Overseas investment dissected MONEY
NICHOLAS DAVENPORT
The Department of Applied Economics at Cambridge has been researching, under the guidance of Mr W. B. Reddaway, into the effects of direct investment overseas by British companies on the UK balance of payments and on the ux economy in general (Effects of Direct Investment Overseas by Reddaway and others; Cambridge University Press, 25s). The study has been financed by the cm who have per- suaded Mr Reddaway to publish an interim report although the work, begun in September 1965, is by no means complete. What is re- markable about this premature publication is the contrast between the diffident way in which the economists presented their report—with so many warnings about the precarious nature of their calculations and so many apologies for their over-simplifications--and the over- confident way in which the cm drew their own conclusions and in fact corrected the learned economists. I am sure Mr Reddaway will be blushing over some of the cm comments for the press.
What the economists found after tabulating the answers to their questionnaire from lead- ing companies in about a dozen industries is that on average—the figures differing widely in different industries and oil being excluded— every £100 invested in overseas subsidiaries would produce initially additional exports of only £9 (reducing internal UK capital by £9) and add £91 to our external financial obli- gations; thereafter it would produce pro- fits, after overseas taxation, of £8 (or £6.5 on a replacement cost basis) and additional exports of goods and services of only £1 10s. Although the profit figures range from £13.8 to £5.2 an average of f8 per £100 invested seems reasonable but the addi- tional exports insignificant. The cm were obvi- ously disturbed by these figures and in their comments pointed out that this 'over-simpli- fied' calculation did not allow for any con- tribution of outside finance to the new invest- ment overseas.
A UK parent company, they say, provides on average only 60 per cent of the funds used by its overseas subsidiary, foreigners provid- ing the remaining 40 per cent either as equity or fixed-interest capital. The UK equity stake therefore obtains a profit benefit from this ele- ment of `gearing'—if and when the enterprise is profitable. They also point out that the foreign exchange cost of generating the addi- tional exports is only the tix stake, not the total of operating assets on which the econo- mists' report is based. Further, the CBI remark that the economists had not taken into account the increase in the efficiency and competitive- ness of British industry which is derived from an interchange of knowledge and technical experience with the foreign subsidiaries.
The cm seize on one small sentence of this complicated economic report which seems to justify their case, namely, that because an aver- age act of direct investment overseas does strengthen the future balance of payments on
Custos is on holiday
current account, therefore a steady rate of in- vestment overseas, if maintained long enough, will provide enough of an annual surplus on
current account to finance the -annual quota of new investment. The official statistics for
the period 1958-65 do, in fact, show that the annual quota of overseas investment was covered by the annual receipts of interest, pro- fits and dividends. But the investment takes about twenty years to break even. Of course, the Bank of England might set up another foreign exchange pool, like the portfolio in- vestment pool, to which the direct overseas investor should have recourse if he wants to add to his foreign investment. At the moment he is forced to go to the portfolio pool with the result that the investment dollar premium has been driven up to over 20 per cent. This makeg..._ a prohibitive nonsense of both direct and port- folio investment abroad.
The Reddaway interim report must be very disappointing to all the Governors of the Bank of England who have long been extolling the virtues of direct investment overseas—witness Lord Cromer's recent address to the New York University business school—but it should be welcomed by Parliament on several counts. First, it brings out the extreme diversity of re- sults from overseas investment. Much of it must be quite unprofitable. An important motor component company recently lost many millions in an enterprise in France. From the samples given the greatest stimulus to exports from the UK came, curiously enough, from the least profitable investment overseas. One gets the impression that a lot of it is haphazard and not properly costed out. Secondly, it is made abundantly clear that in the annual reckoning for the balance of payments direct investment overseas at recent rates unless financed abroad is a heavy burden on the sterling ex- change and in times of crisis must simply have a stop. It is all very well to build up assets abroad, 'which in the last resort,' say the cut, 'could be sold,' but no government has dared, except in war, to enforce disinvestment. It would obviously have been far more convenient if, in the recent payments arises, we had had larger liquid reserves and fewer frozen assets abroad.
Nevertheless the cm are right to point out that 'fiscal penalisation is a totally unsuitable method of reducing investment overseas.' The tax disadvantages suffered by shareholders in Inc companies with overseas income and over- seas investments act as an undiscriminating, unselective bar to all overseas investment, pro- fitable or unprofitable. This is not what we re- quire. We clearly need the development of oil and mineral resources abroad under British ownership and the great oil companies and mining houses, like ato-'Intro ZINC, are a source of strength to the British economy. 'Fis- cal penalisation does not achieve,' the cat rightly comment, 'the immediate cut-back in overseas investment which, we acknowledge, may be made necessary by a pressing short- term shortage of foreign exchange. The clear implication of the [Reddaway) report is that in
such circumstances resort should be had to selective direct controls rather than to overall fiscal disincentives. . . . We shall therefore be urging the Chancellor to take the first oppor- tunity of removing the fiscal disadvantages at present suffered by overseas investment.'
This is an important conclusion for the cm to reach, but I cannot see the Government ac- ceding to their request without first demand- ing some disinvestment of the least profitable investments—portfolio as well as direct. As the report shows, it is extremely difficult to find an acceptable definition of the 'worth-whileness' of overseas investment from a national econo- mic point of view, and I can anticipate Pro- fessor Dunning of Reading objecting to the whole methodology of the Reddaway exercise. But it is something to have this business of direct investment overseas, which had become a fetish of the Bank of England in the old days, subjected to a new economic X-ray, even if it leads to the operating table later.
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