the late 1990s. FDI brought to FDI

recipient economies not only financial resources for fixed investment but also technologies and

managerial know-how, which play crucial roles in promoting economic growth. Furthermore,

FDI enabled the recipient economies to utilize various networks such as sales, procurement, and

information networks of foreign firms, through which the recipients can achieve efficient

production and marketing. Indeed, many East Asian economies liberalized FDI policies, after a

long period of restrictive FDI policies, in order to reap the benefits from FDI.

Japanese multinational corporations (MNCs) have developed their production networks around

the world, including member countries of BIMP-EAGA (Brunei Darussalam - Indonesia -

Malaysia - Philippines East ASEAN Growth Area), through their direct investment. On the

one hand, Japanese MNCs selection of investment locations and their choices normally depend

on their assessment of the host countries competitive advantage.

On the other hand, there has been increasing awareness that Foreign Direct Investments (FDI)

could bring the necessary ingredients for economic development to the recipient countries.

Japanese investments have played an important role in industrial development in the East Asian

countries, especially after the Plaza Agreement (1985) when leaders of advanced countries

decided to revalue the Japanese Yen against US dollar (Phongpaichit, 1990).

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Since then, there has been rapid increase in Japanese investment in the region and Japan became

one of its top investors. This phenomenon was the so-called, second wave of Japanese

investment in Southeast Asia (Furuoka, 1995). Despite the significant contributions of foreign

investments to regional economic development, there remains a lack of systematic research on

the topic. This paper chooses Japanese investments in three countries in the BIMP-EAGA (i.e.

Malaysia, Indonesia and the Philippines) as a case study to analyse how foreign investors choose

their investment destinations.

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LITERATURE REVIEW:

There are fairly large number of researches which have been devoted to the analysis of the

determinants of FDI (Goldberg and Klein, 1998; Nakayama and Oyama, 1998; Furuoka, 2002;

Bende-Nabende, 2002; Akinkugbe, 2003). Although there is no consensus among researchers as

to a consistent set of factors, the following six are usually viewed as determining the FDI inflow:

(1) market size, (2) growth rate of market size, (3) per capita income, (4) trade deficit and, (5)

inflation rate.The market size of the host country, as indicated by its Gross Domestic Product

(GDP), and its growth rate could be considered as important determinants of the FDI inflow.

Appleyard and Field (2001) point out that MNCs invest abroad in response to large and rapidly

growing markets for their products. Mbekeani (1997) concludes that the market size of a host

country and its growth rate have been among the most important determinants of FDI inflows

into the Asia-Pacific and Latin American countries. The per capita GDP could also influence the

inflow of Japanese investment. As the per capita GDP increases in the recipient country, local

consumers would experience a higher standard of living. Thus, some Japanese companies would

invest to set up their production base to cater to the needs of middle- or upper-class consumers.

Root and Ahmed (1979) discovered that foreign companies tended to invest more money into

recipient countries with higher per capita GDP.

Trade deficit has also been viewed as a potential determinant of FDI inflow. Chakrabarti (2001)

asserts that trade deficit has often been referred to as being an important determinant of foreign

investment. However, no consensus has been reached among researchers regarding the

relationship between the two variables. Some researchers claim that there is a significant positive

relationship between trade deficit and FDI inflow (Tsai, 1994) while others argue that there is a

significant but negative relationship between the two variables (Lucas, 1993).

Furthermore, there are other factors which may affect negatively the inflow of foreign

investment. Examples are political and economic risks in the recipient countries. If the countries

suffer from high inflation rate or high unemployment rate, the MNCs will be reluctant to invest

in these countries. This is because high inflation rate or unemployment rate can be interpreted as

a sign of instability of macroeconomic foundations in the recipient countries. If the governments

in the countries are authoritarian regimes and restrict citizens political rights, the MNCs will not

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be keen to invest in these countries. This is mainly because the countries with authoritarian

regimes can be considered as business-unfriendly countries which suffer from high corruption

rates and excessive bureaucratic red tapes.

Akinkugbe (2003) incorporates inflation rate and political risks into the foreign investment

allocation model. Akinkugbe finds a negative but not a significant relationship between these

risks in the recipient countries and inflow of foreign investments. Urata and Kawai (2000)

examine how Japanese small and medium enterprise (SMEs) decides on the location for their

investment. According to them, there are two main factors (i.e. supply-side and demand-side)

which can influence their decision-making process on selecting the location for their investment.

On the one hand, the supply side-factors include low-wage labor and good infrastructure. On the

other hand, the demand-side factor includes the size of the local market.

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Statistical Data

Table: 1 Japanese FDI in ASEAN and China by Sectors: 1998-2005 Cumulative Value

(Billion Yen)

Value (Billion Yen) Total

Manufacturing Indonesia Malaysia Philippines Thailand China Asia

987 659 463 1012 1634 6507 23,789

Non-

Manufacturing

896 222 167 383 512 4,655 41,374

Branches 10 3 8 99 54 349 708

Total 1,893 884 638 1,494 2,200 11,510 65,871

Note: Reported values

Source: Ministry of Finance

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Table: 2 Future FDI Plans by Japanese Firms (%)

Expansion Maintain

Strength- current

Overall industry

All regions

ASEAN

China

NIEs

Electric machinery

All regionsASEAN

China

NIEs

Automobile industry

All regions

71.6 28.0 0.4

51.5 46.2 2.3

76.3 23.2 0.5

32.0 66.7 1.4

72.3 26.6 1.1

57.8 36.1 6.0

86.4 13.6 0.0

38.8 61.3 0.0

Note: Percentage of the firms indicating their future plans.

The responses for all regions and those for

regional groups do not necessary add up.

Source: Japan Bank for International Cooperation (2008)

Table: 3 Reasons for Expanding/Strengthening Overseas Operation in the Next 3 years (%)

ASEAN China BIMP-EAGA

Responding to local sales expansion

Exploring new market

Supplying parts to business partners (assemblers)Using low-wage labor

Developing new products for the local markets

Using cheap materials Avoiding

55.9

22.1

34.847.5

13.7

27.9

74.3

29.3

31.857.2

14.5

31.5

61.4

29.8

28.917.5

15.8

15.8

Note: Multiple responses are allowed.


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Table: 4 Problems Faced by Japanese Firms (%)

Thailand Indonesia Mala sia Vietnam China

Underdeveloped infrastructure

Legal system (underdevelopment)

Legal system (lack of transparency)

Legal system (instability)

Tax system (complicated system)

Tax system (lack of transparency)

Tax system (instability)

Tax system (high tariff rates)

Restriction on equity participation

Complicated administrative procedure

Political and social instability

Unstable exchange rates

Difficulty in procuring local parts

Underdevelopment of supporting industry

Difficulty in obtaining finance

Tough competition

14.9 24.1 14.3 38.6 27.3

17.2 25.9 7.1 36.4 43.8

14.9 16.7 7.1 20.5 53.3

5.7 16.7 3.6 15.9 52.1

4.6 7.4 3.6 2.3 16.8

13.8 7.4 7.1 11.4 36.5

2.3 7.4 3.6 11.4 42.2

10.3 5.6 0.0 9.1 17.5

10.3 7.4 32.1 11.4 20.3

5.7 3.7 17.9 15.9 34.9

11.5 94.4 32.1 25.0 34.0

48.3 57.4 32.1 22.7 15.2

19.5 11.1 17.9 34.1 20.6

10.3 13.0 0.0 22.7 10.2

11.5 11.1 17.9 9.1 16.2


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Conclusion:

Among various parts of the world Japanese firms are keen on

Expanding/ strengthening their operations in East Asia, because they consider East Asia to

provide them with growing demand and low cost production. Among East Asian economies,

Japanese firms find China most attractive, but they also find ASEAN countries attractive.

It is important to realize that similar factors, namely huge potential market and abundant

supply of cheap labor, make China and ASEAN attractive to Japanese FDI. At present, many

Japanese firms appear to have operations both in China and ASEAN because they think FDI

environments in ASEAN and China are more or less comparable and because they are

interested in diversifying risks. However, if and when ASEAN and China FTA becomes

effective and free trade between them is achieved, Japanese firms may consolidate their

operations in the most appropriate location. If China continues to achieve high economic

growth and pursue trade and FDI liberalization under their WTO commitments, and if ASEAN

cannot achieve sustainable economic growth or trade and FDI liberalization, it appears

quite certain that China would attract large amount of FDI at the cost of ASEAN. Indeed,

there have been a number of cases where Japanese firms shifted their operations from

ASEAN to China.

In order to attract FDI and to achieve economic growth by utilizing the benefits of FDI,

ASEAN have to provide an attractive FDI environment. The results of the JBIC survey and

other studies have shown the importance of open trade and FDI regimes, stable macro-

economic environment, and well-established and well- functioning soft and hard

infrastructure. Soft infrastructure includes educational and training systems for improving the

quality of human resources, well-functioning markets with effective legal systems, and

others, while hard infrastructure includes efficient and reliable transportation and

communication systems, stable supply of electricity, efficient supporting industries, and others.

To s u c ce s s fu l l y provide such favorable FDI environments, ASEAN Countries have to

carry out a number of policies including trade and FDI liberalization, restructuring of legal and

tax systems on their own. They also should use multilateral, regional, and bilateral

frameworks to construct favorable FDI environments. Specifically, trade and FDI

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liberalization under the WTO, APEC, and FTA such as AFTA, proposed China-ASEAN,

J a p a n -ASEAN FT A s would prove effective. Furthermore, economic and technical

assistance under the frameworks of the World Bank, APEC, EPA (economic partnership

agreements) such as Japan-ASEAN EPA would contribute substantially to enhance FDI

environments.

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