All summer the business pages have been replete with stories of foreign takeovers of American firms and of the growing share of foreign ownership in U.S. real estate. The rapid growth of Japanese investment in the United States has particularly captured headlines. While this growth is not a trivial matter, especially in political terms, there is no basis in fact for the fear that the Japanese are gaining control of American industry and real estate.
Not so long ago it was U.S. investment abroad that created unfounded concerns in Europe that the United States would soon dominate those economies. And within the last decade there was near panic that the OPEC countries were about to own everything in sight. The truth, of course, is that U.S. investments abroad have been boons to the host countries, and that it can be similarly healthy for the U.S. economy when foreign investors come here.
The enormous Japanese trade surplus has been the driving force for the growth of that country's foreign investment. Last year the Japanese invested some $100 billion abroad, and about two-thirds of that came to the United States. But the overwhelming bulk of Japanese investment has been passive investment in the form of stocks and bonds. There is no danger that Japanese investment in this country is enabling the Japanese to control American business.
The major part of foreign capital generally arrives in the form of fixed-income investments such as bonds and bank deposits. These amount to approximately three-fourths of the stock of foreign investment in the United States. Portfolio investments in corporate stocks amount to an additional one-eighth of total foreign assets here. Far less important in value than these portfolio investments, but much more visible, are the direct investments in businesses and in real estate that have been dominating the news reports. These total only about one-sixth of foreign investment in the United States. (Investment is considered direct if it amounts to more than 10 percent of the ownership of a business or property; otherwise it is considered portfolio investment.)
Japanese direct investment in real estate -- typically the biggest headline grabber -- has certainly been growing rapidly as Japan's trade surplus has soared and as the yen has strengthened relative to the dollar. A Salomon Brothers report estimates that in 1986 the Japanese invested $4 billion in real estate -- or nearly three times the total of all past Japanese real estate investments in the United States. As dramatic as that increase has been, the $4 billion is still minor compared with the total spending on new construction in this country of more than $300 billion.
Most Japanese real estate investment is concentrated on office buildings and hotels. Again, the $4 billion of Japanese investment is a small proportion of the total commercial construction of $140 billion. The figures on Japanese direct ownership of American businesses are similarly reassuring. The total value of all direct investment by Japanese businesses in the United States is extremely small -- only about $23 billion at the end of 1986. And most of that does not involve any manufacturing, but refers to wholesale trading companies that operate in the United States as an extra arm of the Japanese export sector. The accumulated stock of Japanese manufacturing investments in this country only totaled $3 billion at the end of 1986.
Although foreign direct investment in America is growing rapidly, the United States still has a far larger stock of direct investments abroad than foreigners have here. Last year, U.S. earnings on direct investments in the rest of the world were four times as great as foreign countries' earnings on their direct investments here.
Far from representing an immediate danger of foreign control of the American economy, the capital inflow from abroad has helped to keep U.S. interest rates down and has thus permitted a higher overall level of investment in this country than would have been possible otherwise. Along with the benefits of imported technology and -- particularly in the case of Japanese investment -- of new management techniques, there have been improvements in employment as a result of the capital from abroad.
The recent growth of Japanese equity investments may even have had something to do with the extraordinary bull market of 1987. Despite record highs, U.S. price-earnings ratios remain in the 15-to-20 range, while in Japan the ratios have been in the 40-to-60 range. As long as American stocks look cheap to Japanese investors, there may be room for further records on stock prices here.
It is frustrating that some of our trading partners do not appreciate the positive long-range impact of open markets. But it would be just as counterproductive to restrict capital markets as to raise other trade barriers. The occasional rumblings about restricting foreign investment, such as the idea of requiring official registration, should be resisted by legislators and advisers to presidential candidates alike.
If there is no cause for alarm about Japanese investment in particular, what about the U.S. position in worldwide capital flows? While historically it has been no novelty for the United States to have a large capital inflow from abroad, in the first decades after World War II, America was the major exporter of capital and of technology. Only in the last decade did the pattern shift, and only in the last year has the United States officially become the world's largest debtor.
This official calculation is overly pessimistic because it values direct investments at their original cost rather than at today's market values. Since American direct investments have been made over the past several decades, while foreign direct investments are relatively new, the value of net U.S. assets abroad is substantially understated.
Again, there is an important distinction between passive ownership of stocks and bonds that implies no direct control and direct ownership of properties and businesses. While foreign purchases of U.S. bonds and stocks have made us a net borrower, the annual flow of U.S. direct investment abroad is approximately equal to the inflow from other countries. Of course, the value of the accumulated stock of U.S. investment abroad is much greater than the value of foreign investments here -- and is in fact greatly underestimated. Official statistics carry these investments at book value, so the actual value of U.S. investments abroad is much, much greater than what appears in the official accounts. A more illuminating figure is U.S. earnings on investments abroad, which are four times as great as foreign earnings on direct investments here.Martin Feldstein was chairman of the Council of Economic Advisers. Kathleen Feldstein is an economist.