Rethinking Investment Incentives: Trends and Policy Options by Ana Teresa Tavares-Lehmann

Rethinking Investment Incentives: Trends and Policy Options by Ana Teresa Tavares-Lehmann

CHAPTER 1
Introduction
Ana Teresa Tavares-Lehmann, Lisa Sachs, 
Lise Johnson, and Perrine Toledano

In July 2015, the government of Ethiopia hosted the Third International 
Financing for Development Conference, bringing together world leaders 
from governments, businesses, and international organizations to chart 
a course for financing the post-2015 development agenda. That agenda 
includes the most critical challenges facing society—ending extreme pov-

erty, eradicating preventable diseases, and halting global warming, among 
others. Achieving the resulting sustainable development goals (SDGs) by 
2030 will require mobilizing and harnessing substantial resources from 
both the public and the private sectors. At the conference, the global 
leaders recognized that “private business activity, investment and innova-

tion are major drivers of productivity, inclusive economic growth and job 
creation” and that “private international capital flows, particularly foreign 
direct investment, along with a stable international financial system, are 
vital complements to national development efforts” (UN 2015, para. 35).
Indeed, now more than ever, investment has an important role to play 
in sustainable development through the injection of capital, generation of 
employment, and transfer of technology and know-how. Many govern-

ments have increasingly recognized that role: recent decades have seen a 
dramatic increase in the array of government incentives offered to attract 
such investment—and, in particular, foreign direct investment (FDI)—
and to increase its contribution to sustainable development. In fact, 
the Addis Ababa Action Agenda adopted at the conference recognized 
that “incentives can be an important policy tool” (UN 2015, para. 27) 
in financing sustainable development. Well-designed investment incen-

tives can attract and channel resources so as to develop renewable energy 
technologies, enable wider access to energy and other infrastructure, train 

human resources, and strengthen health systems—all of which can sup-

port sustainable development (UNCTAD 2014).
Understanding how, when, where, and why governments use incen-

tives to attract and guide investment is critically important if we are to 
assess whether and how society benefits from incentives. It is increasingly 
apparent, however, that the use and impact of incentives are not well 
understood—including by the policy makers who use them. Incentives 
are often quite costly for governments, and yet they are only rarely 
designed to strategically meet sustainability or development objectives. It 
is widely acknowledged that companies may seek—and governments may 
offer—incentives beyond those that may be needed to attract an invest-

ment, whereas other investments or more general policies that would be 
more effective at attaining SDGs are underutilized or poorly designed or 
implemented.
Although the use of incentives by both national and subnational gov-

ernments around the world is ubiquitous, with few exceptions, little is 
known about their prevalence, distribution, effectiveness, and impacts. 
Due largely to a lack of transparency regarding these measures, the use of 
investment incentives has thus far largely escaped systematic monitoring, 
reporting, or analysis.
But this may be changing. Some government entities, including, most 
notably, the European Union (EU), are imposing broad transparency 
requirements and strengthening their monitoring and evaluation. Along 
with improvements in understanding the use of these measures, there 
have been developments in terms of hard or soft regulation. International 
organizations and experts are increasingly discouraging certain types of 
fiscal, financial, or regulatory incentives for a number of reasons, one 
of which is that they might be wasteful and inefficient. This concern is 
particularly pressing as subnational and national jurisdictions compet-

ing for capital engage in “bidding wars” that can drive those jurisdic-

tions to increase the types and generosity of incentives they offer in order 
to attract new investments and even lure coveted existing investments 
away from other jurisdictions. In the latter case, such incentives are inef-

ficient in a regional or global sense, as the result is simply to reallocate 
investment within or across regions rather than generating new invest-

ments. Other concerns are that locational or behavioral incentives might 
be unduly costly (with costs outweighing their benefits) and might have 
harmful distributional impacts, resulting in increased inequality rather 
than inclusive growth.

Rethinking Investment Incentives: Trends and Policy Options by Ana Teresa Tavares-Lehmann