International Factor movements?

Question 1

Overview?

Answer 1

• International movement of FOP – capital and labour
• Until now assumed g/s mobile but not FOP
• The domination of the Canadian economy by American firms operating within Canada, capital flows from the US to Mexico, illegal immigrants from Mexico to the US.
• Developing countries are seeking ways to restrain the outflow of skilled labour (the “brain drain”)

Question 2

FDI and Multinational Corporations?

Answer 2

• Types of capital movements – FDI and foreign portfolio investment
• FDI - movement of capital involving ownership and control where foreign ownership of production facilities took place
• FDI usually discussed in context of multinational corporation (MNC)
• Refers to phenomenon that production taking place in plants located in 2 or more countries, under supervision and direction of headquarters in one country
• Foreign portfolio investments doesn’t involve ownership/control but flow of ‘financial capital’ rather than ‘real capital’

Question 3

FDI and Multinational Corporations - Reasons?

Answer 3

• Economists view movement of capital between countries as fundamentally different from movement between regions of a country because capital is moved in response to expectation of a higher rate of return in new location
• Firms invest abroad in response to large and rapidly growing market
• Manufacturing and services production in developed countries catering increasingly to high income tastes, so developed country firms invest overseas if recipient country has high per capita income
• Foreign firm can secure access to mineral/raw material deposits, then process and sell in more finished form
• Tariffs and non tariff barriers in host country – if trade restrictions make it diff for foreign firm to sell in host, alternative strategy to ‘get behind the tariff wall’ and produce within host country itself
• If low relative wages in host country – although studies indicate not as much an enticement as envisioned by the public – is an attraction when production process is labour intensive
• Firms also argue they need to invest to protect market share
• May invest as means of risk diversification – distributing real investment assets across industries/countries
• Foreign firms may find investment in a host country to be profitable due to some firm-specific knowledge/assets that enable foreign firm to outperform host’s domestic firms – superior skills/important patent

Question 4

FDI and multinational corporations- Determinants?

Answer 4

• Reinhilde Veugeler 1991 (data on FDI from developed countries to other developed) -
• Positive relationship of FDI with GDP of recipient country and having common language/boundaries
• Negative of FDI with ratio of fixed investment to GDP – surprising
• Labour productivity, distance between sending and receiving countries and tariff rates had insignificant impacts
• Franklin Root and Ahmed Ahmed 1979 –
• Influences on inflow of FDI into the manufacturing sector in sample of 59 developing countries
• Other things being equal, FDI was greater the –
• Higher the per capita GDP of host
• Greater the growth rate in total GDP of host
• Greater the degree of recipient country participation in economic integration projects such as customs unions and free trade areas
• Greater the availability of infrastructure facilities in the recipient
• Greater the extent of urbanisation of the recipient
• Greater the degree of political stability in host

Question 5

Movement of capital - rate of return higher in country 1 than country 2?

Answer 5

If capital permitted to move between countries, capital will move from 2 to 1 until return to capital is equal
Portrays Marginal Physical Product of Capital for the 2 countries
With standard assumption of perfect competition, capital in country 1 paid at rate equal to its marginal product
After capital movement ->
Rate of return to capital in 1/2 - decrease/increase
Total output in 1/2 - increase/decrease
Total profits of country’s capital owners in 1/2 - decrease/increase
Total wages of the country’s workers in 1/2 - increase/decrease
* Can conclude GNP has increased in 1 as income of workers rises by more than the fall in income of capital owners
* GNP in 2 rises despite output falling

Question 6

Potential benefits of capital movement?

Answer 6

Increased output
Increased wage
Increased employment
Increased exports
Increased tax revenue
Realisation of scale economies
Provision of technical and managerial skills of new technology
Weakening of power of domestic monopoly

Question 7

Potential costs of capital movement?

Answer 7

Adverse impact on hosts commodity terms of trade
Decreased domestic saving
Decreased domestic investment
Instability in balance of payments and exchange rate
Loss of control over domestic policy
Increased unemployment
Establishment of local monopoly
Inadequate attention to development of local education/skills

Question 8

Overview of potential benefits and costs to a host country?

Answer 8

• No general assessment can be made regarding whether the benefits outweigh the costs – each country’s situation and firm investment must be examined
• Developed and developing countries often try to institute policies that will improve the ratio of benefits to costs connected with a foreign capital inflow – thus performance requirements often placed on foreign firm – additionally output may be s.t. domestic content requirements on inputs, or foreign firms may be banned altogether from certain industries

Question 9

Home Country?

Answer 9

• Clearly impacts of FDI on sending or home country of the investment as well as on the receiving or host country
• The sending country experiences reduction in its GDP (although increase in GNP), reduction in total wages and increase in total return to investors
• Country could also undergo such effects as loss of tax revenue from investing firms and loss of jobs
• International trade could also be affected – exports from FDI-sending country may rise if new plants abroad obtained inputs from home sources – alternatively exports from sending could fall if new plant was set up abroad to supply the foreign market from the foreign country itself
• On import side, imports into home could increase if new FDI-plant assembles of produces relatively labour intensive products in a relatively labour abundant host country and home is a relatively capital abundant country

Question 10

Labour movements between countries - economic effects?

Answer 10

Assuming labour is homogenous in the 2 countries and mobile, labour should move from areas of abundance and lower wages to areas of scarcity and higher wages
This causes wage rate to rise in areas of out-migration and fall in areas of in-migration
In absence of moving costs, labour continues to move until wage rate equalised
Those that move to the higher wage rate, their marginal product is higher, removing the welfare loss
Productivity of the other factors rises, with the increased use of labour

• What can be said about the change in overall well-being in 1, 2 and the world?
• Given existence of diminishing marginal productivity of labour in production, other things being equal, output in 1 falls at a slower rate than decrease in labour force, leading to increase in per capita output
• In 2 output grows more slowly, leading to decrease in per capita output
• Finally, the world as a whole gains

Question 11

Overall effects of a labour movement from 1 to 2?

Answer 11

Wage rate in 1/2 - increase/decrease
Total output in 1/2 - decrease/increase
Total profits of capital owners in 1/2 - decrease/increase
Total wages of workers in 1/2 - increase/decrease

Question 12

Unemployment?

Answer 12

Clearer case of world gains from migration occurs if assumed that market imperfections within 1 lead to an initial excess supply of labour
Now, not only do wages differ, but some labour remains unemployed in 1 at institutional wage rate
This above equilibrium wage could be result of minimum wage laws and labour union-induced downward wage rigidity in manufacturing or of the existence of an agricultural sector where families divide up farm output amongst members (thus receiving average product)
The greater the number of market imperfections - the greater the potential gains from removing these distortions

Question 13

Political economy?

Answer 13

Not surprising that labour in 2 wants restrictions against immigration bc new workers lowers wage rate
* E.g., in early 2009, strikes occurred in UK as workers protested that French oil firm Total had awarded a UK construction contract to a company that would bring in foreign workers for use in production in UK
* On the other hand, owners of other resources such as capital favour immigration bc it increases their returns
* At the same time, labour in 1 favours emigration while capital owners tend to discourage the labour movement

Question 14

Immigrant remittances?

Answer 14

• First, new immigrant may transfer some income back to the home country
• When this happens, the reduction in income (from home production) in 1 is at least partly offset by the amount of the transfer, while the increase in income resulting from the increased employment in 2 is reduced by the amount of the transfer
• Assuming that the transfer is between labour in the 2 countries, labour income in 1 is enhanced and total income (and per capita) available to the labour force in 2 is further reduced

Question 15

Immigrant remittances - example?

Answer 15

• In fact, a study of remittances submitted by Greek emigrants indicated that the income, employment, and capital formation benefits to Greece from these remittances were substantial, while the costs of the emigration itself to Greece were limited (see Glytsos, 1993). More recently ,the top four remittance-receiving countries in 2010 were India (estimated to have received $55.0billion), China ($51.0 billion), Mexico ($22.6 billion), and the Philippines ($21.3 billion). In 2010,the estimate in total was that developing countries received $325.5 billion in remittances; for comparison purposes, this amount was annually about 2.5 times the amount of foreign aid received by these countries. Developed countries also, of course, receive immigrant remittances($115 billion in 2010)

Question 16

Guest worker?

Answer 16

• A second issue is the nature of immigration – assumed so far the immigration is permanent – a temporary worker, is often called a guest worker
• All workers assumed to be identical and new immigrant thus received same wage-benefit package as the domestic worker
• Not an unrealistic assumption bc many countries do not permit employers to discriminate against permanent immigrant – a 2 tier wage structure is thus not possible
• However, these restrictions don’t often hold for guest or seasonal workers/migrants
• If migrant labour not perceived as homogenous with domestic labour, is possible for owners of capital in the recipient country to gain without reducing income of domestic labour
• In this instance, 2 clearly benefits bc the permanent domestic labour force is no worse off and the owners of capital are clearly better off
• Not surprising that there is less opposition to temporary immigration
• Also not surprising to see home labour discourage even seasonal labour immigration if it perceives that ST migration keeps average wage rates fixed in the presence of rising production and product prices

Question 17

Skill level?

Answer 17

• The assumption of homogenous workers is certainly not true in real world, and welfare implications that accompany migration can vary as a result
• Labour force in each country possesses an array of labour skills ranging from untrained or unskilled to highly trained or skilled
• For this assume each country only has 2 types, skilled and unskilled

Question 18

Unskilled labour?

Answer 18

• Implications of out-migration on home country vary according to skill level
• Traditional migrant responding to economic forces tends to be the low skilled worker who is unemployed/underemployed in home country, seeking employment in the labour scarce country with higher wage
• The motive for migration is not only the higher wage in the host country, but also the greater probability of obtaining full time work
• Movement of low skilled based on expected income differentials has effects on the 2 countries, consistent with previous analysis – total world output rises, output rises and average low skilled labour income rises both absolutely and relatively in home country and output rises and average income of low skilled labour falls both absolutely and relatively in host country
• Important to note that return to skilled labour in the host, like capital, is likely to rise
• Host country may experience increase social costs through larger expenditures for human safety-net programs (unemp transfer, education, housing and health) as the number of unskilled increases relatively and absolutely
• Bc the unskilled worker tends to suffer greater employment instability, an increase in relative number of unskilled workers is generally linked to higher social maintenance costs
• An increase in these indirect costs results in higher taxes, thus reducing net gain for owners of other factors such as capital – reduction in average low skilled wages, inc the concomitant increased taxes is thus greater than suggested by the fall in market wage alone
• Not surprising that most countries attempt to control immigration of low skilled workers
• In an attempt to avoid some of the indirect social costs, several European countries such as Switzerland have adopted guest worker policies in the past, allowing low skilled labour to immigrate for short periods of time, but not qualifying for citizenship and can be req to leave at the gov’s request

Question 19

Skilled labour?

Answer 19

• Movement of skilled labour, especially between developing and industrialised countries is a relatively recent phenomenon
• However, an increasing number of highly educated people are leaving developing countries for US, Canada and western Europe – brain drain
• Higher salaries, lower taxes, greater professional and personal freedom, better lab conditions, access to newer tech, professional colleagues, and material foods and services explain this movement
• In many cases, the person had received formal training in the industrialised country and found it diff to readjust to life in home country
• From an economic standpoint, if markets are working and labour is paid its marginal product in both countries, the analysis of skilled labour movements is similar to that of unskilled, except for diff in magnitude connected to diff in marginal products
• Possible that skilled labour is in such short supply in home country that the loss of these workers leads to a fall in per capita income, not an increase
• Opp cost to home may be even larger than indicated by market wage if the skilled worker generates other positive externalities such as general improvement in level of tech – in addition to the extent that the home country has subsidised the education of these people, emigration rep a loss of scarce capital on which a reasonable social rate of return was expected
• Finally, cost to home country is even greater if markets are distorted by gov regulation in a way that the individual was receiving something less than the free market wage – in that event the wage formerly received by the worker understated the true market value of the worker
• The opposite is true in the recipient
• Productivity of the immigrant is relatively higher, the poss of positive externalities greater and expected indirect social costs are lower than with low skilled
• Inflow of the skilled reduces the domestic price of nontraded services such as medical care – in this case the pressure against immigration will come from professional labour groups, not from overall labour force
• Most industrialised countries have done little to restrict immigration of skilled workers, and in some cases made it easier to obtain work visas
• Developing workers in a quandary – migration of skilled labour often rep substantial static and dynamic cost to them
• Bc the combination of externalities, market wage distortions and opp cost of human capital investment frequently exceeds the income paid to the skilled worker, countries often inclined to restrict emigration
• However, loss in personal freedom makes such restrictions unappealing – may also lead to lower productivity and loss of professional leadership and entrepreneurship which is important as they undergo economic reforms

Question 20

Policies directed toward removing market imperfections?

Answer 20

• 1. paying skilled labour its marginal product
• 2. Subsidising professionals so their income reflects their true social value
• 3. Taxing emigrants or requiring remittances to cover at least part of the investment
• 4. Guaranteeing employment and high quality jobs for those returning home following training abroad
• 5. Appealing to the nationalism of the skilled worker
• These policies may be more attraction than the restriction of free movement
• While movement of skilled labour from developing countries may lead to increase in efficiency and world output in the static sense, contributed to increased divergence of income between low and high income countries
• In addition, loss of this scarce resource alters dynamics of change in developing countries
• Thus correct policy response not clear