International Trade and Investment

Foreign Direct Investment

   International trade in goods and services is an important channel of international commerce, but it is not the largest channel. For many U.S. firms, foreign direct investment (FDI) is a more significant path to accessing foreign markets than are exports.

   FDI is investment of foreign assets into domestic structures, equipment, and organizations (e.g., a manufacturing plant, an R&D facility, an office or a warehouse), whether in the form of acquisition or "greenfield" establishment. FDI is distinguished from passive portfolio investment (FDI does not include foreign investment in the stock market). Only the former can confer managerial or operational control. The two types of foreign direct investment are inward FDI and outward FDI. Inward foreign direct investment is generally understood to imply ownership by a foreign person or corporation of at least a 10-percent stake in a U.S. business enterprise. Similarly, outward foreign direct investment is ownership by a U.S. person or corporation of at least a 10-percent stake in a foreign business operation abroad. A foreign automaker building or buying a production plant in the United States is an example of inward FDI, while a U.S. automaker building or buying a production plant in China is an example of outward FDI.

   Before we examine each type of FDI and its importance to the U.S. economy, it is useful to define some of the terms that are commonly encountered when discussing FDI. A multinational corporation is a business enterprise (i.e., the parent) headquartered in one country that has at least a 10-percent ownership stake in a foreign business enterprise (i.e., the affiliate) in another country. That 10-percent ownership stake is the minimum stake used by many statistical agencies around the world, including those in the United States, for identifying meaningful managerial influence over the affiliate.

   A majority-owned U.S. affiliate is an affiliate of a foreign-owned company that is located in the United States and has at least 50 percent foreign ownership (we focus on majority-owned U.S. affiliates here but use the term "U.S. affiliates"). Similarly, a majority-owned foreign affiliate is a foreign affiliate with at least 50 percent U.S. ownership.

   U.S. firms are more reliant on FDI for the international delivery of services than they are for the international delivery of goods. While services are becoming increasingly tradable, their actual delivery often requires some physical presence, for example, distribution and express delivery services. Even with widespread use of ATMs and electronic banking, financial or retail banking often requires physical presence in the country in which services are being offered. Based on data from the Bureau of Economic Analysis for 2004, the ratio of sales by U.S.-owned services affiliates abroad to total U.S. services exports was 5.5, compared to 2.5 for goods. That is, U.S. firms deliver over five times the value of services through their foreign affiliates as they do through cross-border trade. Similarly, U.S. firms deliver 2.5 times the value of goods through their foreign affiliates as they do through cross-border trade.