The recovery of international investment has started, but it could take some time to gather speed. Early indicators on greenfield investment and international project finance – and the experience from past FDI downturns – suggest that even if firms and financiers are now gearing up for “catch-up” capital expenditures, they will still be cautious with new overseas investments in productive assets and infrastructure.
Nevertheless, the attention of policymakers in most countries has shifted decisively to recovery. The focus of both governments and firms is on building back better. Resilience and sustainability will shape their investment priorities.
For firms, especially the largest MNEs engaged in complex international production networks, a key priority is making their supply chains more resilient. Many are expanding inventories of key components, diversifying supply sources or improving flexibility to allow the shifting of production between facilities in different locations. In some industries, especially those more exposed to policy pressures – such as pharmaceuticals or medical equipment, but also strategic growth industries – there is talk of the need to restructure international production networks, with capacity moving closer to home or spread across multiple locations, which would have important implications for cross-border investment flows in the coming years.
Governments are already fully engaged in supporting their populations and business communities through the crisis, with those in rich countries having rolled out huge rescue packages over the past year. They are now gearing up to direct new investment to growth priorities, with developed countries able to direct public funds to sizeable recovery investment packages and poorer ones relying on alternative sources of finance, such as development banks, and on initiatives to attract foreign capital. The focus of spending is on infrastructure, on growth sectors – especially the digital economy – and on the energy transition, in many cases building on or accelerating existing plans. Again, the implications for international investment flows in the coming years are likely to be significant.
The theme chapter of WIR21 looks at the possible impact of the post-pandemic priorities of both firms and governments on global investment patterns over the coming years. It identifies challenges and risks that could damage the prospects
for a big push of investment in sustainable development and suggests policy options to counter them. As such, the chapter serves to address General Assembly Resolution 75/207, which requests UNCTAD, through its World Investment Report, to inform the GA on the impact of the COVID-19 pandemic on investment in sustainable development, and to make recommendations for the promotion of SDG investment.
MNEs have three sets of options to improve supply chain resilience (figure 8). They include (i) network restructuring; which involves production location decisions and, consequently, investment and divestment decisions; (ii) supply chain management solutions (planning and forecasting, buffers, and flexibility); and (iii) sustainability measures, which have the additional benefit of mitigating certain risks. Because of the cost of network restructuring, MNEs will first exhaust other supply-chain risk mitigation options.
Network restructuring involves production location decisions and, consequently, investment and divestment decisions. It implies the redesigning of global supply chains in two directions: reshoring or nearshoring, and diversification. Both resilience-seeking options – centralization or decentralization – have major implications for international production and FDI. Reshoring is associated with disinvestment, with a negative impact not only on future FDI flows but also on existing stock. Diversification would bring changes to the nature of FDI, with a shift from efficiency-seeking to market-seeking investment.
Because of the cost of network restructuring, MNEs will first exhaust other supply-chain risk mitigation options. Therefore, in the short term, the impact of the resilience push on international investment patterns will be limited. In the absence of policy measures that either force or incentivize the relocation of productive assets, MNEs are unlikely to embark on a broad-based restructuring of their international production networks. Resilience is not expected to lead to a rush to reshore but to a gradual process of diversification and regionalization as it becomes part of MNE location decisions for new investments.
However, in some industries the process may be more abrupt. Policy pressures and concrete measures to push towards production relocation are already materializing in strategic and sensitive sectors. Recovery investment plans could provide further impetus: most investment packages, in both developed and developing countries, include domestic or regional industrial development objectives.
Recovery investment plans in most countries focus on infrastructure sectors – including physical, digital and green infrastructure. These are sound investment priorities that (i) are aligned with SDG investment needs; (ii) concern sectors in which public investment plays a bigger role, making it easier for governments to act; and (iii) have a high economic multiplier effect, important for demand-side stimulus.
A broader perspective on priorities for promoting investment in sustainable recovery includes not only infrastructure but also industries that are key to growth in productive capacity. The pandemic has brought the productive capacities agenda to the fore. It has disproportionately affected those working in low-productivity sectors, which worsens inequality, reverses gains in poverty reduction and increases vulnerable employment.
An analysis of investment trends in sectors and industries associated with key productive capacity components (such as human and natural capital, infrastructure, private sector development and structural change) shows where FDI has the potential to contribute more to growth in productive capacities. It also shows which components of productive capacity are affected most by the current investment downturn.
Investment in industry, both manufacturing and services, was hit much harder by the pandemic than investment in infrastructure. A slow recovery of investment in industrial sectors – in which FDI often plays a more important role – will put a brake on productive capacity growth. For developing countries in particular, initiatives to promote and facilitate new investment in industry, especially in sectors that drive private sector development and structural change, will be important to complement recovery investments in infrastructure. Recovery investment challenges
Recovery investment packages are likely to affect global investment patterns in the coming years owing to their sheer size. The cumulative value of recovery funds intended for long-term investment worldwide is already approaching $3.5 trillion, and sizeable initiatives are still in the pipeline. Considering the potential to use these funds to draw in additional private funds, the total “investment firepower” of recovery plans could exceed $10 trillion. For comparison, that is close to one third of the total SDG investment gap as estimated at the time of their adoption.
The bulk of recovery finance has been set aside by and for developed economies and a few large emerging markets (figure 9). Developing countries account for only about 10 per cent of total recovery spending plans to date. However, the magnitude of plans is such that there are likely to be spillover effects – positive and negative – to most economies. And international project finance, one of the principal mechanisms through which public funds will aim to generate additional private financing, will channel the effects of domestic public spending packages to international investment flows.
The use of international project finance as an instrument for the deployment of recovery funds can help maximize the investment potential of public efforts, but also raises new challenges. Addressing the challenges and maximizing the impact of investment packages on sustainable and inclusive recovery will require several efforts:
- Swift intervention to safeguard existing projects that have run into difficulty during the crisis, in order to avoid cost overruns and negative effects on investor risk perceptions.
- Increased support for and lending to high-impact projects in developing countries, as the deployment of recovery funds in developed economies will draw international project finance to lower-risk and lower-impact projects.
- Efforts by bilateral and multilateral lenders and guarantee agencies to counter upward pressure on project financing costs in lower-income developing countries.
- Vastly improved implementation and absorptive capacity, because recovery investment plans imply an increase in global infrastructure spending of, at a minimum, three times the biggest annual increment of the last decade for several years running.
- Strong governance mechanisms and contracts that anticipate risks to social and environmental standards on aggressively priced projects.
Promoting investment in resilience, balancing stimulus between infrastructure and industry, and addressing the implementation challenges of recovery plans requires a coherent policy approach. At the strategic level, development plans or industrial policies should guide the extent to which firms in different industries should be induced to rebalance international production networks for greater supply chain resilience (from a firm perspective) and greater economic and social resilience (from a country perspective). They should also drive the promotion and facilitation of investment in industry, needed for complementarity with infrastructure spending.
For developing countries, industrial development strategies should generate a viable pipeline of bankable projects. The lack of shovel-ready projects in many countries remains a key barrier to attracting more international project finance. The risk now is that, in the absence of projects that have gone through the phases of design, feasibility assessment and regulatory preparation, the roll-out of recovery investment funds will incur long delays.
At the level of execution, addressing recovery investment challenges can draw on initiatives included in UNCTAD’s Action Plan for Investment in the SDGs – first proposed in WIR14 and subsequently updated in the Investment Policy Framework for Sustainable Development (IPFSD) and in WIR20. The action plan – aimed at mobilizing finance, channeling it towards sustainable development and maximizing its positive impact – focuses on many of the same sectors (e.g. infrastructure, green, health) that are now central in sustainable recovery plans (figure 10).
UNCTAD believes that the drive on the part of all governments worldwide to build back better, and the substantial recovery programmes that are being adopted by many, can boost investment in sustainable growth. The goal should be to ensure that recovery is sustainable and that its benefits extend to all countries and all people.