Chapter-2

Foreign Direct Investment (FDI)

and Regional Development:
A Conceptual Framework
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

CHAPTER-2
FOREIGN DIRECT INVESTMENT (FDI) AND REGIONAL
DEVELOPMENT: A CONCEPTUAL FRAMEWORK

2.1 CONCEPT OF FOREIGN DIRECT INVESTMENT (FDI):

FDI is a form of cross broader investment which involves the inflow of foreign capital
into an MNC operating in a different country of origin from the investor. The concept
of foreign direct investment (FDI) has been defined differently by different
economists, academicians and institutions which are discusses in the following pages:
Paul Krugman (1953)1 has defined FDI as “international capital that flows
from one country to another country. This can be done in the form of creating firms
and expanding subsidiaries in another countries”
Rugman and Hodgets2 (1985) have defined FDI as “the process whereby
residents of the source country acquire ownership of assets of a firm in host country
for the purpose of controlling the production, distribution and other activities. It
implied that FDI is the ownership and control of foreign assets.”
Rutherford3 (1992) opined that “FDI is a form of investment in businesses of
another country by establishing a local production facility or by purchasing the share
of existing businesses”.
Buckley and Brooke4 (1992) are of the view that FDI is a packaged of transfer
of capital, technology, management and other skills which takes place internally
within the multinational firms in another country.
In the words of D. Mello Jr.5 (1997), “FDI is a form of international inter-firm
cooperation that involves a significant equity stake in or effective management
control of foreign enterprise.”

1
Edward M. Graham and Paul R. Krugman (1953), “Foreign Direct Investment in United States”,
Published by Institute of International Economics.
2
Moosa Imad A. (2002), “Foreign Direct Investment: Theory, Evidence and Practice”, Palgrave
Macmillan, New York, p.261.
3
Moses, C. Olise, Anigbogu, Theresa U., Okoli, Moses I. and Anyanwu, Kingsley N. (2013),
“Domestic Investment and Foreign Direct Investment Flows In Nigeria”, IOSR Journal Of Humanities
And Social Science, Vol. 13, Issue 6, p.3.
4
Buckley, P. J., and M. Z. Brooke (1992), “International business studies: An overview”, Cambridge,
MA: Blackwell.
5
De Mello Luis R. (19997), “FDI in developing countries and growth; A selective survey”, The
Journal of development Studies, Vol. 34, No. 1, pp. 1-31.

36
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

Dunning6 (2008) has defined “FDI as the transfer of resources other than
capital such as transfer of technology, management and marketing skills etc.
Moreover, FDI is simply an alveus for the transfer of other resources than the
monetary capital”.
Todaro and Smith7 (2009) have defined “FDI as a corporation that conducts
and controls productive activities in more than one country”.
According to Mayaram A. 8 (2014) “FDI is characterized by a lasting interest
i.e., existence of long term relationship significant degree of influence. Normally
ownership of 10% or more of ordinary shares or voting power signifies this
relationship involves both initial and subsequent transaction”.
According to Organization of Economic Cooperation and Development
(OECD)9 (1992), “FDI refers to a situation in which a single investor controls less
than 10% percent or more of the ordinary or voting power with a view to having an
effective voice in the management of the organization”.
IMF’s Balance of Payment Manual (BPM5)10 (1993) defined “FDI as a form
of international investment made to acquire lasting interest in an enterprise operating
outside the country of the investor. Further, in cases of FDI, the investor´s purpose is
to gain an effective control in the management activities of an enterprise. In this
regard, the foreign entities or group of associated entities which make the investment
is called the direct investor and the direct investment enterprise is referred as the
unincorporated or incorporated enterprise either a branch or a subsidiary in which
direct investment is made. Some degree of equity ownership is almost always
considered to be associated with an effective voice in the management of an
enterprise, the BPM5 suggested a threshold of 10% of equity ownership to qualify an

6
Dunning, John and Lundan S. (2008), “Institutions and the OLI paradigm of the multinational
enterprise”, Asia Pacific Journal of Management, Vol. 25, Issue 4, pp. 573-593.
7
Moses, C. Olise, Anigbogu, Theresa U., Okoli, Moses I. and Anyanwu, Kingsley N. (2013),
“Domestic Investment and Foreign Direct Investment Flows In Nigeria”, IOSR Journal Of Humanities
And Social Science, Vol. 13, Issue 6, p.3.
8
Ministry of Finance (2014), “Report of Arvind Mayaram Committee on Rationalizing the FDI/FII
Definition”, Department of Economic Affairs, Ministry of Finance, Govt. of India.
9
Organization for Economic Co-operation and Development (OECD), (1992), “Detailed Benchmark
Definition of Foreign Direct Investment: Second Edition (BD2)”, OECD, Paris.
10
International Monetary Fund (IMF) (1993), “Definitions of FDI are contained in the Balance of
Payments Manual: Fifth Edition (BPM5)”, IMF, Washington, D.C.
Available At: [Link] retrieved on
06/02/2018.

37
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

investor as a foreign direct investor. Once a direct investment enterprise has been
identified, it is necessary to define which capital flows between the enterprise and
entities in other economies should be classified as foreign direct investment. Since the
main feature of FDI is taken to be the lasting interest of a direct investor in an
enterprise, only capital that is provided by the direct investor either directly or through
other enterprises related to the investor should be classified as FDI. The forms of
investment by the direct investor which are classified as FDI are equity capital, the
reinvestment of earnings and the provision of long-term and short-term intra-company
loans (between parent and affiliate enterprises)”.
World Bank11 (1996) is of the view that “FDI is an investment made to acquire
a lasting management interest, often 10% of the voting stock in a business enterprise
operating in foreign country other than that of the investor’s residence”.
International Monetary Fund12 (2004) is of the opinion that “foreign direct
investment is assigned to have occurred when an investor has acquired 10% or more
of the voting power of a firm located in a foreign economy”.
Organization of Economic Cooperation and Development (OECD)13 (2008)
again defined “FDI as a category of cross-border investment made by a resident in
one economy (the direct investor) with the objective of establishing a lasting interest
in an enterprise (the direct investment enterprise) that is resident in an economy other
than that of the direct investor. The motivation of the direct investor is a strategic
long-term relationship with the direct investment enterprise to ensure a significant
degree of influence by the direct investor in the management of the direct investment
enterprise. The lasting interest is evidenced when the direct investor owns at least
10% of the voting power of the direct investment enterprise. Direct investment may
also allow the direct investor to gain access to the economy of the direct investment
enterprise which it might otherwise be unable to do. The objectives of direct
investment are different from those of portfolio investment whereby investors do not
generally expect to influence the management of the enterprise”.

11
World Bank (1996), “World Debt Tables: External Finance for Developing Countries”, Vol. 1
(Analysis and Summary Tables), Washington, D.C.
12
IMF (2004), Foreign Direct Investment, Trend, Data availability, concept and recording fraction.
13
Organization for Economic Co-operation and Development (OECD), (2008), “Detailed Benchmark
Definition of Foreign Direct Investment: Third Edition (BD4)”, OECD, Paris.

38
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

According to World Investment Report14 (2003), “FDI is a long term cross

boarder investment of private equity funds exceeds the 10% equity threshold of the
acquired firm, these investments are classified and should be recorded as FDI, even if
a majority of such investments are short term and closer in nature to portfolio
investments. Investment by these funds may be the latest examples of portfolio
investment turning into FDI”.
International Monetary Fund15 (2004) is of the opinion that “foreign direct
investment is assigned to have occurred when an investor has acquired 10% or more
of the voting power of a firm located in a foreign economy”.
The United Nations16 is of the view that “foreign direct investment as an
investment in enterprise located in one country and effectively being controlled by
residents of another country’. This definition does not only consider FDI as being
mere investment, it also stresses on the status of corporate control. Foreign Direct
investment (FDI) is type of investment made for acquiring a lasting interest in or
effective control over an enterprise operating outside of the economy of the investor.
FDI net inflows are the value of inward direct investment made by non-resident
investors in the reporting economy, including reinvested earnings and intra-company
loans, net of repatriation of capital and repayment of loans. FDI net outflows are the
value of outward direct investment made by the residents of the reporting economy to
external economies, including reinvested earnings and intra company loans, net of
receipts from the repatriation of capital and repayment of loans. These series are
expressed as shares of GDP”.
United Nations Conference on Trade Agreement and Development17
(UNCTAD) has defined “FDI as ‘an investment involving management control of a
resident entity in one economy by an enterprise resident in another country”.
From the foregoing definition it can be implied that foreign direct investment
is an international transfer of package of resource in terms of capital, technology
know how, management skill, marketing expertise. The goal of global integration of

14
World Investment Report (2003), “FDI Policies for Development: National and International
Perspectives”, United Nations.
15
IMF (2004), Foreign Direct Investment, Trend, Data availability, concept and recording fraction.
16
[Link]
pdf retrieved On 06/02/2018.
17
Todaro and Smith (2009), “Economic Development”, Pearson Publication, 10th Edition.

39
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

economies subject to retain over control of share of more than 10% with lasting
interest with the expansion of an enterprise from its origin into a foreign-host country.
2.1.1 Components of Foreign Direct Investment (FDI):
According to International Monetary Fund18 (IMF) and BPM5 FDI has three
components, viz., equity capital, reinvested earnings and other direct capital. Reserve
Bank of India19 in March, 2003 revised the FDI definition in line with international
practices. The revised FDI data now includes equity capital, reinvested earning and
other direct investment capital mainly in form of intra company loan or debt. The
three main components of FDI inflow as per international accounting standards are as
follows:
(i) Equity capital: Equity capital consists of the value the investment made by a
foreign investor (MNC) to purchase of share of a company in outside own
country. It includes tangibles and non-tangibles components of unincorporated
entities, non-cash acquisition in form of technology transfer, plant and
machinery, good will, business development, control premium and non-
competition fees.20
(ii) Reinvested Earnings: It refers to sum of the share of direct investors (in
proportion to direct equity participation) in earnings not distributed as
dividends by affiliates, or earnings not remitted to the direct investor.21
(iii) Other Direct Investment Capital:
Other direct investment capital in India mainly in the form of intra-company
loans. Intra-company loans refer to an investor borrows funds to the affiliate
without the intention of returning money back. Besides, “other capital”
includes short term and long term inter corporate borrowings, trade credit,
supplier credit, financial leasing, financial derivatives, debt securities and land
& buildings are factors in.22

18
Usha Bhati (2006), “Foreign Direct Investment: Contemporary issue”, Deep and Deep Publication
Pvt. Ltd., p.2.
19
[Link] retrieved on 06/02/2018.
20
[Link] retrieved on 06/02/2018.
21
[Link] retrieved on 20/02/2018.
22
[Link] retrieved on 21/01/2018.

40
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

2.1.2 Strategic logic of FDI:

(i) Resource Seeking FDI
It refers to the strategic investment decision of the multinational enterprises. Resource
seeker MNCs attempts to acquire the natural resources and endowment of a particular
region including quality of transportation infrastructure, availability of raw materials,
favorable tax and regulatory policy at the lower cost as compare to home country.
Resource seeking FDI utilizes resources, cheap skilled labour and technology and
managerial skills.23
(ii) Market Seeking FDI
Market-seeking FDI attempts to establish an overseas subsidiary to protect and
expand a foreign market by a way of securing market shares and growth in the
targeted overseas market. Market seeking FDI has the potential to provide more
benefits to host country as compared to any other form of foreign investment and
trade. Market seeker come up with a much more capital need to build and equip a
factory with advanced production technology and environmental protection
technology resulting employment of skilled job and additional tax revenue to the host
country as compare to the local competitors. At this juncture, local competitors cannot
cope up with this new technological advancement.24
(iii) Efficiency Seeking FDI
Efficiency-seeking FDI is based on the principle of comparative cost advantage. The
first principal rationale of efficiency seekers is to invest their capital in a low wage
country and the second major rationale is to achieve the economies of scale. Thus,
Efficiency seekers while making any investment decision in a foreign country seeks
the rationale to reduce the production cost. The MNCs tried to gain the benefits of
different factor endowments like cultures, society, economic systems & policies,
market structure, polity & governance and proximity of multiple market to supply the
finished product.25

23
“Foreign direct Investment: Theory and Application”, p.62.
Available at: [Link]
retrieved on 07/02/2018.
24
Kudina A. and Jakubiak M. (2008), “The Motives and Impediments to FDI in the CIS”, Global
Forum on International Investment, OECD, p.4.
25
Naghma Zia (2014), “ Role of FDI in the Development of Industrial Sector in India Since 2000”,
Unpublished Thesis, Department of Commerce, Aligarh Muslim University, Aligarh, pp.53-54.

41
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

(iv) Strategic Asset Seeking FDI

Strategic asset-seeking FDI is to obtain the assets of foreign firms in order to promote
long-term strategic relation by the way to establishing global strategic alliance.
Acquisition of strategic assets involves company to swallow a competitors, widen its
product line, upgrade its technology embedded in its product and prevent a third
company to acquire the purchased assets. Strategic assets seekers has no inherent
advantage or disadvantage except possibly to reduce competition. Thus, the objectives
of strategic assets seeking FDI is not to reduce cost or protect specific markets rather
to extent their global strategic alliances.26
2.1.3 Nature of FDI:
(i) Inward FDI or FDI Inflow
FDI inflow or inward FDI is the most common type of inward investment which refer
to the amount of foreign direct investment made by foreign country in a host country.
An inward investment is just opposite of FDI outflow, an inward investment involves
an external or foreign entity either investing in or purchasing the goods of a local
economy27.
(ii) Outward FDI or FDI Outflow
An outward foreign direct investment is a business strategy where a domestic firm
expands its operations to a foreign country either via Green field investment or
merger/acquisition. In simple words, outflow of FDI refer to the flow of FDI out from
a home country to the foreign country28.
2.1.4 Classification of FDI:
(i) Horizontal FDI
Horizontal FDI refers to an investment strategy in which an MNC enters a foreign
country to produce the same product which operates at home country. It occurs when
a firm duplicates its home country-based activities at the same value chain stage in a
host country through FDI. Horizontal FDI involves the same production activities of
26
Stephen D. Cohen (2007), “Multinational Corporation and Foreign Direct Investment”, Oxford
University Press, New York, pp. 70-71.
27
Slaughter and May (2012), "Legal regimes governing Foreign Direct Investment (FDI) in host
countries", Advocates for International Development. Available at:
[Link]
0Legal%[Link] retrieved 02/01/2018.
28
Sumana Chatterji (2009), “ An economic analysis of FDI in India, unpublished thesis, Department of
Economics, Maharaja Sayaji Rao, University of Vadodara, Gujarat, p.10.
[Link] retrieved on 06/02/2018.

42
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

multinational corporations in multiple countries. Lower trade costs encouraged

vertical FDI but discourage horizontal FDI.29 Most of the Japanese MNCs expand
their business internationally in horizontal FDI.
(ii) Platform FDI
Platform FDI arises when an MNC invests in a foreign country for the purpose of
exporting its product to a third country.30
(iii) Vertical FDI
Vertical FDI refers to an investment in international business activities that plays the
role of a supplier or a distributor. Relatively lower trade cost is the main motive and
rational for vertical FDI. Vertical FDI is often called international
outsourcing/offshoring that occurs when a company moves upstream or downstream
in different value chains through FDI. The main motive and aim of vertical FDI is to
exploits the scale of economies at different level of production which arises as a
results of integrated production relationship 31.
2.1.5 Forms of FDI
(i) Greenfield FDI
A green field investment is an international business strategy to invest in a new plant
by a parent company with its fresh operations in a foreign country. Thus it is about the
establishment of new business with new physical plant where the opportunity for a
new market is expected. It is a situation where an MNC starts new venture by
constructing new operational facility. Moreover, the construction of new production
facilities includes the building of new distribution hubs, offices and living
quarters.32The Greenfield FDI introduce new physical assets such as plants and
machinery, create new employment and upgraded technology know how etc. the

29
“Foreign direct Investment: Theory and Application”, p.61.
Available at: [Link] retrieved
on 07/02/2018.
30
Omelańczuk, M., (2013). ‘Export Platform FDI as a Concept for Growth – Selected Global
Experiences’. Entrepreneurial Business and Economics Review, Vol. 1, issue 1, pp. 91‐102.
31
“Foreign direct Investment: Theory and Application”, p.61. Also available at:
[Link] retrieved on
07/02/2018.
32
Griffin and Pustay (2005), “International Business: A Managerial Perspective”, 4th Edition, Pearson
Publication.
[Link] retrieved on 06/02/2018.

43
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

MNCs like McDonald's and Starbucks have used the Greenfield approach to expand
their business abroad.
(ii) Brownfield FDI
Brownfield FDI is about the investment made in an existing plant. It is a part of
investment strategy which is mainly done through cross boarder merger& acquisition,
amalgamation, joint venture and licensing and to take over a company by purchasing
of share. It occurs when an entity purchases an existing facility to begin new
production. The main advantage of such type of investment strategy is that the
building is already constructed which may reduce the startup cost of acquirer33. The
time devoted for construction can be avoided as well. Brownfield FDI involves the
transfer of ownership of existing firm from a domestic company to foreign enterprise.
For example Tata Motors used the brownfield investment strategy to acquire Land
Rover and Jaguar from Ford. As a result of acquisition, Tata Motors didn't have to
build those factories from scratch.
2.1.6 Theories of FDI
In a layman language, FDI bring a lots of benefits to the host country such as
development of skilled labor force, higher productivity, new technology, knowledge,
financing in infrastructure and management expertise. An FDI theory encompasses
the answer of the many questions like who would be the investor? What kind of FDI
to be injected? Why would we invest? Where would the FDI go? When would we
invest? And what would be the mode of entry? However, there are a number of
theories pertaining to the reasons and motivation of investors to invest in foreign
countries. Few of them important theories are briefly discussed as:
(a) Theories based on Perfect Market:
Perfect market theories undertake macro level or country level determinants of FDI
like differential rate of return, portfolio diversification and market size of host
economy etc. which will found inadequate to explain FDI in subsequent time. Few of
the approach of FDI under perfect market are discussed below:

33
Evans Paull (2008) “Working Draft for Distribution”, The Environmental and economic Impacts of
Brownfields Redevelopment, Northeast-Midwest Institute, pp.10-15.
[Link]
[Link]

44
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

(i) Differential Rate of Return Theory

Differential Rate of Return Theory was the pioneer work which was developed to
explain the determinants and benefits of FDI under perfect market conditions. This
approach has gained the popularity in late 1950 with efforts of Hufbaur34 (1975).
According to this approach, the flow of capital from one location to another location
takes place due to the reward in the form of variation in rate of return on capital
investment. In this way, the flow of capital is largely affected by the factor of cross
boarder variation in the rate of return on capital investment. Further, the main reason
of flow of capital is to reap the comparative advantage of higher rate of return and
comparative cost on capital investment among the countries. Moreover, the marginal
cost of capital is the same in both the countries then the investment decision will be
made in other countries rather than home country.35 Later, this theory was criticized
by the Aggarwal36 (1980) on the grounds of determinant of FDI flow. Thus, the
theory of differential rate of return failed to explain the determinants of FDI flow.
(ii) Portfolio Diversification Theory
This theory of FDI can be trace back to the application of Markowitz (1959) and
Tobin (1958). They resorted to portfolio diversification theory to explain investment
decision when differential rate of return theory become inadequate. They expanded
the form of differential rate of return by adding risk as an influencing factor of
investment decision. Thus, according to them investment decision made by an MNC
not only consider the rate of return but also risk involved in it. FDI across countries
takes place due to the goals of risk diversification. Investment decision are guided by
the evaluation of anticipated return and risk diversification. Generally, portfolio
diversification is a process of hedging the risk involved in any investment by
investing more than one various types of avenues in domestic investment. But in
foreign direct investments, capital investment are done carefully across the globe.
This theory emphasized that the selection of a country to make investment depends on

34
Hufbaur, G.C. (1975). “The MNCs and direct investment in international trade and finance:
frontiers of research” edited by Peter B. Kennen, Cambridge England, Cambridge University press.
35
Imad A. Moosa (2002), “Foreign Direct Investment: Theory, Evidence and Practice”, Palgrave
Macmillan publication, First Edition, p.25.
36
Agarwal J.P. (1980), “Determinants of Foreign Direct Investment: A Survey”, Published by
Springer, pp. 739-773.
Also Available at: [Link]

45
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

the factors like relative cost and the ability of the allocation to reduce systematic
exchange rate risk etc.37
(iii) Output and Market Size Theory
The output and Market size theory of FDI derived its root from the neoclassical
investment theory. According to this theory, the volume of FDI in a host country
depends on its markets size which is measured by the sales of the MNC in host
country or by host country’s GDP which is the size of the host country’s economy or
host country’s growth. This theory states that larger size of the host country’s market
allowed the investors to make more efficient utilization of resources by lowering the
production cost through the exploitation of economies of scale and subsequently make
the country potential target for FDI inflows.38 Aggarwal39 (1980) who found that the
host country’s market size is the important significant factor affecting a country’s
propensity to attract inward FDI. This theory was also supported by the subsequent
empirical literature of Tsai (1994), Billington (1999) and Chakraborty40 (2001).
(b) Theories based on Imperfect Market
The failure of neoclassical theories to explain how, where and why FDI injected has
led to development of new explanation of international investment. Hymer (1976) was
the first researcher who identified the market structure and firm’s specific features
play an important role in explaining the FDI. Some of the theories based on the
imperfect market discussed here:
(i) Industrial Organization Theory or Monopolistic Power Theory
Stephen Hymer 41 (1960) and C.P. Kindleberger 42 (1969) are the main proponent of
this theory who emphasized on the idea that due to market structure imperfection
some firms enjoy competitive advantage for making investment decisions. It is also

37
Aliber and Click (1999), “Readings in International Business: A Decision Approach”, MIT Press,
Cambridge, London, pp.88-89.
38
Imad A. Moosa (2002), “Foreign Direct Investment: Theory, Evidence and Practice”, Palgrave
Macmillan publication, First Edition, p.27.
39
Agarwal J.P. (1980), “Determinants of Foreign Direct Investment: A Survey”, Published by Springer,
pp. 739-773.
Also Available at: [Link]
40
Chakraborty A. (2001), “The Determinants of FDI Sensitivity Analysis of Cross Country
Regression”, Kyklos, No. 54, pp. 89-114.
41
Hymer, S.H (1976), “The International Operations of National Firms: A Study of Direct Foreign
investment” Cambridge Mass, MIT Press.
42
Kindleberger, C.P., (1969), “The Theory of Direct Investment”, American Business Abroad, Yale
University Press, New Haven.

46
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

known as the Hymer-Kindleberger theory. Hymer (1960) advocated that existence of

MNC is due to the market imperfection. However, Hymer’s postulate largely ignored
until the Kindleberger who later popularized this theory. According to him, Firms
exploit competitive advantage due to imperfect market structure which includes
patents, superior knowledge and product differentiation, expertise in organizational &
management skills and access to foreign markets. The industrial organization theory
gained the favour of subsequent literature by Dunning43 (1974), Vaitsos44 (1974) and
Cohen45 (1975).
(ii) Internationalization of International Investment Theory
Coase46 (1937) was among the leading proponents of transaction cost and
Internationalization theory of international investment. They shifted the focus of the
FDI theory from country specific to industry specific and further firm specific
determinants of FDI. Buckley and Casson47 (1976) considered the MNCs as an
expansion of the multi-plant firm in the countries. This theory asserted that MNCs
operations are not confined to production of services but also includes marketing,
training, research and development, management techniques and involvement with
financial products in the form of either material products or knowledge and expertise.
The important element of this theory is treating market on one hand and MNC on the
other hand as two different mode of organizing production. This theory is also known
as general theory of FDI. The formation of MNCs are the results of
internationalization of markets which subsequently leads to foreign investment. The
central theme of this theory is that FDI in imperfect market conditions attributed to
Industrialization in a country, internationalization of a country and the presence of the
location factors.48

43
Dunning, J. H. (2000), “The eclectic paradigm as an envelope for economic and business theories of
MNE activity”, International Business Review 9, Vol. 163, issue 190, pp. 163-190.
44
Vaitsos, C.V (1974), “International Income Distribution and Transnational Enterprises”, Calrendon
Press, Oxford.
45
Cohen, B.I (1975), “Multinational Firms and Asian Exports”, New Haven and London Yale
University Press.
46
Coase R.H. (1937), “The nature of the Firm”, Economica, New Series, Vol. 4, No. 16, pp. 386-405.
47
Buckley, P. J., & Casson, M. C. (1976). The future of the multinational enterprise. London:
Macmillan.
48
Nayak and Chaudhary (2014), “A selective Review of foreign direct investment theories”, United
Nations ESCAP Working paper No.143, p.6.

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Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

(iii) Eclectic Paradigm or OLI Theory of International Production

The most comprehensive theory of FDI propounded by John H. Dunning49 (1970)
which was subsequently popular as eclectic paradigm. This theory amalgamated the
industrial organization theory, location theory and internationalization theory to
explain the motives of foreign direct investment. He established a paradigm or general
framework for firms which must be fullfilled if a firm wants to be MNC. This
paradigm includes three component namely Ownership (O), Location (L) and
Internationalization (I). This paradigm also known as OLI framework and all the three
factors (OLI) are important in determining the pattern of FDI. Ownership specific
determinants includes not only intangible assets such as technology and information,
managerial expertise, marketing and entrepreneur skills, patents and trademarks but
also tangible assets such as natural endowments, manpower and capital. Location
specific (country specific) factors refer to factors endowments, cost of transportation,
easy access, market structure, government legislation & policy and political, legal and
cultural environment. Internationalization brings benefits of cross boarder activities of
company, larger target markets and resource availability50.
(iv) Product Cycle Theory
Product life cycle theory was propounded by Raymond Vernon51 (1966) to explain the
nature of international trade and investment. This theory advocated foreign direct
investment as a product introduced in a market by an oligopolistic firm. This approach
made an attempt to link a three stages theory product life cycle such as innovation,
growth and maturity with R & D (Research and Development) factor theory.
Vernon’s theory of international investment considers FDI as the verbose mechanism
or solution to the problem of ecstatic competition in home and host country. This
theory is more relevant when FDI carried out by small firms in developing countries.

49
Dunning, J. H. (1980), “Towards an eclectic theory of international production: some empirical
tests”, Journal of International Business Studies, Vol. 11, issue 1, pp. 9–31.
50
Dunning, J. H. (1977), “Trade, location of economic activity and the MNE: A search for an eclectic
approach”, In B. Ohlin, P. O. Hesselborn, & P. M. Wijkman, The international allocation of economic
activity, London, pp. 395–418. Macmillan
51
Vernon R. (1966), “International investment and international trade in the product cycle”, Quarterly
journal of Economics, Vol. 80, pp. 190-207.

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Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

(v) Oligopolistic Reaction Theory

Knickerbocker52 (1973) has developed the oligopolistic reaction theory of FDI based
on the imperfect market structure. He propounded that in oligopolistic industries,
market leaders who had ventured abroad were automatically followed by rival
companies from the home country. This theory has been criticized on the ground that
it does not recognize FDI as one of the several methods of Foreign Investment.
Besides, this model does not explain the motivation for the initial investment by the
market leader and it also neglects the role of medium-sized TNCs in modernizing
industries in transition countries. Thus, this hypothesis stated that FDI by one firm
would lead to propagate the other firm to do the same in order to maintain their
market share. An important implication of this hypothesis is that FDI by multinational
firms is self-limiting and due to increased concentration in home and other markets,
the competition increases and this reduces the intensity of oligopolistic reaction.
(vi) Currency Capitalization Theory
Currency capitalization theory was developed by the Aliber53 (1970) to explain the
volume and nature of FDI on the basis of strength of currency. He asserted that the
investment and trade decision of the firm are influenced by the relative strength of
currency of various countries. MNCs prefer those countries for FDI destination where
the value of currency is comparable lower than the source country. Weaker currency
countries as compared to stronger source countries’ currency had a higher capacity to
attract FDI in order to take advantage of difference in market capitalization rate.
Aliber found this hypothesis consistent in case of United State, United Kingdom and
Canada.
2.1.7 Foreign Direct Investment (FDI) in India:
FDI is generally known as the most common form of non-debt financial capital which
has been given more priority over foreign trade now a days by transition economies.
India has come up as a major destination for FDI since last decade. Foreign Direct
Investment (FDI) is a type of investment directly into production and services in a
country by a multinational company, either by purchasing the share of a company or

52
Knickerbocker F.T. (1973), “Oligopolistic Reaction and multinational enterprise, Division of
Research, Harvard University, Cambridge, United States of America.
53
Aliber R.Z. (1970), “A theory of Direct investment”, in C.P. Kindleberger Edition, The International
Corporation, MIT, Press, Cambridge, United States.

49
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

by expanding business in that country. In India, the total foreign direct investment
consists the share of investment in equity through SIA/FIPB, Automatic/RBI, NRI,
acquisition of shares of Indian companies by NRIs under FEMA, equity capital of
unincorporated bodies and other capital.
[Link] Routes of Foreign direct Investment (FDI) in India:
There are four major routes of FDI inflow in India which are as follows:
(a) RBI/Automatic Route: It is a route through which foreign direct investment is
injected in the economy without the prior approval of either Government of India or
Reserve bank of India. Reserve Bank of India notified this route on January 5, 1990.
(b) Non-automatic/Government Route/(FIPB/SIA) Route: All those sectors or
economic activities are covered under this route which required prior approval of
government before investing in any project.54 In other words, these activities are not
covered under automatic/RBI route. The proposal for investment is considered by the
Foreign Investment Promotion Board (FIPB), Department of Economic Affairs and
Ministry of Finance of India. Once the proposal is put forward to FIPB, it will be
consulted with concerned administrative ministry based on the quantum of the
investment and other details of the proposal clearance is given. This route is fully
controlled by the Indian Government.
(c) Acquisition of Existing Share Route: The acquisition of share was notified by
government of India as a part of foreign direct investment since 1996 (u/s 29 of FERA
1973 as also mentioned u/s 5 of FEMA 1999). Under this route, companies are
considered FDI proposal for acquisition of share route when the application is made
by Indian companies or while the proposal is supported by board resolution of Indian
company. Under this category there are three components of foreign direct investment
i.e., equity capital, reinvested earning and intra company loans. In which equity
capital is the share of an enterprise in a country which is purchased by a foreign
investor whereas reinvested earnings comprises the share of direct investors of
earning not distributed as dividends by affiliates and intra company loans are also

54
R. Anita (2012), “ Foreign Direct Investment and economic growth in India”, International Journal of
Marketing, Financial Services and management Research, Vol. 01, issue 8, pp. 108-125.

50
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

known as intra company debt which refers to all short and long term borrowings funds
between present and affiliated enterprise.55
(d) RBI’s Various NRI Scheme Route: Some industries are eligible for NRI
investment like small scale industries, banking services, telecommunication, export
trading houses etc. Since 2003, inflows received under this scheme is included under
the head of RBI/ Automatic Route.
2.1.8 FDI Policy Regime in India:
Foreign direct investment has been considered as an instrument of international
economic policy aimed at economic development and globalization of Indian firms.
India being a resource poor country particularly in capital resources was always
receptive to foreign investment. The attitude of Indian government has been
frequently changing towards FDI since the dawn of the independence. The frame
work for governing the FDI activities in India has been developed in three different
stages which are as follows:
(a) Anti-FDI Period (1969-1975)
The “Anti-FDI period “was characterized by the strong opposition of foreign
investment in India. FDI was seen continued till mid-1960 with liberal eyes of
Government of India which resulted in substantial amount of foreign exchange
outflow. To regulate this problem, a Foreign Investment Board (FIB) was established
in 1968 to deal with all the cases of foreign investment or collaboration. Another
regulated measure was started with nationalization of commercial banks in 1969 by
the then government. Moreover, Foreign Exchange Regulation Act (FERA) came in
to effect to regulate the foreign currency in 1973. Which attributed to restrict the
activities of the foreign and large industrial domestic houses. Under this “Anti-FDI
Regime”, the central government put forward a monopolistic regulator of foreign
currency legislating that no state agency could participate in foreign currency
activities except the Reserve Bank of India the only authorized dealer on behalf of the
Government of India.56 The FERA emphasized on process of the Indianization of
foreign companies and the dilution of foreign equity.

55
Rashimi Banga (2003), “Impacts of government policies and investment agreements on FDI inflows
to developing countries: An empirical evidence of India”, The Financial Express, 24 September 2003.
56
Mukharji, Rahul (2014), “Oxford India Short Introduction: Political Economy of Reforms in India”,
Oxford University Press, New Delhi.

51
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

(b) Selective FDI Period (1975-1991)

Selective FDI Period attributed to easing the regulation and started to open its door for
foreign investment with a semi liberal attitude of government. In this period,
government encouraged MNCs to participate in Indian industries by providing
relaxation and de-licensing through its legislations such as Industrial policy 1980,
1982 and technology policy 1983. During this period, the restrictive features of
MRTP act 1969 were also liberalized to some extent. The features of this period
embarked for setting up of four new Export Procession Zones (EPZs) for attracting
foreign companies and providing relaxation in FERA for 100% Export Oriented Units
(EOUs)57. Thereafter, Rajiv Gandhi (1988) government substantially supported FDI
inflows. Under the financial crises originated from oil price rise and world recession
in early 1980s, Rajiv Gandhi58 (1988) realized the potential benefits of foreign
investments compare to external borrowings and international trade. He mentioned,
“Our policy towards investment is clear. It is not an open door policy. We permits
foreign investment on our term, in a wide range of sectors within certain percentage
of foreign equity”.
(c) Pro-FDI Period (1991 Onwards)
“Pro-FDI Period” was introduced in 1991 with Liberalization, Privatization and
Globalization (LPG) which was path breaking development in the FDI policy in India.
According to the new economic policy, the increase of equity by foreign investors
ranged from 40% to 51% of the paid up capital in domestic companies in many
sectors. This change in policy was supported to balance of payment crisis. The
Security and Exchange Board of India (SEBI) was set up in February, 1992 and was
empowered with regulation of capital market. One of the milestone policy change in
the area of FDI inflow was pro-FDI period associated with Foreign Exchange
Management Act (FEMA) in 1999 which replaced the Foreign Exchange Regulation
Act (FERA) previously legislated in 1973, the FEMA accorded Security Exchange
Board of India (SEBI) as participant foreign currency dealing along with the RBI59.

57
Bhati, Usha (2006), “Foreign Direct Investment: Contemporary”, Deep and Deep Publication Pvt.
Ltd., pp. 20-24.
58
Gandhi, Rajiv (1988), “Inaugural Address by the Prime Minister of India”, Paper presented at the
National Conference on Transformation of Indian Engineering Industry, April 19.
59
Shin, Sojin (2014), FDI in India: Policy Change and State Variation”, Yojana December 2014,
pp.26-28.

52
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

Now SEBI and RBI are mainly concerned with foreign institutional investment (FII)
and FDI inflows that are reviewed under automatic route and do not need prior
approval of government. Under the automatic route, foreign investors in various
industrial sectors are allowed to embark on their business more easily than those in
other routes. Otherwise, the Secretariat for Industrial Assistance (SIA) under the
ministry of Commerce and Industry and the Foreign Investment Promotion board
under the ministry of finance examines the proposal that excluded from the automatic
route. Thus, in the Pro-FDI period, the role of FIPB has become more significant in
the approval and disapproval of proposal since the inception of FEMA. FIPB offers a
single window clearance for the proposal through which foreign investors cut red tape
by reducing time to submit same proposal to different state agencies for clearance.
In September 2014, Shri Narendra Modi60, the Prime Minister of India in his
flagship campaign “Make in India” has mentioned for effective governance and easy
governance for inviting the foreign investors with a slogan ‘Come, Make in India’,
which aimed at making India a global destination for foreign investments. He gave an
acronym for the term FDI as ‘First Develop India’ and suggested three pillars of good
governance such as improving the ease of doing business by de-licensing and
deregulation, enabling infrastructure such as industrial corridors and opening up FDI
in sectors such as defense, construction and railway.
Moreover, a list of prohibited sectors and permitted sectors with allowed FDI
equity cap as per the Consolidated FDI Policy (2017) has been given in the following
table 2.1 for a comprehensive understating.

60
Times of India (25 Sep, 2014), “My definition of FDI is 'First Develop India', PM Modi says at
'Make in India' campaign launch”, available at: [Link]
definition-of-FDI-is-First-Develop-India-PM-Modi-says-at-Make-in-India-campaign-
launch/articleshow/[Link] retrieved on 10/02/2018.

53
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

Table 2.1:
Sector Specific Condition on FDI as per Consolidated FDI Policy (2017)
Prohibited Sectors:
FDI is prohibited in:
a) Lottery Business including Government/private lottery, online lotteries, etc.
b) Gambling and Betting including casinos etc.
c) Chit funds
d) Nidhi company
e) Trading in Transferable Development Rights (TDRs)
f) Real Estate Business or Construction of Farm Houses ‘Real estate business’
shall not include development of townships, construction of residential
/commercial premises, roads or bridges and Real Estate Investment Trusts
(REITs) registered and regulated under the SEBI (REITs) Regulations 2014.
g) Manufacturing of cigars, cheroots, cigarillos and cigarettes, of tobacco or of
tobacco substitutes
h) Activities/sectors not open to private sector investment such as Atomic Energy
and Railway operations (other than permitted activities)
Foreign technology collaboration in any form including licensing for franchise,
trademark, brand name, management contract is also prohibited for Lottery Business
and Gambling and Betting activities.
Permitted Sectors with allowed FDI equity cap limit:
FDI equity cap limit is allowed in the following sectors through automatic/
government/FIPB route is given as:
 100% FDI equity cap is allowed in agriculture and animal husbandry through
automatic route.
 100% FDI equity cap is allowed in tea plantation through automatic route.
 100% FDI equity cap is allowed in mining through automatic route.
 100% FDI equity cap is allowed in coal and lignite through automatic route.
 100% FDI equity cap is allowed in petroleum and natural gas through
automatic route.
 100% FDI equity cap is allowed in defence through automatic (up to 49%)
and government route (beyond 49%).
 100% FDI equity cap is allowed in broadcasting carriages services
through automatic route.
 100% FDI equity cap is allowed in Cable Network through automatic route.
 49% FDI equity cap is allowed in Terrestrial Broadcasting FM (FM Radio)
through Government route.
 49% FDI equity cap is allowed in Up-linking of ‘News & Current Affairs’
TV Channels through Government route.
 100% FDI equity cap is allowed in Up-linking of Non-‘News & Current
Affairs’ TV Channels/ Down-linking of TV Channels through Automatic

54
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

route.
 26% FDI equity cap is allowed in Print Media through Government route.
 100% FDI equity cap is allowed in Civil Aviation (Greenfield and
Brownfield) through automatic route.
 100% FDI equity cap is allowed in Construction Development: Townships,
Housing, and Built-up Infrastructure through automatic route.
 100% FDI equity cap is allowed in Industrial Parks -new and existing
through automatic route.
 100% FDI equity cap is allowed in Satellites- establishment and operation,
subject to the sectoral guidelines of Department of Space/ISRO through
Government route.
 74% FDI equity is allowed in Private Security Agencies through automatic
(up to 49%) and Government route (beyond 49% and up to 74%)
 100% FDI equity cap is allowed in telecom sector through automatic
route (up to 49%) and allowed through government route (beyond 49%).
 100% FDI equity is allowed in Trading through automatic route.
 100% FDI equity is allowed in E-commerce activities through automatic
route.
 100% FDI equity is allowed in Single Brand product retail trading through
automatic (up to 49%) and Government route (beyond 49%)
 51% FDI equity cap is allowed in Multi Brand Retail Trading through
Government route.
 100% FDI equity is allowed in Railway Infrastructure through automatic
route.
 100% FDI equity is allowed in Asset Reconstruction Companies through
automatic route.
 74% FDI equity cap is allowed in banking-private sector through automatic
route (up 49%) and government route (beyond 49% and up to 74%)
 100% FDI equity is allowed in Credit Information Companies through
automatic route.
 49% FDI equity is allowed in Infrastructure Company in the Securities
Market through automatic route.
 49% FDI equity cap is allowed in insurance sector through automatic
route.
 49% FDI equity cap is allowed in pension sector through automatic route.
 100% FDI equity cap is allowed in pharmaceutical sector (Greenfield)
through automatic route
 100% FDI equity cap is allowed in pharmaceutical sector (Brownfield)
through automatic (up to 74%) and government route (beyond 74%).
Source: Consolidated FDI Policy (2017), DIPP, Ministry of Commerce and Industry,
GOI.

55
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

2.2 CONCEPT OF ECONOMIC DEVELOPMENT, REGION AND

REGIONAL DEVELOPMENT
Economic Development is a dynamic multidimensional process. It has different
meanings to different people. In fact, there is no established consensus on the
meaning of development among planners, thinkers and economists. The only thing on
which everyone agrees is that development is necessary, and everyone wants,
although in his own image and perhaps in his own way. Development has been
defined as “a process of growth, expansion or realization of potential, bringing
regional resources into full production use.’’ In other words, development is a process
of change aiming at socio-economic transformation of traditional societies into
modern one which is greatly influenced by human beings.
Economic development is the process by which a nation improves the
economic, political, and social well-being of its people. The concept, however, has
been in existence in the West for centuries. Modernization, Westernization, and
especially Industrialization are other terms people have used interchangeably while
discussing economic development. Economic development has a direct relationship
with environment61. The concept of economic development has been defined
differently by different economist:
In the words of Rostow62 (1961), “economic development is a process by
which a traditional society employing primitive techniques and therefore capable of
sustaining only a modest level of per capita income is transformed into a modern,
high-technology, high-income economy”.
63
Kindleberger (1961) opined that “economic growth means more output,
while economic development implies both more output and changes in the technical
and institutional arrangements by which it is produced and distributed”.
Streeten64 (1972) is of the view that “development is called modernization
which means transformation of human beings. Development is an objective and

61
[Link] retrieved on 04/02/2018.
62
Rostow, W. W. (1960). The Stages of Economic Growth: A Non-Communist Manifesto. Cambridge
University Press. [Link] retrieved on
04/01/2018.
63
Kindleberger (1961), “Foreign trade and economic Growth: Lesson from Britain and France, 1850 to
1913”, Economic History Review, Vol. 14, issue 2, pp. 289-305.
64
Streeten P. (1972), “The Frontiers of Development Studies”, Palgrave Macmillan.

56
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

development process both to embrace a change in fundamental attitudes to life and

work, and in social, cultural and political institutions”.
According to Angus Maddison65 (1987), “The rising income level is generally
called economic growth in rich countries and in poor ones it is called economic
development”.
2.2.1 Region and Regional Development:
Regional development is an activity aimed at the conscious and complex
improvement of the social, economic and ecological potentials of a particular
(geographically delineated) area. Regional development and regionalization are
classic themes of economic geography and geopolitical economy which is determined
by the geopolitical economic factors. Till 1950, the concept of regional development
was missing from the mainstream.66 Regional development has been defined as the
process of economic development involves a significant change in economic activities
over different regions along with the change in the structure of economy by providing
the aid and other assistance to regions which are less economically developed.67 Thus,
It paves the way for total utilization of various infra-structural facilities like means of
transport and communications, power resources, irrigation, educational and health
care developed in all the different regions of the country which resulting in raising
their per capita income, employment, living standards by exploiting their natural and
human resources and growth in terms of volume and structure of production.68
[Link] Meaning and definition of Region:
The term "region" has Latin evolution from the word ‘regio” or ‘regere’ which
means to rule. Thereafter, a number of countries have borrowed the term as the formal
name for a type of subnational entity for political and administrative units.69
According to Richardson70 (1973), “Region, area and space are used interchangeably.
An area is always associated with at least four properties, viz. scale, location, content

65
Maddison A. (1987), “Growth and Slowdown in Advanced Capitalist Economies: Techniques of
Quantitative Assessment”, Journal of Economic Literature, Vol. 25, No. 2, pp. 649-698.
66
Sukhnandi P.A. (2004), “Interstate Disparity under Economic Reform period: A comparative study
of Gujarat, Maharashtra, Rajasthan and Madhya Pradesh,” Unpublished Ph. D. Thesis, Suarashtra
University, pp.10-15.
67
[Link] retrieved on 03/01/2018.
68
[Link]
considerations/19022 retrieved on 04/02/2018.
69
[Link] retrieved on 05/02/2018.
70
Richardson, H.W. (1973), “Elements of Regional Economics”, Penguin Modern Texts.

57
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

and boundary.” Further clarified that region may or may not possess homogeneity or
uniformity as to content, and organization. On the other hand, the regions are those
types of areas which possess not only scale, location, content and territorial
boundaries but also either homogeneity or organization or elements of both. Unlike to
an area, space does not have boundary. Moreover, space has no structure or
organization. It is only a setup within which objects can be located71. The term region
is ambiguous on the landscape of definition. There is no universally acceptable
definition to this word.
In the words of Meyer J. R. 72 (1968), “the region may be a group of nations, a
state, a district, a block and sometimes a village even”.
Ziolkowski73 (1969) has defined “a region as a group of people of similar
traits living in cohesion with sense of common solidarity and mutual interdependence
in a particular geographical area. Thus in such a way region goes parallel to the
concept of community also. The region therefore be so chosen that it clearly reflects
the local problems, the urgent need of proximity systems for economic stimulation as
well as postulates the efficient regionalized economic action”.
Christaller74 (1933) and Losch75 (1954) have given an early approach to define
“a region as hierarchical systems of central places or cities where each region has a
small number of large higher order cities and a large number of smaller lower order
cities. The order of a city is determined by the diversity of goods offered in the city,
which in turn is determined by the relative size of market areas for different goods.
Cities are assumed to import goods from higher order cities, export goods to lower
order cities, and not interact with other cities of the same order. A limitation of this
definition is that it is only useful as a way to determine the spatial structure of regions
that house market-oriented (as opposed to labor- or input-oriented) firms”.

71
Ginsburg, N.S. (1968), “Area, Regions and Human Organization”, 21st International Geographic
Congress, India, published by National Committee for Geography, 1971, p.7.
72
Meyer, J.R. (1968), “Regional Economics: A survey, in L Needleman (ed.), Regional Analysis”,
Penguin Modern Economics Readings, 1968, p. 23.
73
Ziolkowski, J.A., (1969), “Methodological Problems in the Sociology of Regional Development”,
Geneva, UNRISD.
74
Christaller W. (1950), “Das Grundgerust der raumlichen Ordnung in Europa”, Frankfurter
Geographische Hefte, 24, s. 1-96.
75
Losch A. (1940), “Die Raeumliche Ordnung der Wirtschaft”, Fischer, Jena; 1944, second edition;
1962, third edition, Fisher, Stuttgart; 1954, English translation from German original by W H Woglom
and W F Stolper, The Economics of Location, Yale University Press, New Haven, Connecticut.;
second print, Wiley, New York.

58
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

Perroux, Francois76 (1950) and Boudeville77 (1966) are of the view that “a
region as an entity based on an abstract economic relation. They did not consider a
region as merely a geographical or political division but were marked by a stake
holder or the constituent structure of economic relation. Perroux emphasized on the
economic character of space which is defined by economic space or growth poles. He
further classified the economic space into three different categories such as economic
space as defined by plan, as a field of force and as a homogenous aggregate. On the
other hand, Boudeville contracted on the dominance of physical character of the space
and maintained three types of spaces such as homogenous, polarized and
programming. Among all the categories of regions by Perroux, Francois and
Boudeville, the polarization had appeared to be more acceptable for regional
economic policy and planning”.
Karl Fox and Kumar78 (1965) opined that “region is a functional economic
area which against the concept of nodal approach. They have opined that the
dominance of a central node over the surrounding periphery is attributable to the
spatial dependence of workers on adjacent employment centers. A conceptual basis
for the delineation of economic areas has also been defined by the United States
Department of Commerce Bureau of Economic Analysis”.
Richardson79 (1979) provided “the nodal concept to include polycentric
regions that have several nodes and several peripheries but that exhibit high degrees
of internal functional integration”.
According to Hoover and Giarratani80 (1985) “A region is spatially
interdependent or nodal labor market. Moreover, Nodal regions have two
characteristics: (1) they are functionally integrated internally to the extent that labor,
capital, or commodity flows are more common within the region than with another
region, and (2) within the region, activities are oriented toward a single point, or node,
76
Perroux, Francois (1950), “Economic Space: Theory and Application”, The Quarterly Journal of
Economics, Vol. 64, Issue 1, pp. 89–104.
77
Boudeville, J.R. (1966), “Problems of Regional Economic Planning”, Edinburgh: Edinburgh
University Press.
78
Fox, Karl, and Krishna Kumar (1965), “The Functional Economic Area: Delineation and
Implications for Economic Analysis and Policy”, Papers of the Regional Science Association, Vol. 15,
pp. 57-84.
79
Richardson H.W. (1979), “Aggregate efficiency and interregional equity in spatial inequalities and
regional development”, H. Folmer and J. Oosterhaven, Boston: Martinus Nijhoff, pp. 161-183.
80
Philip McCann (1998), “The Economics of Industrial Location: A Logistics-Costs Approach”,
Springer, pp.40-45.

59
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

where there is the presumption of dominance or order of the node over the
surrounding peripheral area”.
Besides this, region could be defined as low, medium and high income region.
Similarly, regions may be identified on the basis of the sectoral specialization of labor
such as manufacturing based regions and service sector regions. Malgavkar and
Ghiara81 (1972) have emphasized on the factors of homogeneity, nodality and
administrative convenience for a planning region. According to them, it should have
the following characteristics:
i. Geographically, a region should be a confluent unit though it could be
subdivided into natural boundaries like plain, hilly track etc.
ii. There should be a social and cultural affinity among the people of the
region.
iii. The region should be a distinct unit for data collection and analysis.
iv. There should be an economic entity of region that can be defined by
statistical record.
v. A region should be worked under the umbrella of an administrative
agency.
vi. A region should be topographically possessed more or less fairly
homogeneous economic structure.
vii. There should be common appreciation of local problems and common
aspirations and approaches to their solution. It motivates the
competition but not rivalry.
[Link] Classification of Regions:
According to Haggett 82 (2001), “A region is essentially a part of the land surface of
the earth which is the result of the relationship between natural and social elements or
phenomena in reality”. Pike83 (2007) is of the view that “there are many different
ways to divide land up into regions”. In the geographical literature regions are defined
in many ways but the important for the regional development and planning are as,

81
Malgavkar, P.D. and Ghiara, B.M. (1972), “Regional Development: Where and How, in L.K. Sen
(ed.) Readings of Micro Level Planning and Rural Growth Centre!” National Institute of Community
Development, Hyderabad, p.306.
82
Peter Haggett (2001), “Geography: A Global Synthesis”, Prentice Hall Publication.
83
Andy Pike (2007), “Handbook of local and Regional Development”, Routledge Taylor and Francis
Group.

60
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

respectively, formal, functional and political & administrative units. Formal regions
have been defined by the governments or other structures, such as cities, states, and
mountain ranges. Most useful for economic development purposes are formal and
political & administrative units which combine places characterized by strong degrees
of interdependence and strong complementarities.
After examining the characteristics given by Malgavkar and Ghiara84 (1972),
P.R.Sharma85 (1984) has also concluded that region is a political and administrative
units whether at the national level, state level, district level. Government agencies also
considered administrative units as region for policy and planning purposes. These
regions can be classified according to their sizes and population. Thus broadly there
are three types of planning regions. The same also documented in Wikipedia
definitions86 which are as follows:
(a) Macro Regions (like a country): A macro region is a geopolitical subdivision
which consists of different traditionally or politically defined regions. These regions
may be as big as a country and so then more likely appropriate for country level or
national planning. The meaning of macro region may vary in the line of the factors
like cultural, economic, historical or social homogeneity within a macro region. The
term is often used in the context of globalization.
(b) Meso Regions (like a state): A meso region is a medium-sized region between
the size of a city or district and that of a nation. In other words, these are smaller than
a country (like macro region) and bigger than a micro region (like District). They may
be as big as a state and is fit for a state level [Link] present study is based on
the meso region.
(c) Micro Regions (like a district): Micro region is designed to identify the spatial
entities. A micro region is a geographic region of a size between a community and a
district. In simple words, these are the smallest in size and they may range from a

84
Malgavkar, P.D. and Ghiara, B.M. (1972), “Regional Development: Where and How, in L.K. Sen
(ed.) Readings of Micro Level Planning and Rural Growth Centre!” National Institute of Community
Development, Hyderabad, p.306.
85
[Link] (1984), “Growth Center and Regional Development: Aspects of Theory and Policy”,
Habitat International, Vol. 8, Issue 2, pp. 133-150.
86
1) [Link] 2)
[Link]
3) [Link] retrieved on 02/01/2018.

61
Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

group of talukas or taluka to a group of districts or a district. Which are suitable for
spatial planning at local level.
[Link] Indicators of Regional Development in India:
The economic region serves as a useful tool for planning and a framework for the
manipulation of the people, resources and economic structure of a formal region.
Problems like poverty, hunger, outmigration, cultural deprivation, underdevelopment
and malnutrition may be systematically examined with the help of economic regions.
Thus, the regional development are generally dealt with the help of several socio-
economic indicators.
1. Economic Structure and Performance Indicators:
One of the method to measure the economic development of a region in terms
of Gross state domestic product (GSDP). Which refer to the region’s total
output of final goods and services produced at regional level in India87. It is
considered to be most effective and a major indicator of the economic
performance of Indian states by many economists and policymakers because it
reflects the level of output and growth of a state in India. It is a measure of
economic activity and indicates the structure and performance of various
economic sectors and regions. This measures does not consider the change in
the growth in the population88. If any increase in state income characterized by
a faster growth in population, there will be no growth but retardation89.
Another measure which incorporated the population factor with state’s income
growth that is per capita net state domestic product. The some other measures
of economic performance at regional level are net state domestic growth and
per capita net state domestic growth90.
2. Demographic Indicators:
Fertility & mortality rates and migratory flows determine the population
growth or decline. These determinants of population growth are highly
influenced by economic activities and some of the societal and cultural factors.
Fertility and mortality rates are a product of long-term trends while migratory

87
[Link] retrieved on 01/02/2018.
88
[Link] retrieved on 28/01/2018.
89
Jhingan, M.L. (1991), “Macro economic Theory”, Konark Publishers Pvt., Limited.
90
[Link] retrieved on 05/02/2018.

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Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

patterns can fluctuate over a much shorter time frame and are particularly
sensitive to economic growth rates91. Significant net in-migration (particularly
those of working age) can reflect a buoyant labour market in a growing
economy as well as acting as a driver for further growth. Population is also an
important factor in determining labour force growth, which in turn, is a key
determinant of future economic growth92.
3. Education Indicators:
Education indicators such as GER at primary education, secondary education
and most importantly gross enrollment ratio at higher education are an
important indicator of the skill level and quality of the labour force which in
turn is a key consideration in the location requirements of mobile investment
and associated employment opportunities. As noted, government policy is to
position India as a ‘knowledge economy’ wish to be recognized India as
Vishwa Guru at international level. High levels of education, particularly at
third and higher levels are important inputs into the knowledge economy and
are innovation drivers93. This is reflected in the NDP where investment in
education, training and up skilling are accorded a high priority. Nationally
educational attainment has been increasing and participation rates at third level
have been rising steadily. The most common education indicators which can
be used as a proxy for human capital and skilled personnel are Gross
Enrollment Ratio and Literacy Ratio94.
4. Infrastructural Indicators:
Infrastructure is the basic requirement and facilities such as Education, Health,
Transport and Communication, banking and insurance, irrigation and power
and science and technology etc. which directly benefits the process of
production and distribution in agriculture, industry and trade.95 The measures
used for development at state levels are installed generating capacity of

91
[Link] retrieved on 07/02/2018.
92
National Health Profile (2007), Govt. of India and Economic survey (2017-18), Govt. of India.
93
All India Survey of Higher Education, Ministry of Human Resource Development, Govt. of India,
various issues
94
Educational Statistics at Glance, Ministry of Human Resource Development, Govt. of India, 2016.
95
Misra S.K. and Puri V.K. (2015), “Indian Economy-Its Development Experience”, Himalaya
Publishing House, 33rd revised ed., pp. 85-106.

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Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

electricity, per capita consumption of electricity, road length of highways and

telephone per 100 population.
5. Labour Market Indicators:
Labour in India refers to employment in the economy of India. The labour
force is a key measure of labour supply which can be indicated by the numbers
of employed persons and unemployed persons. The labour force participation
rate is an important measure of comparative economic activity levels96.
6. Innovation and Technology Indicators:
Research and development are very important drivers of knowledge creation
and innovation both of which are seen as vital to India’s economic
development at national as well as regional level. By recognizing this fact, the
government supports research and development activity through various
policies and programmes, mainly those delivered through Higher Education
Institutions97.
7. Degree of Urbanization:
The degree of urbanization is also an important indicator of regional
development. In respect of urbanization, the percentage of urban population to
total population is an important indicator of industrialization98.

2.3 CONCLUSION:
FDI is a form of cross broader investment which involves the inflow of foreign capital
into an MNC operating in a different country of origin from the investor. Foreign
direct investment is an international transfer of package of resource in terms of
capital, technology know how, management skill, marketing expertize the goal of
global integration of economies subject to retain over control of share of more than
10% with lasting interest but also the expansion of an enterprise from its origin
country into a foreign-host country. In a layman language, FDI bring a lots of benefits
to the host country such as development of skilled labor force, higher productivity,
new technology, knowledge, financing in infrastructure and management expertise.

96
[Link] retrieved on 02/02/2018.
97
[Link] retrieved on 05/02/2018
98
[Link] retrieved on 03/201/2018.

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Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

Perfect market theories undertake macro level or country level determinants of

FDI like differential rate of return, portfolio diversification and market size of host
economy etc. which will found inadequate to explain FDI in subsequent time. The
failure of perfect market theories to explain how, where and why FDI injected has led
to development of new explanation of international investment that is imperfect
market theories of FDI like Industrial Organization Theory or Monopolistic Power
Theory, Internationalization of International Investment Theory, Eclectic Paradigm or
OLI Theory of International Production, Product Cycle Theory and Currency
Capitalization Theory. Hymer (1976) was the first researcher who identified the
imperfect market structure and firm’s specific features play an important role in
explaining the FDI.
Foreign direct investment has been considered as an instrument of
international economic policy aimed at economic development and globalization of
Indian firms. India being a resource poor country particularly in capital resources was
always receptive to foreign investment. The attitude of Indian government has been
frequently changing towards FDI since the dawn of the independence. In September
2014, Shri Narendra Modi99, the Prime Minister of India in his flagship campaign
“Make in India” has mentioned for effective governance and easy governance for
inviting the foreign investors with a slogan ‘Come, Make in India’, which aimed at
making India a global destination for foreign investments. He gave an acronym for the
term FDI as ‘First Develop India’ and suggested three pillars of good governance
such as improving the ease of doing business by de-licensing and deregulation,
enabling infrastructure such as industrial corridors and opening up FDI in sectors such
as defense, construction and railway. Including manufacturing and infrastructure
sectors the government highlighted several sectors like aviation, biotech, chemicals,
construction, mining, oil and gas, pharmaceuticals, renewable energy industry as the
destination of FDI inflows. This initiative is clearly based on the government’s strong
belief in the benign effects of FDI inflows to Indian industry.

99
Times of India (25 Sep, 2014), “My definition of FDI is 'First Develop India', PM Modi says at
'Make in India' campaign launch”, available at: [Link]
definition-of-FDI-is-First-Develop-India-PM-Modi-says-at-Make-in-India-campaign-
launch/articleshow/[Link] retrieved on 10/02/2018.

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Chapter-2 Foreign Direct Investment (FDI) and Regional Development:
A Conceptual Framework

Further, Regional development is an activity aimed at the conscious and

complex improvement of the social, economic and ecological potentials of a particular
area. Regional development has been defined as the process of economic development
involves a significant change in economic activities over different regions along with
the change in the structure of economy by providing the aid and other assistance to
regions which are less economically developed. Thus, It paves the way for total
utilization of various infra-structural facilities like means of transport and
communications, power resources, irrigation, educational and health care developed
in all the different regions of the country which resulting in raising their per capita
income, employment, living standards by exploiting their natural and human
resources and growth in terms of volume and structure of production.
In the foregoing pages the concept, theories and policies of foreign direct
investment (FDI) have been discussed. Further, the views and opinions of various
authors on the concept of economic development, region and regional development
have been elaborately studied. In continuation of this chapter now the next chapter has
been devoted to analyse the regional trends and pattern of foreign direct investment
(FDI) in India.

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