Canada is a leading participant in foreign investment, according to an new report from Export Development Canada. The EDC report also suggests that the pace of foreign direct investment (FDI) is very likely to fall off in 2006 as the global economy slows and credit risks increase.

The EDC report notes that FDI flows began to expand again in 2004 after three consecutive years of decline. In 2005, corporate bond spreads appear to have bottomed and emerging market bond spreads are starting to rise, foreshadowing a moderation in FDI flows. FDI flows to emerging markets increased by 40% in 2004 to US$233 billion, the second highest level on record.

Asia remains the top destination for FDI flows to developing regions, with China itself accounting for almost 10% of all global inflows. FDI flows to Latin America and the Caribbean rebounded sharply in 2004 after four years of decline, led by Mexico and Brazil.

“Global investors will become more selective in 2006 on where they place their funds,” said Stephen Poloz, senior vp and chief economist, EDC, “and that is going to lead to a more difficult year for some emerging market borrowers as they compete for a smaller supply of global capital. Consistent with our assessment of 2006 as the ‘year of the downgrade’, many borrowers will experience weaker economic fundamentals and will be squeezed.”

The report notes that Canada has experienced one of the world’s largest increases in FDI outflows in recent years, as well as significant growth in its 2005 FDI inflows. Canada is expected to remain a net exporter of FDI this year and in 2006.

In 2004, Canada’s outflows more than doubled to $62 billion and while a repeat is not expected, data through the third quarter of 2005 indicate that outflows are on track to reach an impressive $40 billion for the year.

While the U.S. has remained the dominant destination for Canadian outflows, there has been increasing diversification to other markets in recent years.

FDI inflows to Canada for 2005 stand at $26.1 billion though the third quarter, a substantial increase from the $8.2 billion attracted in 2004.

“FDI flows to developing markets should continue to grow as companies increasingly globalize supply chains to reduce production costs,” said Poloz. “It is important for Canadian companies to continue seeking investment opportunities abroad that will help them specialize and move up the productivity ladder at home.”

The complete report is available on the EDC Web site.