Advantage & disadvantage of FDi

There are many advantages and disadvantages as well. Devaluation discourage the inflow of goods and services. As the importer in the devaluing currency have to pay more to the foreigners for a given quantity of imports they therefore shrink order. Devaluation has a very harmful effect on the economy of a developing country, if its exports have elastic ad its imports in-elastic demand. A developing country has to import a large number of strategic factors of production which are not available in the country for accelerating the rate of economic development.

The devaluing country cannot pay for all its costly imports and so it has to rely on foreign debts which have its own evil effects. The country can benefit from devaluation if the demands for its products are fairly inelastic. It can increase supply in response to a higher demand without increasing the price of the exported goods. The country then will be in a position to pay for the costly imports. The economic progress will not be adversely affected.

If due to devaluation exports of goods and services are increased and imports reduced the country will have a favourable balance of payment. If the devaluing country's exports of goods and services increase it will stimulate domestic employment.




Readers question: what are Advantages and Disadvantages of Devaluation?
Devaluation is the decision to reduce the value of a currency in a fixed exchange rate. The £ Sterling has been depreciating in value since the middle of last summer and provides a practical example.
Advantages of Devaluation
1. Exports become cheaper, more competitive to foreign buyers. Therefore, this provides a boost for domestic demand.
2. Higher level of exports should lead to an improvement in the current account deficit. This was important in the case of the UK who had a large current account deficit of over 3% of GDP in 2008
3. Higher exports and aggregate demand can lead to higher rates of economic growth.
Disadvantages of Devaluation
1. Is likely to cause inflation because:
• Imports more expensive
• AD increases causing demand pull inflation
• Firms / exporters have less incentive to cut costs because they can rely on the devaluation to improve competitiveness
2. Reduces the purchasing power of citizens abroad. e.g. more expensive to holiday in Europe.
3. A large and rapid devaluation may scare off international investors. It makes investors less willing to hold government debt because it is effectively reducing the value of their holdings.
Note It depends on:
• State of business cycle - In a recession a devaluation can help boost growth without causing inflation. In a boom a devaluation is more likely to cause inflation
• Elasticity of demand. A devaluation may take a while to improve current account because demand is inelastic in the short term.






ssess the likely implications of a devaluation in the dollar. (12)

Should we concerned about a rapid devaluation in the dollar?

Benefits of devaluation

Economic Growth

If the dollar becomes weaker, exports become cheaper leading to an increase in demand for US exports. This can help to increase AD and improve the rate of economic growth. This may be important, because problems in the US housing market are threatening the rate of economic growth. Falling house prices are potentially reducing consumer spending, therefore, a rise in exports could help to boost economic growth and prevent any move towards a recession.

Balance of Payments.

The US has a large current account deficit (7% of GDP) therefore a devaluation will help to improve and reduce the current account deficit. However, a devaluation alone is unlikely to solve the problem. Also, there is evidence that demand for exports and imports is relatively inelastic; therefore, any devaluation will have a small impact on the value of exports and imports. It is argued that the fundamental reason for a deficit is the low levels of domestic savings and consequently high levels of consumer spending.

Inflation

A devaluation may lead to increased inflationary pressures for 3 reasons:

1) Increase in exports causes rising AD and therefore could lead to demand pull inflation.
2) Imported goods will be more expensive. American consumers would definitely experience a rise in price for many imported manufactured goods and imports of raw materials could increase costs of business.
3) It is argued a devaluation reduces the incentive, for manufacturers and exporters, to cut costs and become more efficient.

However, the impact of a devaluation depends on the state of the economy. As previously mentioned, the US economy is slowing down; therefore inflationary pressures are subdued and therefore inflation is unlikely to occur.






Evaluate Impact of Foreign Direct Investment on Developing Countries.
• Foreign Direct investment will help to increase AD, and therefore, can increase the rate of economic growth. However, FDI is often a relatively small component of AD. Multinationals don't like to risk too much in developing countries.
• Foreign Direct investment can also help to increase productive capacity. This will shift AS to the right and enable higher rates of growth. Investment from abroad may also help improve the skills and technology of the local workforce; Foreign multinationals may help implement better work practices.
• However, FDI may require skilled labour which has to be brought in from abroad. Therefore, developing countries don't benefit that much.
• FDI may have strings attached; e.g. reciprocol spending.
• FDI may involve exploitation of natural environment. Foreign multinationals may not care about environment.
• Harod Domar model suggest savings and investment are important for determining the rate of economic growth.