Asymmetric Information and the Composition of Foreign Investment

This paper seeks to apply to the recent foreign investment experience of Mainland China some insights from the macro finance approach to foreign investment. Specifically, potential implications of information asymmetries for the choice of investment type, and hence for the composition of foreign investment inflows, are examined. The strong bias in favor of FDI in newly emerging market economies dissipates with the progressive development of the domestic financial sector. The association between host country financial development and the share of portfolio flows in foreign investment raises the question whether this relation can be systematically exploited by discriminatory policies for the purpose of promoting financial development.