Abstract

Since the early 1970s, foreign direct and portfolio equity investment flows into developing countries, although continuing to increase in absolute terms, have been relatively less important than in previous years, as foreign private capital flows have been dominated by debt-creating bank credit. This shift in the composition of private capital flows may arguably have increased the vulnerability of the developing countries to external payments difficulties, since debt requires regular repayments, while equity implies payments only when the investment earns a positive return. It has also been evident that, with a relatively slow growth of bank lending projected for these countries for the medium term, other sources of external financing, including private equity investment, will be needed if the development effort is to resume its former impetus. In this context, this paper examines the causes and consequences of the decline in the relative importance of direct and portfolio equity investment since the early 1970s, and discusses the modifications in policies in both lending and borrowing countries that might encourage larger flows.