International Economics
By Robert J. Carbaugh
9th Edition
Chapter 10:
International Factor Movements
and Multinational Enterprises
Copyright ©2004, South-Western College Publishing
Factor movements & multinational enterprises
Factor movements
 International movement of factors of
production (capital, labor) is a substitute for
international trade in goods
 International capital flows (investment) can
substitute for trade in capital-intensive
goods
 Labor mobility can substitute for trade in
labor-intensive goods
Carbaugh, Chap. 10
2
Factor movements & multinational enterprises
Multinational enterprises
 Various business operations in numerous
host countries
 Headquarters often far from operations
 Stock ownership and management are
usually multi-national
 Frequently employ vertical integration,
horizontal integration, conglomerate
structure
Carbaugh, Chap. 10
3
Multinational enterprises
Foreign direct investment
 A foreign or multinational firm can buy a
controlling interest in a local firm
 Buy or build new plants or equipment
overseas
 Shift funds abroad to expand a subsidiary
 Reinvest the earnings of a foreign
subsidiary
Carbaugh, Chap. 10
4
Multinational enterprises
Reasons for foreign direct investment
 Demand factors
 Serve different local markets
 Respond to market competition
 Cost factors




Access to key raw materials
Labor costs
Transportation costs
Government policies
Carbaugh, Chap. 10
5
Foreign direct investment
Choice between export and FDI
Carbaugh, Chap. 10
6
Foreign direct investment
Choice between licensing and FDI
Carbaugh, Chap. 10
7
Multinational enterprises
International joint ventures
 Two companies can operate a venture in a
third country
 A foreign firm can work with a local
company
 A foreign firm can form a venture with a unit
of the local government
Carbaugh, Chap. 10
8
Multinational enterprises
Reasons for international JVs
 Cost sharing - R&D, capital expenditures
(in mining and oil, for example)
 Avoiding restrictions on foreign ownership
of local firms (ensuring local participation)
 Forestalling pressure for protectionism
 Problems: divided control means success
of JV depends on ability of firms to work
together
Carbaugh, Chap. 10
9
Multinational enterprises
Effects of an international JV
Carbaugh, Chap. 10
10
Multinational enterprises
Controversy over multinationals
 Employment
 Host country may not gain many jobs, foreign
managers often brought in; source country
worries about losing jobs
 Technology transfer
 MNEs are reluctant to share technology with
host nations; source country worries about
giving away advantage
Carbaugh, Chap. 10
11
Multinational enterprises
Controversy over multinationals (Cont’d)
 National sovereignty
 Host country worries about power of MNE to
influence affairs; source country worries about
ability to regulate MNE activities elsewhere
 Balance of payments
 MNE investments and profits (internal
transfers) have impacts on the payments status
of both source and host nations
Carbaugh, Chap. 10
12
Multinational enterprises
Controversy over multinationals (Cont’d)
 Taxation
 Source countries may have difficulty taxing
MNE income stemming from foreign operations
 Tax rate differences may discourage
investment at home
 Transfer pricing
 Both host and source governments worry that
MNEs may illegally manipulate prices paid
between subsidiaries to avoid taxes
Carbaugh, Chap. 10
13
Multinational enterprises
Transfer pricing illustrated
Germany
Ireland
United States
(tax rate 48%)
(tax rate 4%)
(tax rate 34%)
Computer
produced by
parent firm for
$2000. Sold to
Irish subsidiary
for $2000.
Irish subsidiary
resells the same
computer to US
subsidiary for
$2500, earning
$500 profit.
US subsidiary sells
computer at cost,
for $2500. No profit
is earned.
German tax paid:
$0.
Irish tax paid:
$20.
Carbaugh, Chap. 10
US tax paid: $0.
Irish subsidiary
then lends money
to US subsidiary
for expansion
14
International factor movements
Migration
 Tends to equalize wage rates between countries
 Shifts distribution of income between capital and
labor
 Other concerns:




Fiscal drain from immigration
Brain drain from developing countries
Impact of illegal migration
Wider gulf between skilled and unskilled workers
Carbaugh, Chap. 10
15
International factor movements
Effects of labor migration
United States
Carbaugh, Chap. 10
Mexico
16