International production – the production of goods and services in countries that is controlled and managed by firms headquartered in other countries – is at the core of the process of globalization. TNCs – the firms that engage in international production – now comprise over 500,000 foreign affiliates established by some 60,000 parent companies, many of which also have non-equity relationships with a large number of independent firms. The TNC universe comprises large firms mainly from developed countries, but also firms from developing countries and, more recently, firms from economies in transition, as well as smalland medium-sized firms.

The trend towards the liberalization of regulatory regimes for FDI continued in 1998, often complemented with proactive promotional measures. Out of 145 regulatory changes relating to FDI made during that year by 60 countries, 94 per cent were in the direction of creating more favourable conditions for FDI (table 4). The number of bilateral investment agreements also increased further, reaching a total of 1,726 by the end of 1998, of which 434 had been concluded between developing countries. Close to 40 per cent of the 170 treaties signed that year were between developing countries.

International production involves a package of tangible and intangible assets. Its principal global features (which, of course, differ from country to country) can be captured in various ways (table 5):

• On the production side, the value of the output under the common governance of TNCs (parent firms and foreign affiliates) amounts to about 25 per cent of global output, one third of it in host countries. Foreign affiliate sales (of goods and services) in domestic and international markets were about $11 trillion in 1998, compared to almost $7 trillion of world exports in the same year. International production is thus more important than international trade in delivering goods and services to foreign markets. In the past decade, both global output and global sales of foreign affiliates have grown faster than world gross domestic product as well as world exports. Judging from data on FDI stock, most international production in developed countries is in services, and most international production in developing countries is in manufacturing (figure 1). For both groups of countries, FDI in the primary sector has declined, while FDI in services in developing countries is gaining in importance. These shifts reflect changes in the structure of the world economy, as well as changing competitive advantages of firms and locational advantages of countries, and the responses of TNCs to globalization and liberalization.
• Technology flows play an important role in international production. Technology embodied in capital goods exported to foreign affiliates is measured by the value of those exports. Technology provided via contractual agreements is measured by the value of payments and receipts associated with them. And technology transmitted through training is measured by the cost of resources used in the training. Technology payments and receipts of countries in the form of royalty payments and licence fees have risen steadily since the mid- 1980s, and the intra-firm (between parent firm and foreign affiliate) share of these expenditures, already high, has also risen (figure 2). These changes reflect the fact that FDI is increasingly geared to technologically-intensive activities and that technological assets are becoming more and more important for TNCs to maintain and enhance their competitiveness. Much of the increase has taken place in developed countries where royalty payments and receipts have risen faster than FDI flows. These countries accounted for 88 per cent of payments and 98 per cent of receipts of cross-border flows of royalties and licence fees world-wide in 1997.

With the exception of data on FDI (one source of finance for international production), comprehensive data on the global dimensions of international production are not available. Judging from the growth in FDI inflows and outflows (figure 4) as well as in other variables related to the activities of foreign affiliates, however, more and more firms engage increasingly in international production. In 1998, despite adverse economic conditions such as the financial crisis and ensuing recession in several Asian countries, the financial and economic crisis in the Russian Federation and the repercussions of these crises in some Latin American countries, declining world growth, trade, and commodity prices, and reduced bank lending, portfolio investment and privatization activity, FDI inflows increased by 39 per cent globally, the highest rate since 1987.

Record FDI inflows into, and outflows from, developed countries are behind the 1998 surge in global FDI. Developed countries accounted for 92 per cent of global outflows and 72 per cent of global inflows in 1997. The developed country picture is characterized by an intensification of TNC-led links between the United States and the European Union, each of them being the largest source of FDI for the other, and by the emergence of Australia, Canada and Switzerland as significant FDI recipients. The cornerstone of the 1998 surge of FDI was, however, the marked growth of FDI flows into the United States and a few European countries, reflecting their solid economic fundamentals. Most new FDI in 1998, especially between the United States and the European Union, was in the form of M&As. In fact, crossborder M&As drove the large increases in both inflows and outflows for the United States and the strong FDI performance of the developed world as a whole. A new phenomenon is the growth of cross-border M&As in Japan.

Despite the turbulence in financial markets, FDI flows into Latin America and the Caribbean in 1998 were more than $71 billion, a five per cent increase over those in 1997. The MERCOSUR countries received almost half of this amount. With more than $28 billion, Brazil was the largest recipient, followed by Mexico with $10 billion. As commodity prices fell sharply, portfolio investment dried up, speculative currency attacks multiplied and positive current account balances turned negative, FDI capital inflows served as a stabilizing force for Latin America and the Caribbean overall. Privatization of service or natural-resource state enterprises is still an important driving force of FDI inflows into Latin America and the Caribbean.

Although down by 11 per cent to $85 billion in 1998, FDI flows to Asia and the Pacific appeared to have weathered the financial crisis that threw several Asian countries into turmoil and slashed growth rates. It proved to be the most resilient form of private capital flows, even in some of the countries directly hit by the crisis. Contributing to its resilience were the availability of cheap assets due inter alia to currency devaluations, FDI liberalization, especially as regards M&As, intensified efforts to attract FDI, and the still solid long-term prospects of the region.

FDI inflows to Africa (including South Africa) — at $8.3 billion in 1998 — were down from the record $9.4 billion registered in 1997 (figure 5). This was largely accounted for by a decrease of flows into South Africa where privatization-related FDI — which had reached an unprecedented peak in 1997 — fell back in 1998 to levels of previous years. The rest of the continent registered a modest increase. Overall, Africa benefited from a rise in inward FDI since the early 1990s, but growth in FDI flows to the region was much less than that in FDI flows to other developing countries, leaving much of Africa’s potential for FDI unutilized.

Excluding the Russian Federation, Central and Eastern European countries received record FDI inflows of $16 billion in 1998 — 25 per cent higher than in 1997. The Russian Federation, plagued by low investor confidence, a stagnant privatization programme and dependence on market-oriented investment that suffered a blow from devaluation and economic uncertainty, received only $2 billion, 60 per cent less than in 1997. In most Central and Eastern European countries, FDI is still privatizationled, although a few countries have started a switch to nonprivatization-generated investment.