1. International Factor Movements

2. Learning Objectives
Identify the different types of foreign investment and the welfare effects of capital movements.
Summarize the determinants of foreign direct investment and the associated costs and benefits.
Explain the motivation for labor migration and its effects on participating countries.
Describe the size and importance of international remittances.

3. Factors of Production: Capital
Types of capital foreign investment
Foreign Direct Investment (FDI)
Foreign Portfolio Investment (FPI)
FDI: Can involve individuals but the bulk is done by firms.
known as: multinational corporations (MNCs), Multinational Enterprise (MNE), Transnational Corporation (TNC), or Transnational Enterprise (TNE)

4. Global FDI Flows
In 2007, the accumulated stock of global FDI was over $15 trillion.
This stock grows rapidly each year – 22% in 2007 alone.
12-4

5. U.S. Direct Investment Position Abroad by Industry, 2007
Value ($, billions)
Share
Finance and Insurance
$531.9
19.1%
Manufacturing
531.3
19.0%
Wholesale Trade
183.0
6.6%
Mining
147.3
5.3%
Information
111.9
4.0%
Depository Institutions
91.8
3.3%
Other Industries
1,193.8
42.8%
Total
2,791.3
100.0%
12-5

6. U.S. Direct Investment Position Abroad by Region or Country, 2007
Value ($, billions
Share
Europe
$1,551.2
55.6%
Latin America
472.0
16.9%
Asia/Pacific
454.0
16.3%
Canada
257.1
9.2%
Middle East
29.4
1.1%
Africa
27.8
1.0%
Total
2,791.3
100.0%
12-6

7. World’s Largest Corporations, 2008 (billions of $)
Company
Home Country
Revenues
Wal-Mart
U.S.
$378.8
Exxon Mobil
$372.8
Royal Dutch Shell
Netherlands
$355.8 BP
U.K.
$291.4
Toyota Motor
Japan
$230.2
Chevron
$210.8
ING Group
$201.5
Total
France
$187.3 GM
$182.3
Conoco Phillips
$178.6
12-7

8. Reasons for International Movement of Capital
To access growing markets.
To secure access to raw materials.
To avoid tariffs and NTBs.
To take advantage of low wages.
Defensive purposes to prevent loss of market share.
Risk diversification.
MNC efficiency over local suppliers.
12-8

9. Capital Market Equilibrium
MPPKII
MPPKI
Initially, suppose Country I has 0k1
as its capital stock. This means Country II
will have 0'k1.
MPPKII
MPPKI k1 0'
12-9

10. Capital Market Equilibrium
MPPKII
MPPKI
The price of capital will be r1
in Country I and r1’ in Country II. r1
r1'
MPPKII
MPPKI k1 0'
12-10

11. Capital Market Equilibrium
MPPKII
MPPKI
Output in Country I r1
r1'
MPPKII
MPPKI k1 0'
12-11

12. Capital Market Equilibrium
MPPKII
MPPKI
Payment to Labor
Payment to Capital r1
r1'
MPPKII
MPPKI k1 0'
12-12

13. Capital Market Equilibrium
MPPKII
MPPKI
Output in Country II r1
r1'
MPPKII
MPPKI k1 0'
12-13

14. Capital Market Equilibrium
MPPKII
MPPKI
Payment to Labor
Payment to Capital r1
r1'
MPPKII
MPPKI k1 0'
12-14

15. Capital Market Equilibrium
If capital can flow freely across international
borders, k2k1 units of capital will flow from
II to I because r1 > r1’. Eventually, r will fall in I
and rise in II until r = r2 = r2’ in both countries.
MPPKII
MPPKI r1
r2' r2
r1'
MPPKII
MPPKI k2 k1 K 0'
12-15

16. Capital Market Equilibrium
MPPKII
MPPKI
What happens to output in Country I?
It rises due to the capital inflow.
Increase in output r1
r2' r2
r1'
MPPKII
MPPKI k2 k1 K 0'
12-16

17. Capital Market Equilibrium
MPPKII
MPPKI
What happens to output in Country II?
It falls because of the loss of capital. r1
r2' r2
r1'
MPPKII
MPPKI k2 k1 K 0'
12-17

18. Capital Market Equilibrium
MPPKII
MPPKI
What happens to output in Country II?
It falls because of the loss of capital.
Output after capital outflow
Loss in output r1
r2' r2
r1'
MPPKII
MPPKI k2 k1 K 0'
12-18

19. Capital Market Equilibrium
MPPKII
MPPKI
Overall, world output rises. r1
r2' r2
r1'
MPPKII
MPPKI k2 k1 K 0'
12-19

20. Economic Effects of International Capital Flows On Incomes
Output rises in country I (the country to which the capital flows), BUT:
Returns fall for capitalists, since their rate of return decreases.
Returns rise for laborers.
Capitalists are hurt; labor benefits.
Therefore, per capita income rises in Country I.
12-20

21. Economic Effects of Int’l Capital Flows On Incomes
MPPKII
MPPKI
Loss by capitalists in Country I r1
r2' r2
r1'
MPPKII
MPPKI k2 k1 K 0'
12-21

22. Economic Effects of Int’l Capital Flows On Incomes
MPPKII
MPPKI
Gain by laborers in Country I r1
r2' r2
r1'
MPPKII
MPPKI k2 k1 K 0'
12-22

23. Economic Effects of Int’l Capital Flows On Incomes
MPPKII
MPPKI
Net income gain in Country I r1
r2' r2
r1'
MPPKII
MPPKI k2 k1 K 0'
12-23

24. Economic Effects of Int’l Capital Flows On Incomes
Output falls in country II (the country from which the capital flows), BUT:
Returns rise for capitalists, since their rate of return increases.
Returns for laborers fall.
Capitalists are better off; labor is worse off.
Because overall incomes rise, per capita income rises.
12-24

25. Economic Effects of Int’l Capital Flows On Incomes
MPPKII
MPPKI
Income gain by capitalists in Country II r1
r2' r2
r1'
MPPKII
MPPKI k2 k1 K 0'
12-25

26. Economic Effects of Int’l Capital Flows On Incomes
MPPKII
MPPKI
Lost labor income r1
r2' r2
r1'
MPPKII
MPPKI k2 k1 K 0'
12-26

27. Economic Effects of Int’l Capital Flows On Incomes
MPPKII
MPPKI
Overall gain in income in Country II r1
r2' r2
r1'
MPPKII
MPPKI k2 k1 K 0'
12-27

28. International Capital Flows: A Summary
Both countries’ incomes rise as a result of capital flows.
World output rises.
Capitalists in inflow country (Country I) and Laborers in outflow country (Country II).
Capitalists in outflow country (Country II) and Laborers in inflow country (Country I) are better off.
12-28

29. Potential Benefits of FDI to Host Country
Increased output
Increased wages
Increased employment
Increased exports
Increased tax revenues
Realization of economies of scale
Import of technical and managerial skills
Weakening power of domestic monopoly
12-29

30. Potential Costs of FDI to Host Country
Adverse impact in the country’s commodity terms of trade
Transfer pricing
Decrease in domestic savings
Decrease in domestic investment
Instability in the balance of payments
Loss of control over domestic policy
12-30

31. Potential Costs of FDI to Host Country (cont’d)
Increase in Unemployment
Establishment of Local Monopoly
Inadequate attention to the development of local education and skills
Loss of natural resources
12-31

32. Why Migrate?
Simply put, migration occurs when the expected costs of migrating are less than the expected benefits.
12-32

33. Economic Effects of Labor Migration
GDP in Country I is given by the
shaded area:
MPPLII
WII
MPPLI WI
Income of capitalists
Income of laborers
wII
wII wI wI
MPPLII
MPPLI 0' L2
12-33

34. Economic Effects of Labor Migration
GDP in Country II is given by the
shaded area:
MPPLII
WII
Income of capitalists
MPPLI WI
Income of laborers
wII
wII wI wI
MPPLI
MPPLII 0' L2
12-34

35. Economic Effects of Labor Migration
If migration is possible, 0L1 workers will work
in Country I and 0'L1 in Country II. The wage will be the same: Weq.
MPPLII
WII
MPPLI WI
wII
wII
weq
weq wI wI
MPPLII
MPPLI 0' L1 L2
12-35

36. Economic Effects of Labor Migration
What happens to Country I? GDP falls
because of out-migration:
MPPLII
WII
MPPLI WI
Lost GDP
wII
wII
weq
weq wI wI
MPPLII
MPPLI 0' L1 L2
12-36

37. Economic Effects of Labor Migration
GDP falls in country I (the country from which the migrants come), BUT:
Wages rise for remaining workers.
It can be shown that the decrease in the Country I labor force is greater than the decrease in GDP, so per capita income rises.
Capitalists are hurt; labor benefits.
12-37

38. Economic Effects of Labor Migration
What happens to Country II? GDP rises
because of in-migration:
MPPLII
WII
MPPLI WI
Increase in GDPII
wII
wII
weq
weq wI wI
MPPLI
MPPLII 0' L2
12-38

39. Economic Effects of Labor Migration
GDP rises in country II (the country to which migrants go), BUT:
Wages fall.
It can be shown that the increase in the Country II labor force is greater than the increase in GDP, so per capita income falls.
Labor is worse off; capitalists are better off.
12-39

40. Economic Effects of Labor Migration
Country I’s loss in GDP is smaller than
Country II’s gain, so world GDP rises.
MPPLII
WII
MPPLI WI
Increase in GDPII
wII
wII
weq
weq wI wI
MPPLI
MPPLII 0' L2
12-40

41. Economic Effects of Labor Migration
Country I’s loss in GDP is smaller than
Country II’s gain, so world GDP rises.
MPPLII
WII
MPPLI WI
Decrease in GDPI
wII
wII
weq
weq wI wI
MPPLI
MPPLII 0' L2
12-41

42. Economic Effects of Labor Migration
Country I’s loss in GDP is smaller than
Country II’s gain, so world GDP rises.
MPPLII
WII
MPPLI WI
Increase in Total GDP
wII
wII
weq
weq wI wI
MPPLI
MPPLII 0' L2
12-42

43. International Migration: Other Considerations
Migrants now in Country II may send remittances back to Country I
So I’s per capita income rises by even more, and
II’s per capita income falls by even more.
If the migrants are “guest workers” and they can be paid a lower wage, it may be possible for capitalists in Country II to be better off without domestic labor being worse off.
12-43

44. International Migration: Other Considerations
If the immigrants are low-skill workers, the host country may experience rising social costs.
If the immigrants are high-skill workers, the host country may benefit, and the migrants’ home countries may suffer. This is called the “brain drain.”
12-44