Direct Investment – An American Innovation
The book value of Investments abroad of U.S. companies have grown from 0.6 billion at the opening of the century to $44.3 billion in 1964. Half of these assets of $41.3 billion were acquired in the last ten years. The new mercantilism of production on overseas locations by means of direct investments is in contrast with the older patterns of international portfolio lending. This contrast is most dramatically illustrated by in comparison of the composition of the U.S. assets held in Western Europe with European assets held in the United States.
In 1964, American assets in Europe totalled $28.8 billion. European assets in the United States were substantially larger at $33.3 billion. But U.S. direct investment of $12.0 billion in Western Europe far exceeded the $5.8 billion of European direct investments in the United States! The bulk of European assets in the U.S. were held in the form of corporate stock without control (10.2 billion) or short-term placements and government securities (15.6 billion).
From the start, direct investment has characterized United States business, expansion into the international economy. The reasons why the export of capital has largely taken this form ore to be found in the circumstances under which industrialization of the U.S. economy took place. Although Wall Street stepped into the role of general world financier when the City of London lost its dominance following the First World War, U.S. international lending has continued to be dominated by direct investment. In the early 1960’s some 55% of private long-term lending, (not including re-invested profits, took that form. The process has been self-reinforcing. United States corporations have grown, and by their growth, they have been impelled to practise on a world scale the strategies of corporate planning which have been so well described by Galbraith.
The rise of Germany, France, Russia and other Western European countries to industrial power in the late 19th and early 20th century took place on a fully settled continent. A large number of industrial, concerns were competing within n framework of mam nation states, large and small each with its own institutions. The early predominance of Britain was reflected in a world monetary and financial system, whereby the activities of national financial intermediaries were co-ordinated through the City of London. The system was and anchored in the international gold standard which ensured that all currencies were convertible at fixed rates of exchange, and that large scale international lending in the form of fixed interest loans could finance the expansion of world purchasing power and the expansion of European exports on a multilateral basis.
ln spite of the new markets captured in the colonial division of Africa, the conditions of competition between European rivals eventually necessitated agreements to share markets and allocate raw materials, through the organization of international combines, cartels and syndicates. These arrangements were international in the literal sense of being coalitions of business interests from rival nations. They were not international in the contemporary sense in which the multinational corporations are, in most cases, owned and controlled in one metropolis with affiliates located in many countries.
The experience of the United States presents a complete contrast. At the time of the Civil War, the frontier of settlement was still expanding. Large numbers of European migrants and massive amounts of finance for utility investment were flowing in. A huge continental economy, rich in every resource, was in the making. Although there were considerable exports of agricultural and other primary products, the bulk of economic activity was devoted to the building of a domestic economy. The growing demand for raw materials led business into ever more distant areas and into the neighbouring countries of Mexico, Canada and the Caribbean. Foreign investment was an extension of domestic network of purchases and sales into foreign countries.
Of the $635 million directly invested abroad at the turn of the century, 74 per cent was located in the new World: 25 per cent in Canada. 32 per cent in Mexico, 8 per cent in Cuba and other Caribbean Islands, and 9 per cent in other Latin America n countries. The remainder was invested almost entirely in Europe. (See Table 4).
Ono reason for the innovation of direct investment may be found in the fragmented and localized character of the U.S. banking and financial system. Through out this earlier period, the United States borrowed abroad in the form of long term portfolio investment mainly for infra-structure developments. There was as yet not much of a capital market at home.
By 1924 the situation had changed. The United States was holding a considerable amount of portfolio assets. Britain and the pound sterling had been decisively weakened by the First World War. The United States had become as Joan Robinson so aptly put it Top Nation.
Direct investments, nevertheless, exceeded the newly acquired portfolio investments, and their geographic distribution remained remarkably unchanged; 72 per cent were still located in the New World, 20 per cent in Canada, 14 per cent in Mexico, 18 per cent in Cuba and other Caribbean Islands, and 20 per cent in other Latin American countries.
|Table 4 – GEOGRAPHIC DISTRIBUTION OF U.S. DIRECT INVESTMENT, 1897-1958
(Book Value in Millions of Dollars)
|Cuba and Other Caribbean||7.7||10.6||18.4||10.1)||11.6||(3.1|
The collapse of the world economy in the thirties and the defensive response, in the form of higher tariffs, prohibitions, preferential trading blocs, exchange controls and other barriers to trade and capital flows, induced new strategies for expanding markets. By means of direct investment, manufacturing companies could jump tariff walls and so maintain or even increase revenues. The gains from their subsidiaries could be taken in the form of cheaper raw material inputs. This last consideration was particularly relevant in the case of Latin America where in addition to high tariffs. monetary convertibility had largely been suspended.
In spite of the contraction of world trade and a drastic full in world prices. U.S direct investment increased during the period of the slump. The book value of assets rose from $5.4 billion in 1924 to $7.4 billion in 1935. Investment was still concentrated in the Americas and amounted to 69 per cent of the total. Both in Canada and in Latin America resource industries and transportation claimed the major share. In Canada, however, manufacturing already accounted for 40 per cent of U.S. Direct investments. In part, it was a northward extension of the American market which, because of the tariff, could be more conveniently served by the purchase of establishment of branch plants. In part, it was an effort to gain access to the British Commonwealth market which had been hedged in by the Ottawa Agreement of 1932.
Whereas direct investment in manufacturing may initially have been a defensive measure against trade barriers, its effectiveness as a weapon of aggressive sales strategy has become increasingly apparent after the Second World War. A statement made in 1961 by an American manufacturing corporation with 22 subsidiaries in 16 countries is interesting in this regard:
“If our experience is any criterion, the establishment of manufacturing subsidiaries in a foreign country permits market penetration in depth in the economy of that country. This is in contrast with the rather superficial penetration accomplished by experts from the United States only.”
The upward trend of U.S. direct investment increased from an annual rate of $621 million in 1950 to $2 376 million in 1964. By 1961, the assets of U.S. corporations abroad totalled $44.3 billion. of which manufacturing investments accounted for $16.9 billion. manufacturing had thus surpassed both the oil industry ($14.4 billion) and the mining industry ($3.6 billion).
The massive increase in U.S. direct investment abroad came in the 1950’s. when assets of American foreign subsidiaries increased fourfold in the 14-year period from 1950 to 1961, from a level of $11.8 billion to $44.3 billion, with the most dramatic increase in the 1960’s. The strongest expansion came in manufacturing investments, which increased from $3.8 billion in 1950 to $16.9 billion in J964, and in petroleum which increased equally dramatically from $3.4 billion in 1950 to $14.4 billion in 1961. Direct investment in mining and public utilities increased far more slowly.
In 1958. 70 per cent of U.S. direct investments were still concentrated in Canada and Latin America, and the percentage of U S. direct investment located in Europe was at its lowest ever at 16 per cent, compared with averages of 20 per cent since the beginning of the century. Only after the formation of the Common market and the free convertibility of European currencies did U.S. direct investment shift heavily towards Europe. U.S. direct investment assets in Europe increased from $4.3 billion in 1958 to $12.l billion in 1961 and the percentage of U.S. foreign direct investment located in Europe increased from 16 per cent in 1953 to 27 per cent in 1964. Here is to be found the cause of the European concern that American corporate business is colonizing Europe. The shift toward the rid1 markets of Europe is also reflected in the relative shift of U.S. direct investment towards manufacturing as shown in Table 5.
|TABLE 5||Industrial Distribution of U.S. Direct Foreign Investment
Billions of U.S. Dollars
|Mining & Smelting||1.2||0.8||1.1||2.4||3.0||3.6|
|Public Utilities||1.6||1.3||1.4||2. 1||2.5||2.0|
|Trade & other Industry||1.8||1.3||2.1||3.7||5.2||7.5
In 1929 less than 40 percent of U.S. direct investment abroad was in manufacturing and petroleum. By 1964, these two activities represented 70 per cent of U.S. direct investments abroad. The shore of mining and public utilities in U.S. direct investments correspondingly declined from 37 per cent in 1929 to 14 per cent in 1964.
Table 6 shows the change in the direction of annual outflows of U.S. capital for direct investment in recent years.
|TABLE 6||Net Annual Flows of U.S. Capital for Direct Investments
(Millions of U.S. Dollars, Selected Years)
|All Countries||Canada||Europe||Latin America||Others|
For Canada it is instructive’ to note the relatively declining importance of this country in the pattern of American direct investment. During the years which were dominated by the Korean war and American fears of a shortage of strategic raw materials, Canada received about one half of annual total U.S. investment outflows. In the year of 1954, 61 per cent of the outflow of new U.S. direct investment capitol came to Canada. This percentage has been rapidly diminishing. Ten years later, in 1964 only 11 per cent of total outflows were destined for Canada.
|TABLE 7||U.S. Annual Outflow of Direct Investment in Canada as a
Per Cent of U.S. Direct Investment in nil Countries, 1950-1961
|Source: “Balance of Payments (U.S.) and Survey of Current Business, June 1965”|
For Canada this means that the honeymoon is over in the sense that payment of dividends, interest and royalties now exceed the inflow of new U.S. capital and are likely to continue to do so for years to come. Nevertheless, Canada remains by far the highest branch plant economy. Thirty-two per cent of the assets of U.S. foreign corporations are located in a country with a population of some 20 million; 46 per cent of U.S. controlled mines and smelting subsidiaries are located in Canada, as are 40 per cent of all American manufacturing subsidiaries.
|TABLE 8||Value of U.S. Direct Investment Abroad in 1963
(Millions of U.S. Dollars)
|All Countries||Canada||Canada as percent of all countries
|Mining & Smelting||3,350||1,540||46%|