Venture Capital Funds, Financial Foreign Direct Investment and the Generation of Local Comparative Advantage in the Technology Sector in Israel

Abstract

The rapid development of a new comparative advantage in the hi-tech sector in Israel in the period 1995-2005 provides an example of a new form of foreign direct investment (FDI). Unlike traditional FDI, this new form of international investment that we dubbed financial foreign direct investment (FFDI) involves long-term financial capital flows from in developed countries such as private equity and venture capital funds to firms in small countries and emerging markets. In most cases these financial intermediaries transfer intangible factors of production across borders thereby taking part in generating new comparative advantages for firms in small countries and in emerging markets. We focus on the case of Israel and show that due to the inherent asymmetry between large and small countries it takes government action to trigger the capital flows discussed above. Once the process has begun, it has led to economic growth via reducing tangible and intangible trade costs thus generating competitive advantage for innovative technology firms from Israel in the global markets.