The Reinvestment of Multinationals as a Capital Flow: Crises, Imbalances and the Cash-Based Current Account
35 Pages Posted: 17 Jul 2015 Last revised: 18 Nov 2021
Date Written: October 12, 2021
Abstract
When the affiliate of a foreign corporation saves a dollar of its profits, the host country records
it as an inflow of retained earnings foreign direct investment (REFDI). If invested, this dollar
arithmetically generates a current account deficit, even though cash does not cross borders.
This study explores the empirical macroeconomic of REFDI, which globally comprises half of
FDI inflows. Using international capital flows (1980–2018), we show that REFDI behaves like
national savings in its procyclicality. Unpacking FDI in the analysis also makes a difference in
the investment cycle. Moreover, we decompose the long-run saving-to-investment correlation,
finding a role for REFDI in the Feldstein-Horioka puzzle. Adjusting the current account for
REFDI matters since REFDI lowers the probability of macroeconomic crises and sudden stops.
Overall, REFDI is stronger in countries receiving more FDI and it was also strong during the
recent commodity boom. We are not challenging that the balance of payments works on nationality
and accrual bases. However, our results suggest that the external balance assessment of
countries should adjust for REFDI because it tends to have a different propensity to be invested
and to build up vulnerabilities.
Note: First version December 2014.
Keywords: Foreign Direct Investment, External Balance, Corporate Saving, Global Imbalance, Repatriation Tax, TCJA
JEL Classification: F32, F21, F38, F41, G3
Suggested Citation: Suggested Citation