Foreign Direct Investment and Development of Local Firms: Highlighting the Need to Build Absorptive Capacity

Abstract

Many developing countries are investing a lot to attract FDI. As a consequence of the linkages between FDI and the local firms and the resultant technological spillovers, local firms are expected to experience growth. However, there is evidence to suggest that FDI does not necessarily lead to the growth of local firms. Rather, local firms may be competed out of business. It is therefore imperative that local firms build absorptive capacity to benefit from FDI. A minimum threshold of absorptive capacity is necessary for FDI to contribute to the growth of local firms. In this context absorptive capacity is the technological gap between the domestic and foreign firm. Evidence suggests that the wide technological gap between local and foreign firms is impediment to the technological transfer between them.