When foreign investors pay for development.

• Author: French, Hilary F.
• Position: Environmental effects of foreign investment

Private capital is now pouring into the developing world at a rate far greater than the flow of public aid. Can environmentally sustainable economies be built with this kind of investment?

Last winter, at an informal summit of the world's political and business elite, a New York Times correspondent found a general preoccupation with just one issue. At the World Economic Forum, an annual policy get-together at Davos, Switzerland, "The Globalization Question reigned in the way that the German Question once dominated European politics." The "Globalization Question," as the Times put it, is not whether the world economy is growing ever more integrated - there is no serious doubt about that. The question is what it will mean.

This fascination with globalization comes in the wake of a dramatic increase in the amount of private capital flowing into the developing world. North-South transfers of private money have increased more than five-fold over the last several years, rising from $44 billion in 1990 to $234 billion in 1996, according to preliminary estimates by the World Bank. A number of factors seem to lie behind this trend, including surging economic growth rates in the "emerging market" countries of Asia and Latin America, and a wave of privatization that is sweeping over much of the developing world. Electric utilities and telecommunications networks, for example, are moving from state to private sector control in many developing countries. At the same time, many of the countries supplying the private capital - principally Japan, the United States, and western Europe - have seen a deregulation of their capital markets. And this new legal latitude is matched by a growing technical prowess: computerized financial networks now allow investors to shift vast sums of money from one part of the globe to another, as quickly as electricity can move through a cable.

Yet while private money has been flowing into the developing world at a record rate, public money has been drying up, as developed countries attempt to trim budget deficits by paring down their foreign aid programs. Overall levels of development aid declined by nearly a quarter between 1995 and 1996 alone. As a result of these two trends, private finance now dominates the development ledger. At the beginning of this decade, less than half the international capital moving into the developing world was from private sources, but by 1996 the private share had risen to 84 percent. (See graph, page 11.)

Few economists or policy analysts would deny that the private investor is now a leading figure on the world stage. But there is bitter disagreement about what the social and environmental consequences are likely to be. Private investment enthusiasts point out that the growing inflows have reversed the "negative net transfers" of the 1980s, when developing countries were paying out more money, in the form of loan interest and returns on foreign investment, than they were receiving in new private and public finance. In 1988, these "negative net transfers" amounted to $1.5 billion; by 1995, the net flow in the opposite direction - from North to South - amounted to $126 billion. In some parts of the developing world, particularly in Asia, these funds have helped fuel a record-breaking economic boom that is often credited with bringing down national poverty rates.

Yet critics of large-scale private investment argue that macro financial flows are exacerbating the huge gap between rich and poor that already plagues so many developing societies. In many countries, the market boom does not reach large segments of the population - and in some cases it may actually be injuring them. In China, for instance, the crushing poverty of the inland countryside continues largely unabated, despite the prosperity of the coastal cities. In Mexico, the Zapatista rebellion of 1994 was in part a revolt against policies intended to attract foreign investors - policies like legalizing the private sale of communal land. (See Michael Renner, "Chiapas: An Uprising Born of Despair," January/February.) These critics cite a long list of horror stories - bout dangerous working conditions, child labor, and the violent repression of dissent - which they see as flowing from the growing power of poorly regulated private companies.

The environmental implications of growing private capital movements have received less attention than the social ones, but they too are likely to be enormous and somewhat contradictory. In the most general terms, economic globalization is exporting Western consumerism. Given the unsustainable patterns of consumption in the developed countries - which account for only 21 percent of the world's population, yet use 86 percent of its paper, for example, and 75 percent of its energy - this spread of the consumer culture is ominous. The new-found mobility of international capital also allows it to seek out the most hospitable home - which may well be a place with weak or unenforced environmental laws. Yet international investment is also now helping to promote cutting-edge environmental technologies, as companies all over the world make use of foreign capital to upgrade their plants. And a growing array of deliberately "green" investment strategies has been devised in recent years - programs aimed specifically at using private finance to restore the natural capital of the developing world.

For nongovernmental organizations (NGOs) active on environmental issues, the growth of private investment is perplexing, to say the least. "With yesterday's centralized funding, NGOs could lobby particular organizations and stage demonstrations outside meetings," notes a report by the environmental group, Friends of the Earth. But it is difficult to "effectively influence something as nebulous as private capital flows." Such issues have become critical for people everywhere. The question is: Can private capital flows to the developing world be redirected in support of sustainable development? And if so, how?

Following the Money

Perhaps one reason for the controversy over private investment is the difficulty involved in tracking this kind of money. With official development assistance such as that provided by the World Bank, detailed reports spell out what the money is being spent on - whether it is dams, highways, and other infrastructure projects, social services such as health care and education, or "environmental" projects, such as reforestation and pollution control. But private capital flows are something of a black box. We know they are growing fast, but the available statistics tell us little about what, exactly, is being financed.

We can, however, construct a general picture of private flows. During the 1970s, most private flows came in the form of loans from commercial banks, as these institutions extended more and more credit to developing country governments. That trend paved the way for the debt crisis of the 1980s and the consequent stagnation in lending. The last few years have seen a resurgence of commercial bank loans, but this time the recipients are more likely to be private enterprises than governments. In 1996, commercial bank lending accounted for 18 percent of total private flows, or $43 billion - an amount slightly higher than the GDP of Hungary.

The other traditional route for private capital moving into the developing world is as "foreign direct investment" (FDI) of corporations setting up local plants. In recent years, FDI has expanded rapidly, as multinational corporations build a stronger presence all over the developing world, often through joint ventures with local companies. FDI has climbed from $24 billion in 1990 to $93 billion in 1996, or 40 percent of total private flows.

Nearly all of the remaining private flows - just under 40 percent of the total - are moving through a category that barely existed less than a decade ago. This is "portfolio" investments, in which developing country stocks and bonds are purchased abroad - both by individual investors and by institutional ones, such as pension plans or mutual funds. Anyone who has followed the workings of a stock market will know why these portfolio investments are the most volatile...