1. International Economics Tenth Edition
CHAPTER T W E L V E 12
International Economics Tenth Edition
International Resource Movements and Multinational Corporations
Dominick Salvatore
John Wiley & Sons, Inc.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

2. Learning Goals:
Describe the motivation for international portfolio and direct investments
Describe the effects of portfolio investment on investing and host country
Understand the reasons for the existence of multinational corporations and the effect on home and host countries
Understand the motives and effect of international labor migrations
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

3. Two main types of foreign investments:
Introduction
International trade and movement of productive resources are substitutes.
As with trade, the movement of resources between nations tends to equalize factor returns.
Two main types of foreign investments:
Portfolio investments
Direct investments
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

4. Portfolio Investments
Introduction
Portfolio Investments
Purely financial assets, such as bonds or less than 10% of voting stock, denominated in a national currency.
Take place primarily through financial institutions such as banks and investment funds.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

5. Introduction Direct Investments
Real investments in factories, capital goods, land and inventories where both capital and management are involved and the investor retains control over use of invested capital.
Usually takes form of a firm starting a subsidiary or taking control of another firm.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

6. Some Data on International Capital Flows
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

7. Some Data on International Capital Flows
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

8. Some Data on International Capital Flows
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

9. Some Data on International Capital Flows
Both U.S. and foreign portfolio investments and direct investment increased rapidly between and 2007.
The stock of U.S. direct investments in Europe grew much more rapidly than in Canada and Latin America, due to the rapid growth of the E.U. and the U.S. desire to avoid common external tariffs.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

10. Motives for International Capital Flows
International Portfolio Investments
The basic motive for international portfolio investment is to earn higher returns abroad.
Portfolio theory tells us that by investing in securities with yields that are inversely related (like foreign and domestic securities) over time, a given yield can be obtained at a smaller risk, or a higher yield can be earned with the same level of risk for the portfolio as a whole.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

11. Motives for International Capital Flows
International Portfolio Investments
So a portfolio including both domestic and foreign securities can have a higher average yield and/or lower risk than one containing only domestic securities.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

12. Motives for International Capital Flows
Direct Foreign Investments
The basic motive for direct foreign investment is to earn higher returns (possibly from higher growth rates abroad, more favorable tax treatment or greater availability of infrastructure) and to diversify risks.
Large corporations often have unique product knowledge or managerial skill that could easily and profitably be used abroad and over which the corporation wants to retain direct control.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

13. Motives for International Capital Flows
Direct Foreign Investments
Horizontal integration is the production abroad of a differentiated product that is also produced at home.
Vertical integration (backward) allows a corporation to obtain control of a needed raw material and thus ensure uninterrupted supply at lowest possible cost, or acquire later stages in the production process, or ownership of sales or distribution networks abroad (forward).
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

14. Motives for International Capital Flows
Direct Foreign Investments
Also done to avoid tariffs and other restrictions that nations impose on imports, or to take advantage of government subsidies encouraging direct foreign investment.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

15. Welfare Effects of International Capital Flows
International capital flows increase the efficiency in the allocation of resources internationally and increase world output and welfare.
In the year the foreign investment occurs, the foreign expenditures of the investing country increase, causing a balance of payments deficit in the investing country, and an improvement in the host nation’s balance of payments.
The investing nation experiences a reduction in tax collections, while the host nation experiences an increase in tax collections.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

16. FIGURE 12-1 Output and Welfare Effects of International
Capital Transfers.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

17. Multinational Corporations
Multinational corporations (MNCs) own, control, or manage production and distribution facilities in several countries.
Today, MNCs account for about 25% of world output, with intrafirm trade estimated at about one third of total world trade in manufacturing.
Most international direct investments are undertaken by MNCs.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

18. Multinational Corporations
Reasons for MNCs
Integration may increase profits through better control of supply chains.
The larger scale of production may allow the firm to better exploit economies of scale.
MNCs can better direct production to low cost nations.
MNCs can artificially change prices to only show profits in low tax nations (transfer pricing).
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

19. Multinational Corporations
Problems in Home Country
Loss of domestic jobs to other countries.
MNCs may move technology out of the home country reducing the technological advantage of the home country.
Transfer pricing may reduce taxable income and tax revenue.
Access to foreign markets allows MNCs to circumvent domestic monetary and fiscal policy control.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

20. Multinational Corporations
Problems in Host Country
MNCs are alleged to dominate their economies.
R&D funds are siphoned off to the MNC’s home nation, keeping host nation technologically dependent.
MNCs may extract from host nations most of the benefits of their investment, either through tax and tariff benefits or tax avoidance.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

21. Motives for and Welfare Effects of International Labor Migration
Benefits of Labor Migration
The opportunity to earn higher real wages
Greater educational and job opportunities
Escape from political oppression or conflict
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

22. Motives for and Welfare Effects of International Labor Migration
Monetary Costs of Labor Migration
Expenditures for transportation and fees
Lost wages during relocation and job search
Non-Monetary Costs of Labor Migration
Separation from relatives, friends, and familiar surroundings
Need to learn new customs and/or new language
Risks involved in finding a job, housing, etc.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

23. Motives for and Welfare Effects of International Labor Migration
Effects on recipient country
Increased ability to produce
The increase in the labor force increases productive ability by expanding one of the factors of production.
The workers may possess high levels of skills that enhance the recipient country’s human capital.
Dislocation of native workers competing with the new entrants to the labor force
Increased unemployment
Lower wages
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

24. Motives for and Welfare Effects of International Labor Migration
Effects on source country
Loss in domestic productive ability
The decrease in the labor force decreases the nation’s ability to produce.
This concern is reduced if the source country suffers from significant unemployment.
The loss of skilled workers – brain drain – reduces human capital.
This concern is exacerbated by the resources expended in training such workers prior to migration.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

25. Motives for and Welfare Effects of International Labor Migration
Effects on the source country
Increased domestic wages
The decline in the number of workers should aid in driving up wages in the source country.
Again, this effect is reduced if the country suffers significant unemployment.
Source of new foreign earnings: repatriated income
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

26. FIGURE 12-2 Output and Welfare Effects of International
Labor Migration.
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

27. Case Study 12-1 Fluctuations in Foreign Direct Investment Flows to the United States
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

28. Case Study 12-2 The Stock of Foreign Direct Investments Around the World
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

29. Case Study 12-3 The World’s Largest Non-Petroleum Industrial Corporations
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

30. Case Study 12-4 Employment of U.S. MNCs Abroad
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

31. Case Study 12-5 U.S. Immigration and Debate Over Immigration Policy
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

32. Appendix: The Transfer Problem
Long term capital movements must be accompanied by a transfer of real resources from the lending country to the borrowing country.
See further discussion of the transfer problem in Section A17.2
Salvatore: International Economics, 10th Edition © 2010 John Wiley & Sons, Inc.

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Case studies and tables.
Salvatore: International Economics, 11th Edition © 2013 John Wiley & Sons, Inc.