REGRESSION TO DEPENDENCE
For Canada concern about the degree of control exercised by U.S. corporations were first expressed when the euphoria of the boom of the 1950’s was followed by three years during which income per head did not rise at all. At the same time U.S. economic control continued to expand and there was a dramatic series of purchases of old-established Canadian businesses. Expressions of concern, however, were limited to a handful of public personalities whose warnings were, by and large dismissed with scorn by business, government and the academic community. Walter Gordon’s efforts to impose punitive measures on “take-overs” in 1963 were rejected by business and by his cabinet colleagues. The unforgettable Mr, Coyne, then Governor of the Bank of Canada warned that Canada was ‘living beyond her means’ and should reduce her dependence on foreign capital. Unfortunately, he made himself the laughing stock of the profession by his inability to understand that the tight-money policies he advocated in the misguided belief that they would produce more Canadian savings, in fact induced a massive inflow of capital from the cheaper money markets of the United States. Furthermore, tight money depressed the Canadian economy by curtailing purchasing power when it should have been expanded.
The crunch came with the announcement of the “voluntary guidelines” issued to the American financial and industrial community by the U.S. Treasury in 1965. The directives given to 900 multinational corporations by President Johnson constituted Mr. Kierans observed:
” . . . a tightening of the American grip on our economy that threatens the attainment of our own economic objectives and are an infringement of our political sovereignty.”
These guidelines demanded that each of the 900 participating companies take steps to expand exports, increase the remittance of dividends and other payments from abroad, increase long-term borrowing in other countries, repatriate short term1 assets held abroad – particularly with Canadian financial institutions- and postpone or eliminate direct investment projects. The total of capital funds sent out of the U.S. by direct investment plus reinvested earnings was not to exceed, in 1905 and 1966 together, 90 per cent of a company’s total investment abroad over the three-year period 1962, l963 and 1964. This was expected to limit U.S. capital outflows by direct investment in 1966 to the level of 1964, about 2.4 billion. The President of each of these corporations personally agreed to submit detailed quarterly progress reports to the United States Government.
The statement of December 1965, which extended this programme to Canada, as well as to a number of oil producing countries – (all of which had been previously exempted from similar programmes) stated explicitly that the purpose of the programme was to increase military expenditures, without putting undue pressure of the dollar:
“I am personally confident”, U.S. Secretary of Commerce J.T. Conner said, “that the leaders of American business fully understand the seriousness of the foreign situation which we face. Furthermore, the increased military effort in Viet Nam will put further pressure on our balance of payments. To help compensate for the added drain, we have found it necessary to strengthen the voluntary programme for 1966”.
The United States has, of course, the rights to reduce the outflow of funds. But when a country has put itself in the situation where the government of a foreign country can dictate the investment policy, the dividend policy and the purchasing policy of the greater part of its commodity-producing economy the country has in effect relinquished control over the operations of its business sectors. For this reason, the guidelines were deeply disturbing to many Canadians who previously did not feel concern about the high degree of foreign ownership of industry. Furthermore, the leverage of control by the United States Treasury is much greater than appears at first sight.
In l 964, for instance, investment by United States firms in Canada was reported at $2,557 million. Of this amount, however, only $126 million (5%) came from United States sources. Internal sources of funds amounted to $2,008 million (78%) – while a further $423 million (17%) came from Canadian financial institutions. However, the investment policy of the subsidiaries, according to the “guidelines” would affect not only the 5 percent of direct investment inflows, but all funds except those borrowed in Canada. As Mr. Kierans said:
“We are no longer dealing with the large number of economic theory but with a single directing voice; not with the disparate independent decisions of thousands of businessmen but with hard government policy.”
According to the propositions found in textbooks, the government of an independent country with a developed banking system, is able to influence the lc:n-1 of economic activity and prices by the exercise of fiscal and monetary policy.
Fiscal policy is supposed to control aggregate spending, including the rate of investment. But how can a country operate such global controls when the investment decisions of the major part of its modem industrial sectors are made by the Government of the United States?
Monetary policy is in any event of limited effectiveness in a country with fixed exchange rates and open to large international capital flows.
The Canadian Government, however, voluntarily negotiated away the vestiges of its control over monetary policy when it begged and received exemption from the 15 per cent Interest Equalization Tax imposed by the United States in 1963 in exchange for a commitment not to allow reserves to rise above a percentage of $2.6 billion.
In commenting on the trend towards less and less freedom for Canada to pursue an independent course of action, Mr. McLaughlin was highly critical of the Canadian Government: ·
”What seems to be purely external pressure are often the aftermath of some concession sought, and obtained, by our government for purely selfish notional reasons. But concessions can be withdrawn, and an economy built on concessions is for more vulnerable than it ought to be.”
In the traditionally conservative words of central bankers, Mr. Louis Rasminski, Governor of the Bank of Canada, explained the situation to his central banking confreres in the following terms:
“I want to refer briefly to some important limitations to which monetary policy in Canada is subject. There is no foreign exchange control in Canada and there are many channels that link Canadian and foreign Capital markets, particularly the United States capital market. There is no official control over new issues and many Canadian borrowers who have access to both markets carefully appraise the conditions that confront them . . . before deciding where to sell their long-term bond issues. The situation may be unique, I do not suppose that many of you and your regional governments and cities, as well as large business, selling new long-term issues outside your countries.
‘”The connections between the capital markets of Canada and the United States are so close that substantial changes in credit conditions in Canada may give rise to large inflows or outflows of capital. This could of course be a particular limitation in view of the arrangements with the United States by which we have undertaken to work to certain reserve targets in exchange for exemption from the Equalization Tax for new issues of Canadian securities in the capital markets of the United States.”
Some sixty years ago, Prime Minister Laurier declared that the Twentieth Century belongs to Canada. By the middle of the century it appeared that Canada belongs to the United States. Indeed, Canada provides the most dramatic illustration of the stultification of an indigenous entrepreneurial class and of regression to a condition of under-development in spite of continuous increase in levels of income.
From Confederation to the turn of the century Canada borrowed foreign capital at the rate of about $5 per person per year, predominantly in the form of portfolio capital. In the “wheat boom” which preceded the First World War, foreign borrowing increased dramatically, reaching an annual rate of $42 per head in the period 1909-1913 – again predominantly portfolio capital. During the Second World War, and the immediate post-war periods, Canada had attained a level of economic strength and maturity of fiscal and monetary institutions, which enabled her to export capital on a large scale and to contribute to the financing of Britain’s war effort and post-war reconstruction. In the ten years 1940 to 1950 Canada’s surplus on current account averaged $8 per head of population.
Yet by 1964, Canada had become the richest and largest hinterland of American industrial corporations.
| Table 1 – Foreign Direct Investment in Canada
(Millions of Dollars)
|U.S. Direct Investment||All Other Direct Foreign Investment|
|Wood and Paper Products||316||1,078||32||155|
|Iron & Ore Products||272||1,538||5||251|
|Vegetable & Animal Products||184||724||63||167|
|Chemical & Allied Products||118||810||26||27|
|Total Manufacturing Excluding Petroleum Refining||1,191||5,439||168||1,050|
|Petroleum & Natural Gas||141||3,472||–||655|
|Mining & Smelting||215||1,774||22||92|
|Utilities (excel. Pipelines)||358||276||17||49|
Of $27,354 million of foreign capital invested in Canada, almost 80 percent was American- $12.901 million in the form of direct investments in affiliates and subsidiaries. These investments accounted for 32 percent of all U.S. direct foreign investment substantially more than total U.S direct investment in all of Europe, or all of Middle East.
As a result of the penetration of the Canadian economy by direct investment, some 60 per cent of Canada’s manufacturing industries, 75 per cent of her petroleum and natural gas industry and 60 per cent of mining and smelting are now in the hands of foreign companies. This contrasts with the situation 25 years ago when only 38 percent of manufacturing and 42 per cent of mining and smelting were under foreign control. (see table l).
It is significant that relative displacement of Canada by metropolitan entrepreneurship took place at a time when total Canadian dependence on foreign capital was steadily diminishing. It has been estimated that in 1926 the value of all foreign long-term assets held in Canada amounted to 117 per cent of Canada’s annual output. Today the value of long term foreign assets represents only 60 per cent of Gross National Product.
A similar picture emerges when we look at the trend of the costs of servicing borrowing. These have diminished from 3% of GNP in the late Twenties, over 6% in the depressed Thirties to 2% over the period 1957-1961. As a percentage of export earning interest and dividend payments abroad declined from 16% in the Twenties and 25% in the Thirties to 9% in the current period.
Those who believe that all the fuss about foreign ownership and control is misguided nationalism have taken comfort in the diminishing dependence of Canada on external sources of finance. The figures however, lend themselves to quite a different interpretation. It is a myth that Canada is short of capital. The expensive infrastructure required by her peculiar geography has long been put in place and has long been paid for. Levels of per capita income are second only to the United States and the rate of personal savings is high. The brutal fact is that the acquisition of control by U.S. companies over the commodity-producing sector of the Canadian economy has largely been financed from corporate savings deriving from the sale of Canadian resources, extracted and processed by Canadian labour or from the sale of branch-plant manufacturing business to Canadian consumers at tariff-protected prices. Thus, over the period 1957 to 1964 U.S. direct investment in manufacturing, mining and petroleum secured 73 per cent of their funds from retained earnings and depreciation reserves, a further 12 per cent from Canadian banks and other intermediaries and only 15 per cent in the form of new funds from the United States. Furthermore, throughout the period pay out of dividends, interest, royalties and management fees exceeded the inflow, of new capital.
Tables 2 and 3 and the accompanying chart illustrate the stages by which the British-financed East-West national economy has yielded to the new mercantilism of direct foreign investment of American corporations.
ln 1867, there was little foreign capital in Canada of $200 million, $185 million was in the form of U.K. bonds; the remaining $15 million was American direct investment. In the Formative Years (1867-1900) of the Canadian nation-state, there was an inflow of $815 of U.K. bond capital and $160 million of U.S. direct investment.
In the period of the Wheat Boom (1900-1913) there was a total inflow of $2.515 million, in the form of portfolio investments, predominantly British, and $530 million in the form of direct investment, mainly American.
By 1913 foreign capital in Canada was $3,850 million of which $3,080 million was portfolio debt, almost all of it British. Significantly of the remaining $770 million of direct investment, $520 million was American. As in Australia. India, Latin America and the United States, British portfolio capital was used primarily to finance the construction of a transcontinental system of communication geared to the growing markets of foodstuffs and agricultural raw material required by metropolitan industrialization in Europe. The borrowers were Canadian entrepreneurs-both public and private. Canada was indeed short of capital – but not of entrepreneurship. Control over commodity-producing sectors remained in Canadian hands. The number of well-known Canadian businesses established before the First World War bears testimony.
|TABLE 2 – FOREIGN CAPITAL INVESTED IN CANADA AT SELECTED YEARS
(Book Value of Assets in Millions of Dollars)
|Of investment Direct as percentage in Total||7.5||18.5||20.0||30.0||33.5||39.0||50.0||58.0||58.0|
|U.S. as percentage of Total Foreign Investment||7.5||15.5||21.5||53.0||60.0||72.0||77.0||75.0||78.5|
|Table 3- ORIGIN AND TYPE OF CAPITAL INFLOWS, SELECT PERIODS
Millions of Dollars
|U.K.||U.S. (Direct)||U.S. (Portfolio)||Other||Total|
1867-1900 (33 years)
1900-1913 (13 years)
|First World War
1913 – 1926 (13 years)
|Breakdown of World Economy
1926-1939 (13 years)
|Second World War
1939 – 1946 (7 years)
|Early Post War Boom
1946-1952 (6 years)
|Late Post War Boom
1952-1960 (8 years)
1960-1964 (4 years)
During the First World War and its aftermath, there was largescale liquidation of British investments and a corresponding increase in American portfolio investment. As a result of British financia1 weakness and some acceleration of the inflow had topper the half way mark at 53% by 1926. Direct investment as a percentage of all foreign investment stood at 30%.
In the Breakdown or World Economy, which we may roughly date from 1926-1939 the rate of foreign capital inflow slowed down in Canada, as everywhere also in the world. Thus, in these 13 years the value of foreign assets increased by only $910 million, compared with the increase or $2,1.53 m11lion in the previous 13 years (1913-1926) or indeed the thirteen years of the wheat boom (1900-1913) when foreign assets increased by $2,545 million. British assets declined while American direct investment continued to increase by S-178 million, in spite of the Depression.
During the Second World War when Canada was a heavy net exporter of capital, foreign indebtedness increased by only $265 million but American direct investment increased by $547 million, reflecting heavy liquidation of $808 million of British assets. By 1916 American share of Canada’s foreign liabilities had climbed to 72% and direct investment liabilities accounted for close to 40%do of all Canada’s external indebtedness.
In the Early stage of the Post War Investment Boom, (1946-1952) which was dominated by the Korean war and the stock-piling of raw materials in the United States, Canada’s foreign indebtedness rose by $3,20$ million in 6 years. Of these investments two-thirds were in the form of U.S. direct investment, mainly in resource industries. By 1952, direct had exceeded portfolio investment and the American share of Canada’s foreign debt had reached 77%. ln the Inter stage of the Post War Investment Boom, (1952-1960), there was the largest inflow of capital in Canada’s history. Of the increase in foreign liabilities of $11,830 million, over half ($6,017m.) came in the form of U.S. direct investment much of it in manufacturing. Portfolio borrowing also increased because the boom caused a severe shortage of capital, in the public as well as the private sectors. Tight monetary conditions drove regional and local governments as well as corporations to New York to borrow funds. By 1960, 58% of Canada’s debt, long term debt was in the form of direct investments. Forty-eight percent of all foreign capital in Canada was directly controlled by American corporations.
In the Sixties, there are indications of a change in the pattern of investment. Although half of the increase indebtedness of $5,140 million in the four years 1960- 1964 was U.S. direct investment, the share of Canada’s debt represented by such investments had levelled off (at 48%). In part this is to be explained by the relative shift of U.S. direct investment toward Europe in the 1960’s, in part by the unusually heavy portfolio borrowing on the American capital market by provincial governments and corporations.
We have traced, briefly. the trends. Total reliance of Canada on foreign capital has declined. Yet the degree of dependence and the degree of control by metropolitan enterprise has increased. The key to this apparent paradox lies in the misleading practice of treating direct investments as capital inflows, similar in some important way to portfolio borrowings. In fact, the element of capital transfer is only incidental to the process of direct investment. This process involves a transfer of market organization, technology, and marketing channels of which the transfer of monetary capital is merely the accounting counter-part. There is no explicit borrower, as in the case of the market for portfolio capital. Direct investment comes for reasons of its own. Loans floated in foreign countries can, in due course, be redeemed leaving no trace of foreign ownership. Direct investments have no necessary termination. Lenders of portfolio capital are attracted by a market rate of return. Direct investment capital comes for reasons which are quite different.
Aitken has perceptively described the impact of direct investment on the Canadian economy:
“Direct investments typically involve the extension into Canada of organization, based in other countries, these organizations establish themselves in Canada, for purposes of their own and bring with them their own business practices. their own methods of production, their own skilled personnel. and very often their own market outlets. If all Canadian borrowings from other countries were to cease tomorrow, these direct investment organizations would continue to exist and function. Many of them indeed would continue to expand, financing their growth from retained earnings. And the corporate linkages which integrate them – and the sectors of the Canadian economy which they control – with organizations in other countries would continue to survive.”
For Canada the result of brooch plant economy has been the’ progressive erosion of Canadian entrepreneurship, an assured and perpetual backwardness in research and technology; a built-in bias toward the importation of supplies from parent companies; a structure of manufacturing industry which is geared to supply the domestic market and creates obstacles to the expansion of Canada’s exports, (except by special deals and arrangements with metropolitan corporations and their governments) a splintering of the capital market, whereby a large part of savings generated within Canada are not available to potential borrowers in other sectors of the Canadian economy; and a balkanization of the political structure whereby the growing economic powers of the corporations and the provincial governments threaten to destroy the Canadian nation state.
To understand the process at work, we must understand the rationale of metropolitan overseas expansion by means of direct investment.
We now tum to examine the character of the new mercantilism which has so effectively harnessed Canadian resources and Canadian purchasing power to its needs and requirements.