Order Code RS21857 Updated March 19, 2008 Foreign Direct Investment in the United States: An Economic Analysis James K. Jackson Specialist in International Trade and Finance Foreign Affairs, Defense, and Trade Division Summary Foreign direct investment in the United States1 declined sharply after 2000, when a record $300 billion was invested in U.S. businesses and real estate. In 2006, according to Department of Commerce data, foreigners invested $184 billion. Foreign direct investments are highly sought after by many State and local governments that are struggling to create additional jobs in their localities. While some in Congress encourage such investment to offset the perceived negative economic effects of U.S. firms investing abroad, others are concerned about foreign acquisitions of U.S. firms that are considered essential to U.S. national and economic security. This report will be updated as events warrant. Recent Investments Foreigners invested $180 billion in U.S. businesses and real estate in 2006, according to data published by the Department of Commerce.2 As Figure 1 shows, this represents an increase over the amount invested in 2005. Investments by U.S. firms abroad also rebounded in 2006 to $235 billion, up sharply from the $8 billion net they brought home in 2005. The increase in foreign direct investment flows, mirrors a turn-around in global flows. According to the United Nations’ World Investment Report, global foreign direct investment inflows increased by 29% in 2005 after a slight increase in 2004 and three years of declining flows prior to 2004 that arose from competitive international price 1 The United States defines foreign direct investment as the ownership or control, directly or indirectly, by one foreign person (individual, branch, partnership, association, government, etc.) of 10% or more of the voting securities of an incorporated U.S. business enterprise or an equivalent interest in an unincorporated U.S. business enterprise. 15 CFR § 806.15 (a)(1). 2 Lowe, Jeffrey H., Foreign Direct Investment in the United States. Survey of Current Business, September 2007, p. 39. Direct investment data reported in the balance of payments differ from capital flow data reported elsewhere, because the balance of payments data have not been adjusted for current cost adjustments to earnings. CRS-2 pressures leading to greater internationalization of production, rising commodity prices, and increased international merger and acquisition activity in some areas. Figure 1. Foreign Direct Investment in the United States and U.S. Direct Investment Abroad, Annual Flows, 1990-2006 (in billions of dollars) $350 Billions of dollars $300 $250 Foreign Direct Investment in the United States $200 $150 U.S. Direct Investment Abroad $100 $50 $0 -$50 1990 1992 1994 1996 1998 2000 2002 2004 2006 Year Source: CRS from U.S. Department of Commerce data The cumulative amount, or stock, of foreign direct investment in the United States on a historical cost basis3 increased by $175 billion in 2006 to about $1.8 trillion. This marked an increase of 8% over the previous year and a significant change from the decline in foreign investment spending that had occurred since 2000.4 The rise in the value of foreign direct includes an upward valuation adjustment of existing investments and increased investment spending that was driven by the stronger growth rate of the U.S. economy, the world-wide resurgence in cross-border merger and acquisition activity, and investment in the U.S. financial and insurance industries as overseas banks and finance and insurance companies sought access to the profitable U.S. financial market.5 3 The position, or stock, is the net book value of foreign direct investors’ equity in, and outstanding loans to, their affiliates in the United States. A change in the position in a given year consists of three components: equity and intercompany inflows, reinvested earnings of incorporated affiliates, and valuation adjustments to account for changes in the value of financial assets. The Commerce Department also publishes data on the foreign direct investment position valued on a current-cost and market value bases. These estimates indicate that foreign direct investment increased by $231 billion and $416 billion in 2006, respectively, to reach $2.1 and $3.2 trillion. 4 Ibarra, Marilyn, and Jennifer Koncz, Direct Investment Positions for 2006: Country and Industry Detail, Survey of Current Business, July, 2007. p. 21. 5 McNeil, Lawrence, Foreign Direct Investment in the United States: New Investment in 2006, Survey of Current Business, June 2007, pp. 44-46. CRS-3 As a share of the total amount of nonresidential investment spending in the U.S. economy, investment spending by foreign firms accounted for 9% in 2005, far below the 19% reached in 2000. Foreign firms’ spending was sustained by a large increase in intercompany debt flows as U.S. affiliates turned to net borrowing from their foreign parent companies. Direct investment was also financed through reinvested earnings and an increase in equity capital, although the increase in the amount of equity capital was the lowest amount since the 1995. The lower amount of equity capital represents the relatively slower rate of economic growth in Europe that reduced the amount of funds European parent firms had available to invest and the higher rate of economic growth among the U.S. affiliates which improved their profit position.6 With over $303 billion invested in the United States, Great Britain is the largest foreign direct investor, as is indicated in Table 1. Japan has moved into the position as the second largest foreign direct investor in the U.S. economy with about $211 billion in investments. Following the Japanese are the Germans ($203 billion), the Dutch ($189 billion), and the French ($159 billion). In some cases, investments by one or two countries dominate certain industrial sectors, suggesting that there is a rough form of international specialization present in the investment patterns of foreign multinational firms. At year end 2006, the Netherlands and the United Kingdom accounted for the bulk of foreign investments in the U.S. petroleum sector, reflecting investments by two giant companies: Royal Dutch Shell and British Petroleum. Japanese investments in the U.S. wholesale trade sector are also substantial, followed by British investments, and European investors account for the bulk of foreign investments in the retail trade sector. German investors are the largest investors in the information sector as a result of a number of large media company acquisitions. French, German, and British investments dominate other foreign investments in the banking sector, while Dutch, Canadian, British, and French investments account for over half of the investments in the finance sector. Canada’s $68 billion investment in the U.S. banking and finance sectors is nearly matched by the investments by British firms, followed by France ($49 billion) and Germany ($39 billion). Foreign direct investment in the manufacturing sector is represented by a number of countries, each with substantial investments: investments by Switzerland ($79 billion), Germany ($77 billion), the United Kingdom ($77 billion), France ($70 billion), the Netherlands ($70 billion) account for two-thirds of the total amount of foreign direct investment in this sector. Investment spending by developed economies accounts for 95% of all foreign direct investment in the United States. These investments are predominately in the manufacturing sector, which accounts for about 33% of foreign direct investment in the United States, a decline from periods when such investment accounted for a majority share of the total. Another 23% is in the banking and finance sectors, and 16% is in the retail and wholesale trade sectors, reflecting purchases of department stores and other investments to assist foreign firms in marketing and distributing their products. The fastgrowing information sector accounts for 7.0%, while services and real estate account for 6 At the same time, U.S. direct investment abroad plummeted in 2005 as U.S. parent firms reduced the amount of reinvested earnings in their foreign affiliates for distribution to the U.S. parent firms to take advantage of one-time tax provisions. U.S. direct investment abroad in 2005 totaled $21 billion (in nominal terms). CRS-4 modest shares of 3.5% and 2.4%, respectively. All other industries account for the remaining 15%. Table 1. Foreign Direct Investment Position in the United States on a Historical-Cost Basis at Year-End 2006 (in millions of U.S. dollars) All industries All countries Canada Europe Belgium France Germany Ireland Italy Luxembourg Netherlands Sweden Switzerland U. Kingdom Latin America Africa Middle East Asia and Pacific Australia Japan OPEC 1,789,087 158,979 1,270,570 12,590 158,830 202,581 28,551 11,883 130,925 189,293 22,287 140,259 303,232 79,845 2,244 17,639 259,810 25,727 210,996 12,391 Manufac- Wholesale turing trade 593,759 31,315 454,879 2,977 69,857 77,510 11,132 986 30,153 69,775 10,591 78,843 76,805 23,520 -38 (D) (D) 5,721 65,866 21 252,028 14,204 121,169 1,817 7,788 12,284 241 1,174 1,186 15,208 7,037 (D) 61,287 11,732 (D) (D) 99,974 1,974 86,977 (D) Retail trade 32,898 5,648 20,399 (D) 921 2,450 (D) 1,785 0 (D) (D) 399 3,299 970 (D) (D) 5,837 2 5,706 (*) Information 125,963 5,365 111,841 -2 17,037 38,788 540 (D) 5,765 12,044 290 (D) 19,453 4,914 (D) 814 (D) (D) 2,323 2 Banking 148,981 16,906 113,698 (D) 20,177 18,975 (D) 1,383 0 (D) (D) (D) (D) 4,118 (D) 1,684 (D) (D) 8,324 1,431 Finance 257,677 51,775 173,087 1,156 28,941 20,425 3,851 (D) (D) 54,290 245 37,454 (D) 11,612 (D) (D) 21,074 2,610 16,799 (D) Real Services Estate 43,295 3,040 21,791 (D) 396 7,017 (D) 46 (D) 1,866 1,423 1,864 4,892 5,337 265 828 12,034 5,844 5,420 831 62,262 1,076 54,509 -32 3,747 256 (D) (D) (D) 9,548 55 520 27,722 109 (D) (D) 6,447 (D) 4,753 -3 Other industries 272,225 29,650 199,197 2,283 9,967 24,876 7,242 2,426 83,338 11,909 (D) 7,522 32,364 17,533 1,282 927 23,637 7,550 14,830 (D) Source: Foreign Direct Investment in the United States: Detail for Historical-Cost Position and Related Capital and Income Flows, 2004-2006. Survey of Current Business, September, 2007. p. 52. Note: The position is the stock, or cumulative, book value of foreign direct investors’ equity in, and net outstanding loans to, their U.S. affiliates. A negative position may result as U.S. affiliates repay debts to their foreign parents, and as foreign parents borrow funds from their U.S. affiliates. D indicates that data have been suppressed by the Department of Commerce to avoid the disclosure of data of individual companies. Acquisitions and Establishments Another way of looking at foreign direct investment is by distinguishing between transactions in which foreigners acquire existing U.S. firms and those in which foreigners establish new firms — termed “greenfield” investments. New investments are often preferred at the local level because they are thought to add to local employment, whereas a foreign acquisition itself may add little, if any, new employment. In 2006, outlays for new investments, which include investments made directly by foreign investors and those made by existing U.S. affiliates, were $161.5 billion, a 77%increase over the $91.4 billion invested in 2005. According to the Department of Commerce, the increase in new investments reflected faster economic growth in the United States and an increase in merger and acquisition activity.7 Acquisitions of existing U.S. firms accounted for 92% of the new investments by value. Investments by the existing U.S. affiliates of foreign firms accounted for 68% of the total transactions by investor, while other foreign direct 7 McNeil, Lawrence R., Foreign Direct Investment in the United States: New Investment in 2006. Survey of Current Business, June 2007. p. 44. CRS-5 investors accounted for the remaining 32% of transactions. Investment outlays by foreign firms increased from 2005 in all major sectors, except retail trade and services. Investment in finance increased by 360% to manufacturing, information and banking. Investment outlays decreased in the finance and insurance sectors. Economic Performance By year-end 2005, the latest year for which detailed data are available, foreign firms employed 5.5 million Americans, less than 4% of the U.S. civilian labor force, and owned over 30 thousand individual business establishments.8 Foreign firms have a direct investment presence in every state. Employment of these firms ranges from over 543 thousand in California, to about 7 thousand in North Dakota. Following California, New York (378 thousand), Texas (345 thousand), Pennsylvania (232), Illinois (226 thousand), and Florida (226 thousand), and have the largest numbers of residents employed by foreign firms. In 2005, 40% of the foreign firms’ employment was in the manufacturing sector, more than twice the share of manufacturing employment in the U.S. economy as a whole, with average annual compensation (wages and benefits) per worker of about $63,000. Retail and wholesale trade accounted for another 22% of total affiliate employment. Dutch-affiliated firms are the largest single employers in the retail trade sector and account for nearly one-third of total affiliate employment in this sector, while Japanese and British firms account for over half of the employment in the wholesale trade sector. Employment in the information, finance, real estate and technical services sectors accounts for another 13% of total affiliate employment. Average employee compensation is highest in the finance sector — $229,000 — where Swiss, Canadian, Japanese, and British account for three-fourths of the employment. The rest of the affiliate employment is spread among a large number of other industries. The affiliates of foreign firms spent $140 billion in the United States in 2005 on new plant and equipment, imported $468 billion in goods and services and exported $181 billion in goods and services. Since 1980, the total amount of foreign direct investment in the economy has increased eight-fold and nearly doubled as a share of U.S. gross domestic product (GDP) from 3.4% to 6.4%. It is important to note, however, that these data do not imply anything in particular about the role foreign direct investment has played in the rate of growth of U.S. GDP. Foreign-owned establishments, on average, are far outperforming their U.S.-owned counterparts. Although foreign-owned firms account for less than 4% of all U.S. manufacturing establishments, they have 14% more value added on average and 15% higher value of shipments than other manufacturers. The average plant size for foreignowned firms is much larger — five times — than for U.S. firms, on average, in similar industries. This difference in plant size apparently rises from an absence of small plants among those that are foreign-owned. As a result of the larger plant scale and newer plant age, foreign-owned firms paid wages on average that were 14% higher than all U.S. manufacturing firms, had 40% higher productivity per worker, and 50% greater output per 8 Foreign Direct Investment in the United States: Operations of U.S. Affiliates of Foreign Companies, Preliminary 2005 Estimates. Bureau of Economic Analysis, 2007, Table 2A-1. CRS-6 worker than the average of comparable U.S.-owned manufacturing plants. Foreign-owned firms also display higher capital intensity in a larger number of industries than all U.S. establishments. These differences between foreign-owned firms and all U.S. firms should be viewed with some caution. First, the two groups of firms are not strictly comparable: the group of foreign-owned firms comprises a subset of all foreign firms, which includes primarily very large firms; the group of U.S. firms includes all firms, spanning a broader range of sizes. Secondly, the differences reflect a range of additional factors, including the prospect that foreign firms which invest in the United States likely are large firms with proven technologies or techniques they have successfully transferred to the United States. Small foreign ventures, experimenting with unproven technologies, are unlikely to want the added risk of investing overseas. Foreign investors also tend to opt for larger scale and higher capital-intensity plants than the average U.S. firm to offset the risks inherent in investing abroad and to generate higher profits to make it economical to manage an operation far removed from the parent firm. Conclusions Foreign direct investment in the United States in 2005 rose slightly, but still equaled far less than the record amount recorded in 2000. Other countries have experienced a similar turn-around in foreign direct investment inflows, especially to some of the less developed economies where there is a great potential for investment. As the rate of growth of the U.S. economy rises, interest rates stay low, and the rate of price inflation stays in check, foreign direct investment in the United States likely will continue the rebound. Of particular importance will be public concerns over foreign direct investment in the economy as a whole and on the overall phenomenon referred to as “globalization,” with its impact on jobs in the economy. Concerns over foreign direct investment, where they exist, stem not so much from the perceived potential losses of international competitiveness that characterized similar concerns in the 1980s, but from potential job losses that could result from mergers and acquisitions, although such losses could occur whether the acquiring company is foreign- or U.S.-owned. Such concerns are offset, at least in part, by the benefits that are perceived to be derived from the inflow of capital and the potential for new jobs being created in local areas. Although job security is an important public issue, opposition to some types of foreign direct investment stem from concerns about the impact of such investment on U.S. economic and security interests, particularly in light of the terrorist attacks of September 11, 2001. The U.S. economy, however, remains a prime destination for foreign direct investment. As the pace of economic growth in the Nation increases relative to that of foreign economies, foreign direct investment likely will increase as new investments are attracted to the United States and existing firms are encouraged to reinvest profits in their U.S. operations.