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Unformatted text preview: International Resource Movements & MNCs
Chapter 12 ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 1/18 Key Terms
• Portfolio investment
Brain drain ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 2/18 1 Introduction
Discuss the motives for portfolio and direct
investments abroad. Know the welfare effects of international
capital flows on investing and host countries. Learn Multinational corporations—the reasons
for their existence and some of the problems
they create. Ananlyze the reasons for and welfare effects
of the international migration of labor in general
and of skilled labor in particular. ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 3/18 2 International Trade and Movement of Resources International trade and movements of
productive resources can be regarded as
substitutes for one another.
International trade and movements of
productive factors have very different economic
effects on the nations involved.
There are two main types of foreign
and direct investments. ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 4/18 2 Portfolio Investments and Direct Investments Portfolio investments are purely financial assets, such as
bonds and stocks, denominated and expressed in a national
currency. They take place primarily through financial
institutions (banks and investment funds).
With bonds, the investor simply lends capital to get fixed
payouts or a return at regular intervals and then receives the
face value of the bond at a prespecified date.
With stocks, the investor purchases equity on the net worth
of the firm.
Direct investments are real investments in factories, capital
goods, land, and inventories where both capital and
management are involved and the investor retains control over
use of the invested capital. Direct investment usually takes the
form of a firm starting a subsidiary or taking control of another
firm (by purchasing a majority of the stock).
ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 5/18 2.1 Motives for International Portfolio Investments The basic motives are: To earn higher returns abroad. To reduce risks to account for the two-way capital
Investors are interested not only in the rate of return
but also in the risk associated with a particular
investment. The risk with bonds consists of bankruptcy
and the variability in their market value. With stocks, the
risk consists of bankruptcy, even greater variability in
market value, and the possibility of lower than anticipated
returns. Thus, investors maximize returns for a given
level of risk and generally accept a higher risk only if
returns are higher.
ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 6/18 2.2 Example of Portfolio Investment
Suppose stocks A and B both have a rate of return of
30 percent on average, but there is a fifty-fifty chance that
the yield will be either 20% or 40% on stock A and 10
percent or 50 percent on stock B. Stock B is then clearly
riskier than stock A. Since both stocks have the same
yield on the average, investors should purchase stock A
to minimize risks.
If the yield on stock A falls when the yield on stock B
rises and vice versa, then by holding both stocks, the
investor can still receive a yield of 30% on average but
with a much lower risk. The risk of a lower than average
yield on stock A is more or less matched by the yield on
stock B to be higher than average. As a result, the risk of
a portfolio including both stock A and stock B is reduced.
ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 7/18 2.2 Example of Portfolio Investment
Portfolio theory thus tells us that by investing
in securities with yields that are inversely related
over time, a given yield can be obtained at a
smaller risk or a higher yield can be obtained for
the same level of risk for the portfolio as a whole.
Since yields on foreign securities (depending
primarily on the different economic conditions
abroad) are more likely to be inversely related to
yields on domestic securities, a portfolio
including both domestic and foreign securities
can have a higher average yield and/or lower risk
than a portfolio containing only domestic
ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 8/18 3 Motives for FDI The motives are the same as for portfolio investments:
to earn higher returns and to diversify risks.
To get higher returns from higher growth rates abroad,
more favorable tax treatment, or greater availability of
They have unique production or managerial skills that
could easily and profitably be utilized abroad and over
which the corporation wants to retain direct control. This
is horizontal integration, the production abroad of a
differentiated product that is produced at home.
To obtain control of needed raw materials and ensure
an un-interrupted supply at lowest possible cost. This
involves vertical integration and is the form of most FDI
in developing countries and in some mineral-rich
developed countries. To avoid tariffs and restrictions that nations impose on
imports or to take advantage of various government
subsidies to encourage FDI.
ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 9/18 3.1 Welfare Effects of Capital Flows ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 10/18 3.2 Other Effects on Investing & Host Nations
The total and average return on capital increases,
whereas the total and average return to labor decreases
in the investing country.
The host country also gains from receiving foreign
investments, these investments lead to a redistribution of
domestic income from capital to labor. FDI tends to
reduce the level of employment in the investing country
and increase employment in the host country. The Balance of Payments
A nation's balance of payments measures its total
receipts from and total expenditures to the rest of the
world. In the year in which the foreign investment takes
place, the foreign expenditures of the investing country
increase and cause a balance-of-payments deficit.
ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 11/18 4 Reasons for Existence of MNCs The basic reason is to achieve the competitive
advantage of a global network of production and
This competitive advantage arises from vertical and
horizontal integration with foreign affiliates.
By horizontal integration through foreign affiliates,
MNCs can better protect and exploit their monopoly
power, adapt their products to local conditions and
tastes, and ensure consistent product quality.
The competitive advantage of MNCs also comes from
economies of scale in production, financing, R&D, and
the gathering of market information.
The large output of MNCs allows them to carry division
of labor and specialization in production much further
than smaller national firms.
ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 12/18 4.1 Problems in Home Country The most alleged harmful effects of MNCs on
the home nation is the loss of domestic jobs
resulting from foreign direct investments. But
they alsocreate some better jobs
FDI may undermine the technological
superiority and future of the home nation.
Another harmful effect of MNCs can result from
transfer pricing and similar practices, and from
shifting their operations to lower-tax nations,
which reduce tax revenues and erode the tax base
of the home country.
MNCs can circumvent domestic monetary
policies and make government control over the
economy in the home nation more difficult.
ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 13/18 4.2 Problems in Host Country MNCs dominate the economies in host countries including
(1) Unwillingness of a local affiliate to export to a nation
which is friendly to the host nation but unfriendly to the
(2) Borrowing of funds abroad to circumvent tight
domestic credit conditions and the lending of funds
abroad when interest rates are low at home;
(3) Effects on national tastes of large-scale advertising
for such products as Coca-Cola, jeans, and so on.
(4) Siphoning off of R&D funds to the home nation.
While this may be more efficient for the MNC and the
world as a whole, it also keeps the host country
(5) Absorbing local savings and entrepreneurial talent.
(6) Extract benefits either through tax and tariff benefits
or through tax avoidance.
ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 14/18 5 Motives for International Labor Migration Migration takes place for: Economic Reasons and nonMigration
economic Reasons. Economics Reasons: prospect of earning higher real
wages and income abroad. Non-economic Reasons: greater educational and job
opportunities for children.
Costs: Expenditures for transportation and the loss of wages;
Expenditures Separation from relatives, friends, and familiar
surroundings; Need to learn new customs and often a new language; Risks involved in finding a job, housing, and so on in a
ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 15/18 6 Welfare Effects of International Labor Migration ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 16/18 7 Discussion Questions
• In what sense are international flows of production
resources a substitute for international commodity
• What is meant by portfolio investment? What are the
basic motives for international portfolio investment?
• What is FDI? What are the reasons for FDI?
• What are the effects of FDI on the investing and host
• What are the motives for the existence of MNC?
• What are the effects of MNCs on the investing and
• What are the reasons for labour migration? ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 17/18 Thank You!
ANHUI UNIVERSITY OF FINANCE AND ECONOMICS 18/18 ...
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- Fall '09