Question

Discuss how a FDI can be a financial risk and how to mitigate the risks.

Answer 1

Financial risk has significant impact on foreign direct investment. Financial risk refers to the risk that a country may not be able to repay its foreign liabilities. A foreign debt of the country and its financial risk would tend to increase gradually if the country experiences a large chronic current account deficit in budget balance for many years and which may also lead to an increase in its foreign debt, and hence financial risk.

The financial risks model includes

1. Foreign debt as a percentage of GDP which means means a debt-to-GDP ratio and it is measured by government debt,

2. Foreign debt service as a percentage of export of goods and services

3. Current account as a percentage of export of goods and services which is measured by the total of net exports of goods, services, exports of goods and services.

4. Exchange rate stability is measured by the rates of currency in one country for the currency of another.

There are many factors which are considered to reduce the risks and increase the returns -

1. Macroeconomic stability.

2. Adequate legislation regulation and safeguarding investment.

3. Access to markets

4. Good infrastructure.

5. Low tariffs and tax

6. Competitive labor cost.