The Case for International Investment

This article by the well-known economic journalist and author is reprinted by permission from the February 12, 1966 special 75th anniversary edition of Farmand, oldest business journal in Scandinavia, published in Oslo.

Dr. Trygve J. B. Hoff, 70 last November and editor of Farmand since 1935, has won friends around the world with his staunch and undeviating stand for a society characterized by law and order, freedom, and respect for the individual and the dignity of man.

Henry Hazlitt is one of the several members of the Mont Pelerin Society contributing articles on various as­pects of business and economics to this commemorative issue of Farmand.

Copies of the 240-page anniversary edition, in English, at $1.50 each, may be ordered direct from Farmand, Roald Amundsensgt. 1, Oslo 1, Norway.

The case for American invest­ment in Europe is simply part of the case for international invest­ment. The case for international investment, in turn, is simply part of the case for all investment, international or domestic. And the case for freedom of investment is simply the case for free trade, for free enterprise, for economic liberty — and for world-wide eco­nomic cooperation.

Lending and investment, when wisely made, benefit both the lender and the borrower. Let us look at domestic investment first, where fewer prejudices are likely to be involved. Investment benefits the lender, of course, by giving him a return on his capital in the form of either interest or profit. He tries to get the highest return on his investment conso­nant with safety. Investment bene­fits the borrower as well. If it is a fixed-rate investment, in the form of a loan, a mortgage, or bonds, it gives the borrowing en­trepreneur the capital he needs for his venture. If his venture is successful, he can pay off the amount borrowed and expand his operations with his own capital accumulated from his profits.

If the investor and the entre­preneur are different people, both share in the gain. If the investor and the entrepreneur is the same person, and he is competent and successful, he provides consumers with some product they want that they have not previously been get­ting; or he provides them with a better quality of it; or he pro­vides them with more of it, and probably at a lower price. So he benefits consumers. In addition, he either provides more employ­ment or, if there has already been full employment in the locality of his plant, he tends to raise the level of wages there.

And this mutual benefit applies, of course, to international invest­ment. A new foreign venture (like a new domestic venture in a given locality), particularly if it is suc­cessful, may hurt less efficient do­mestic (or foreign) producers al­ready in the field. But it will do so only because it is producing a better quality product or selling it at a lower price. In other words, it will do so only because it is more effectively meeting the needs or wants of consumers in the country in which the investment is made.

Moreover, however regrettable its short-run effects may be on a particular domestic industry, the long-run effects of the new foreign venture are bound to be beneficial. For it will either force the domestic industry to become more efficient (and so to serve domestic consumers better), or it will force entrepreneurs in that industry, and new entrepreneurs coming along, to turn to products in which they are at least as efficient as, or even more efficient than, the foreign entrepreneur.

In short, the case for freedom of international investment, the case for the free flow of funds, is the same as the case for free­dom of international trade, for the free flow of goods. The country that permits the free flow of funds and goods will have more goods and services. It will become more efficient and productive. In brief, it will become wealthier and stronger.

Those who wish to put barriers in the way of international invest­ment are confused by the same fallacies as those who wish to put barriers in the way of interna­tional trade.

It seems pretty late in the day to have to refute these fallacies. They have already been refuted hundreds of times, brilliantly and completely, by the classical econo­mists and their successors.

Why Fear the Supplier?

I will digress at this point only to mention one of these fallacies, because it leads to a false fear that still has a strong popular hold. This is that if a foreign country, say the United States, is allowed to "invade" the markets of other countries with its capital as well as its final products, it will be able to produce everything more efficiently than its European competition, and so destroy Euro­pean industry. (I’d like to call attention here to the use of such war terms as "invade," or such natural disaster terms as "flood" or "inundate," to which protec­tionists habitually resort.)

All such fears are, of course, entirely groundless. They have not only been refuted by the whole course of history; they are not only refuted afresh every month by the most casual study of the statistics of imports and exports; but they are refuted a priori by elementary deductive reasoning. Ricardo refuted them once for all when he enunciated his law of comparative costs. But it should be obvious to the most backward mind that in the long run a coun­try can only pay for its imports with its exports, and that the ex­tent of the one both makes pos­sible and limits the extent of the other. In the long run a nation cannot expand exports without ex­panding imports; and it cannot discourage and restrict imports without correspondingly discour­aging and restricting its exports governments let it alone, for the simple reason that exporters in­sist on getting paid for what they sell.

In the last few years all of us have been chattering learnedly about deficits in the balance of payments. But such deficits, when persistent, are always the result of unsound monetary and fiscal policies and interventions on the part of governments. Typically, a government inflates its currency faster than its neighbors, and then artificially supports its currency quotation in the foreign exchange market. But we’ll return to this later.

Americans in Europe

To my short exposition of the two-sided advantages of interna­tional investment in general I should like to say a word about the particular two-sided advan­tages at this time of American in­vestment in Europe.

The advantage to American in­vestors and American firms is obvious. American investors ex­pect to get a higher return on their investment than they could get at home. American firms open up new markets for their prod­ucts, and at least at the beginning realize a higher rate of profit on them than they would by trying to achieve a further saturation of their markets at home. But the advantages to Europe are enor­mous.

The world today is in the midst of a great technological revolu­tion, which will probably trans­form the face of the world even more than did the Industrial Rev­olution of the late eighteenth and early nineteenth centuries. This technological revolution, of course, typified by electronics, computers, automation, is merely an acceler­ating continuance of the Industrial Revolution.

From the producer’s point of view, an enormous amount of money will be made in this tech­nological revolution. To exploit it effectively requires know-how, big markets, and huge amounts of cap­ital. Now America has these huge amounts of capital, and it has the know-how largely because it has the capital. It is, in fact, the chief source of capital creation today. It has been spending huge amounts of capital on research and development, far beyond what European countries have spent or are able to spend. An idea of the contrast was given by the French weekly L’Economie in an estimate early last year that whereas France spends less than 6 billion francs a year on scientific re­search, the United States spends 100 billion — an amount, it adds, three times as great as that of all European countries together. The estimate given in L’Economie for the United States agrees fairly well with the best American esti­mates, derived from figures pub­lished by the National Science Foundation. These estimates place United States expenditure for re­search and development last year at $22.1 billion, of which $15.5 billion represents government ex­penditure and $6.1 billion private expenditure.

Europe, prosperous though it now is, and expanding economi­cally as rapidly as it now is, just hasn’t got the comparable capital to spend on research and develop­ment. Nor is it producing it at a rate fast enough to finance the technological revolution to take full advantage of it. It needs capi­tal from the United States; and it needs to import the advanced plants, equipment, and productive methods that have been developed by this research.

Yet the irony of the present situation is that though private American investment in Europe benefits both Americans and Eu­ropeans, both the American gov­ernment and some European gov­ernments fear and distrust it, and both are busy putting obstacles in its way.

European Government Objections

Let us disregard why the U. S. authorities fear and dislike the outflow of American capital and turn to the reasons why some Eu­ropean authorities fear or dislike its inflow. It is in France, by the de Gaulle government, that the reasons for this distrust have been most clearly expressed.

At a press conference on Febru­ary 4, 1965, President de Gaulle complained that the United States, in effect, was buying up European firms with Europe’s own money. This accusation is so peculiar that I prefer to quote de Gaulle’s exact words (that is, in English, in the official translation).

He began by pointing out that, be­cause of the gold exchange standard, the United States is not required to settle its payments deficits in gold. He then went on:

"In other words, capital was cre­ated in America, by means of what must be called inflation, which in the form of dollar loans granted to States or to individuals, is exported outside.

"As, even in the United States, the increase in fiduciary currency which results as a side effect makes invest­ments at home less profitable, there is a growing tendency in the United States to invest abroad. The result for certain countries is a sort of expropriation of some of their busi­ness firms."

Some Americans have been tempted to reply that this sounds ungrateful coming from a country into which we have poured some $10 billion or $11 billion of aid. But this is beside the point. We must admit in all candor that de Gaulle is right in attributing part of the amount of our recent capi­tal export to our own inflation and artificially low interest rates. At first glance, also, his charge that U. S. firms have been in effect buying out European firms with the deficit in the American balance of payments looks like a serious one. Yet there is no "expropria­tion" involved. Where European firms have been bought up they have been paid for with real dol­lars, with real money. And when European firms accept these dol­lars, and European central banks buy them and hold on to them for their reserves, these are (for the most part) voluntary decisions. European central banks always have the legal right to demand gold for their dollars, whether or not the American monetary man­agers would be happy about their decision.

I come next to the charges of President de Gaulle and others that the United States is export­ing part of its inflation to Europe. It may be so; but I should like to point out that Europe is not forced to import it. Even if it takes and holds dollars, and even if these end up as additional reserves in its central banks, no country is under any obligation to issue a new pyramid of its own credit or currency against these paper dol­lars. It can simply use them to strengthen its reserves and in­crease its reserve ratio.

When Europe imports dollars from the United States it is not importing inflation; it is merely importing temptation. It is up to the monetary authorities of each country to decide what to do with the dollars.

Domination

I come to the next charge against American investment in Europe, a charge that is again mainly heard in France. This is that the "invasion" of American corporations in Europe carries with it the threat of "domination" of the European economy.

How real is this threat? An ar­ticle in the French weekly L’Econ­omie of February 12 of last year pointed out that American invest­ments in France represent barely 2 per cent of that country’s gross national product. Yet what has caused concern, the article con­tinued, is that this investment is concentrated in certain key-sec­tors of the French economy. And it went on to describe the situa­tion in the petroleum and chemi­cal industries, in mechanical and electrical engineering, and in elec­tronics.

But the charge of "domination" may mean either of two things. It may mean merely that a foreign company enjoys an uncomfortably large proportion of the market for a specific product. This may not be satisfactory to the French producers; but it indicates that a large number of French consum­ers prefer it to the product of their domestic companies. And this competition is a stimulus to the French manufacturers to im­prove their product.

But the charge of "domination" may imply something more seri­ous — that the American-owned companies would have too much to say about the economic decisions of the government of the countries in which they were located. I can only say that I regard this out­come as wholly improbable. The government of any country, not riddled by corruption, seldom has difficulty in exercising its sover­eignty over any foreign-owned corporation. The real danger is the other way round. The foreign-owned company puts itself at the mercy of the government of the host country. Its capital in the form of buildings, equipment, and even bank deposits may be trapped. In the last twenty-five years, as American oil companies and others in Asia and South America have found to their sor­row, the dangers of discrimina­tory labor legislation, or discrimi­natory taxation, or even expro­priation, are very real.

Americanization

I come to one last reason for opposition to American invest­ment in Europe — the fear of "Americanization." This is a little more difficult to deal with than some of those I have just re­viewed. But "Americanization," it seems to me, may refer to several rather distinct things. It may re­fer to an increase in some of the conveniences, comforts, and luxu­ries of life — more and better bath­tubs, lavatories, showers, and toilets, more supermarkets and drugstores, more radios, television sets, and automobiles. Few people — whether Americans, Europeans, Asians, or Africans — who are in a position to get these things for themselves have any objection to them.

The real objection to some of them — like automobiles — is that with advancing prosperity too many other people are also in po­sition to get hold of them, and then their mere multiplication re­sults in traffic jams that make each individual car less useful to its owner. I am willing to confess that I have no solution to offer to this problem.

The word "Americanization," however, may be used to refer to certain spiritual and cultural changes — or, rather, I suppose I should say, to certain antispiri­tual and anticultural changes —to the increasing pursuit of mere­ly material ends, to a restless in­crease in the pace of both business and pleasure-seeking, to the vul­garization typified by advertising billboards, jukeboxes, and the commercialization of every phase of life.

I should be the last to want to defend all this. But I should like to point out that this is a develop­ment well within the control of Europeans themselves. It is per­haps temporarily inevitable when the income of the masses grows faster than opportunities for their education and the cultivation of their tastes. But increased pros­perity does not necessarily lead to increased vulgarization and mate­rialism. I have been impressed in the last ten years by the remark­able growth in the United States in the appreciation of serious mu­sic, the reading of serious litera­ture, and the interest in science and in the fine arts as reflected in the sales of good records and good paperback books and the attend­ance at art galleries.

Why U.S. Corporations Invest

I come finally to the question: What reasons induce American corporations to invest abroad and what reasons deter them from do­ing so?

Of course the primary reason that an American corporation in­vests abroad is to make a profit. This consideration is not absolute but relative. It depends upon the alternatives. The corporation goes where it expects to make a great­er profit (in relation to the risks) than it can by expanding at home or by investing or expanding further in some other country.

Of course a multiplicity of con­siderations affect this expectation. The corporation must decide whether it is better to build a new plant from the ground up or begin by acquiring some existing Euro­pean concern. It must decide whether it wants its subsidiary to be wholly owned or whether to make its investment a joint ven­ture with nationals of the host country. The wisdom of all such decisions depends on the special circumstances in each case. Given the opportunity for profit, the most common moving forces for overseas investment are the desire to maintain or expand sales by en­tering a new market, or the hope of preserving an established mar­ket in the face of tariff, exchange, or unofficial barriers. American corporations have invested in the Common Market area or even in the European Free Trade Area be­cause these areas are protectionist against outsiders. Another reason Americans may invest in a for­eign market is because it may be possible or easier from there to export to a third market area which otherwise could not be reached because of discriminating protectionism or for political rea­sons. If an American company sets up a plant in West Germany, for example, it may be able to ship in­to East Germany. Or it may set up a plant in some other Euro­pean country to take advantage of bilateral arrangements that do not exist in countries where it al­ready is.

Once a decision has been made to invest abroad, a number of other considerations dictate the choice of which country shall re­ceive the investment. These can be grouped into governmental fac­tors and nongovernmental fac­tors. With respect to the first group, American investors seek out a country that has political, financial, and economic stability, a favorable official attitude toward private enterprise and the profit motive, and little or no corruption within the government. Turning to nongovernmental factors influ­encing the choice of country, American investors will consider the availability of skilled and un­skilled labor, managerial person­nel, banking facilities; road, rail, and harbor facilities; ancillary or supporting industries; power fa­cilities; and labor costs.

The question of labor costs is more complicated than is com­monly supposed. It is not simply a question whether wage rates are low in a given country, but whether they are low or high in relation to the skill and produc­tivity of the labor available there.

Another reason for direct in­vestment in a given country is that the material is there. This of course is the reason in the case of the extractive industries — oil, copper, bauxite, etc.

Deterrents to Investors

The reasons why American cor­porations may not make invest­ments abroad are mainly that some or all of these favorable con­ditions do not exist.

Let me give a brief list of some reasons that will deter private in­vestment in a country: (1) lack of government cooperation or enthu­siasm; (2) lack of local financing facilities; (3) lack of guarantees on repatriation of capital and profits; (4) restrictions on fields of investment; (5) limitations on ownership by nonnationals; (6) burdensome taxes; (7) unstable currency; (8) currency exchange restrictions; (9) import license difficulties on essential materials, machinery, or know-how; (10) burdensome social security legislation; (11) price controls; (12) discriminatory laws; (13) gov­ernment-owned competition; and (14) the possibility of expropria­tion.

I may have seemed to be arguing here that American investment is an unmixed blessing for Europe, and that all opposition to it is the result of misunderstanding or un­reasoning prejudice. I do not wish to give that impression. I have thrown my emphasis in this direc­tion mainly because I am writing in a European periodical. If I were writing on this same subject at home my emphasis would be different. I would devote at least part of my discussion to deploring and warning against some of the mistakes that Americans make abroad, both in actions and atti­tude — condescension, brashness, disregard of local customs and methods, refusal even to try to learn the local language, failure to employ nationals of the host country to the greatest possible extent, and so on. Such actions and attitudes breed a perfectly justifiable resentment.

But the faults I have been de­scribing are in the main the faults of the more recent arrivals in Europe among American compa­nies. An official of the Parker Pen Company tells about a conversa­tion he fell into with a London taxi driver. "Are you over here for pleasure, sir?" asked the taxi driver. "No," replied the Ameri­can, "on business." "What’s your business?" asked the driver. "I’m with the Parker Pen Company," replied the American. "Oh," asked the taxi driver, "does America have a Parker Pen Company, too?"

Well, that’s the impression that every foreign corporation ought to give in the country in which it has a subsidiary.

***

Climate for Progress

In a nation without a thriving business community, private wealth is generally stored in vaults, or used in conspicuous con­sumption, or invested in real estate, or placed with business com­munities abroad. But where a country’s private business is not subject to Procrustean measures of control, this private wealth is less likely to be shipped abroad, buried, or otherwise diverted into circuits of low economic potential. It is likely to come out of hiding, or to be brought home from abroad, particularly since the prospects of profit are normally higher in a poor country if the political environment is good.

HAROLD FLEMING, States, Contracts and Progress