C2. Regulations

Governments regulate OFDI and associated capital movements to varying degrees. The pool of regulations affecting OFDI is vast and deals with a variety of issues and technical details. The key types of regulation can be summarised as either imposing restrictions on investments and capital flows, or introducing voluntary codes or mandatory requirements to have some control over the relevant business activities. The aim of regulations is usually to prevent the emergence of unfavourable implications resulting from OFDI, such as financial or exchange rate instability or irresponsible conduct of multinationals when they operate in host countries (UNESCAP 2020). Although they are needed in many circumstances, it should be noted that such regulations, investment restrictions and requirements increase the bureaucratic burden for MNEs undertaking overseas investments.

Restrictions on OFDI primarily come in two forms:

1. Approval procedures require companies to first seek approval for their investment from a government agency, which will normally vet the proposed investment according to specified criteria such as feasibility, risk, size, sector and impact in host and home countries. This is an opportunity to prevent unfavourable investments, control the amount of capital flowing abroad and screen investments regarding their promise to generate home-country effects.
2. Foreign exchange controls aim to limit or control investors’ access to foreign currencies and the maximum amount they can invest abroad, in order to manage foreign exchange and ensure monetary and financial stability. Such controls could require MNEs to repatriate investment earnings (Kuźmińska-Haberla 2012), and they represent an opportunity to prevent capital flight.

Developing countries tend to have more restrictions on OFDI before deciding to liberalise their economies. Yet many of them, especially emerging economies such as Russia, India and China, have in recent years moved towards reducing restrictions (UNESCAP 2020). Restrictions reduce the ability of companies to manoeuvre in line with market signals and should be weighed against the potential benefits from liberalisation. Their effect is normally a reduction in the amount of OFDI flows.

Requirements on OFDI activities aim primarily at ensuring responsible conduct of MNEs when they invest abroad. Apart from the importance that MNEs respect the many social implications resulting from their international activities, irresponsible business conduct overseas could result in reputational damage and legal liabilities for the investor, which could reflect badly on the home country. There are primarily three ways how countries can use requirements to ensure the responsible conduct of MNEs overseas:

1. Governments may stipulate requirements for corporate conduct overseas, such as requiring adherence to principles of responsible business conduct (RBC) and the application of high standards in corporate social responsibility (CSR). This includes ensuring environmental sustainability, protection of labour rights, good treatment of local communities affected by investments, etc.
2. Governments may stipulate reporting requirements, asking firms to report back on their overseas activities and performance.
3. Governments may engage in monitoring of OFDI projects and the activities of MNEs when they are abroad.

Reporting requirements and overseas monitoring are opportunities for home governments to check whether MNEs operate as responsible stakeholders when abroad, including adherence to RBC, CSR and other standards. In addition, such reporting and monitoring provides governments with information about the impact OFDI projects have on the economy, society and development in host countries. It is also an opportunity to assess the extent to which the operations of MNEs overseas conform with the national interest of the home and host countries. A less stringent alternative to requirements and overseas monitoring is the stipulation of voluntary codes of conduct by home governments.

Key insights

• As with trade and inward investment, many governments – especially of developing countries – need to find a balance between the benefits of OFDI liberalisation (by reducing regulatory restrictions and the bureaucratic burden on outward investors) and the need to ensure monetary, financial and exchange rate stability.
• Home country governments should place greater importance on ensuring that the business conduct of MNEs is of a high standard overseas, in areas such as CSR, environmental sustainability, protection of labour rights, treatment of local communities affected by investments, etc. Regulations can help ensure this but should not be too bureaucratic. Voluntary codes of conduct are also useful.
• Regardless of the degree to which regulations are restrictive, governments should aim to keep the regulatory framework transparent and straightforward to navigate for companies seeking to invest abroad. A complex framework is also costly for governments to maintain and may even result in efforts to undermine or shirk the requirements.