Daniel J. Ikenson October 30, 2013

Transcription

1 Daniel J. Ikenson October 30, 2013 Daniel J. Ikenson is an economist and director of the Cato Institute s Herbert A. Stiefel Center for Trade Policy Studies. This report was completed for the Organization for International Investment. The views expressed in this report are those of the author.

2 Investment is essential to economic growth and higher living standards. The U.S. economy, positioned as it is at the technological frontier and atop the global value chain, requires a continuous flow of fresh capital to replenish the machinery, software, laboratories, research centers, and high-end manufacturing facilities that harness our human capital, animate new ideas, and create wealth. Over the years, foreign companies have satisfied an important part of those investment requirements, bringing industry best practices and novel ideas, and creating synergies by establishing new enterprises and, especially, by acquiring existing U.S. firms. With the world s largest consumer market, a reasonably transparent business environment, a productive workforce, an innovative culture, and deep and broad capital markets to facilitate commerce, the United States has enormous advantages in the emerging global competition to attract and retain the world s best companies. Indeed, no other single-country economy attracts more foreign direct investment than the United States. According to the most recent data, the stock of inward FDI in the United States stands at $2.65 trillion. 1 Over the past decade, annual inflows of FDI have averaged about $178 billion, the large majority of which has come in the form of cross-border acquisitions of U.S. firms by foreign companies. 2 These U.S. affiliates of foreign-owned companies best understood as insourcing companies have punched well above their weight, contributing disproportionately to U.S. output, compensation, capital investment, productivity, exports, research and development spending, and other activities associated with per capita economic growth. Even though insourcing companies represent less than 0.5 percent of all U.S. companies with payrolls, collectively they account for 5.9 percent of private-sector value added; 5.4 percent of all private-sector employment; 13.0 percent of U.S. private-sector employee benefits; 11.7 percent of new privatesector, non-residential capital investment, and; 15.2 percent of private-sector research and development spending. According to the most recent data, they paid 13.8 percent of all corporate taxes; earned 48.7 percent greater revenues from their fixed capital than the private sector average, and; compensated their workers at a premium of 22.0 percent above the U.S. private-sector average. As significant as these direct contributions are, they provide only a partial picture of the impact of insourcing companies on the economy. The full picture must take into account the related economic activity that is spurred upstream of these companies with their suppliers, vendors, and intermediate goods providers, as well as the activity generated downstream through the spending of their employees. It must also take into consideration the effects of these companies on the U.S. economy over time through the reactions of domestic competitors, technology spillovers, the hybridization and evolution of ideas, labor market effects, and other channels. One can only wonder whether the 1 Bureau of Economic Analysis. 2 BEA. Average annual FDI inflows were $177.9 billion in the 10 years between 2003 and

3 U.S.-headquartered automobile companies would still be producing the likes of the Ford Pinto, the AMC Pacer, and the Chrysler K-Car had foreign nameplate producers not invested in the United States in the early 1980s and helped reinvigorate an industry that had fallen asleep at the wheel. There is little doubt that this competition inspired U.S. incumbent firms to improve the quality of their product offerings or that the subsequent technology sharing in the auto industry has benefitted producers and consumers alike. No wonder there is growing bipartisan support in Washington and around the country for policies that will help attract more of these insourcing companies to U.S. shores. While there is widespread concurrence among business leaders, economists and policymakers about these and other benefits of greenfield investment (the establishment of brand new operations in the United States), people are sometimes a bit more tentative when it comes to recognizing that foreign acquisitions of U.S. companies also deliver great benefits to U.S. workers, producers, and consumers in the immediate and related industries. Given that mergers and acquisitions of U.S companies are the primary channel through which foreign direct investment enters the United States, it is worth understanding better how the benefits of these kinds of transactions are manifest in U.S. GDP growth, employment, worker compensation, productivity, research and development spending, capital investment, tax revenues and other metrics. The main purpose of this paper is to demonstrate the myriad ways in which insourcing companies are immensely beneficial to the U.S. economy, and to show why policymakers are abuzz about finding ways to attract more of them to U.S. shores. It does so by presenting various analyses of the performance of insourcing companies over time, and relative to purely domestic firms and the broader economy. What the data show is that insourcing companies tend to raise industry-wide performance because of their direct contributions, but also because that higher level of performance inspires incumbent domestic firms to raise their own games. 3

4 According to the most recent data from the Bureau of Economic Analysis, the stock of foreign direct investment in the United States amounts to $2.65 trillion. 3 Nearly 86 percent of that investment is held by European, Canadian, and Japanese investors, who have owned the overwhelming majority of the U.S. FDI stock for many years. With a stock of $899 billion slightly over one-third of the total the U.S. manufacturing sector accounts for the largest share of inward FDI. Finance and insurance ($366 billion), wholesale trade ($292 billion), and the depository institutions ($198 billion) are the next three largest destinations, accounting collectively for about another third of the total stock. The remaining third is spread across other sectors, including information industries, professional services, mining, utilities, retail trade, accommodation and food services, transportation and warehousing, and construction. 3 Bureau of Economic Analysis. This figure is the historical cost value of direct investment at the end of The market value at the end of 2012 was $3.9 trillion. Historical cost data are used throughout the analysis because those are the only values for which the BEA provides detailed information, such as industry destination and country of ownership. 4

5 Foreign direct investment enters the United States through different channels, but the most common are acquisitions of U.S. companies or divisions by foreign companies, establishment of new businesses in the United States by foreigners ( greenfield investment), and expansion of existing foreign-owned companies through acquisition of other U.S. companies. 4 As Charts 3 and 4 on the following page indicate, mergers and acquisitions have accounted for the lion s share of FDI inflows for at least the past couple of decades. However, M&A s share dropped precipitously in 2009 likely because the financial crisis and recession created greater uncertainty and risk aversion and has only climbed back part of the way through From 1992 through 2008, M&A accounted for 90 percent of U.S. FDI inflows, but dropped to 35 percent in 2009 before increasing to 57 percent in 2010 and then rising to 70 percent in Even with the recent declines, for the full period 1992 through 2011, M&A still accounted for a whopping 84 percent of U.S. FDI inflows. Whether by establishing new or acquiring existing business, foreign direct investment aligns the business interests of insourcing companies with the economic interests of the United States. 4 FDI inflows also include receipt of new equity from parent companies as well as profits retained by U.S. affiliates. 5 Charts 3 and 4 were derived from data in Thomas Anderson, Foreign Direct Investment in the United States: New Investment in 2008, Bureau of Economic Analysis, Survey of Current Business, June The series upon which this report was based was discontinued after this report. Subsequent data differentiating M&A from greenfield investment from the United Nations Conference on Trade and Development (UNCTAD) publication, World Investment Report 2012, show a sharp decline in M&A in 2009 followed by small increases in 2010 and

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8 Between 2000 and 2009, there were 8,021 acquisitions of U.S. companies by foreign companies, with one-third occurring in the manufacturing sector. 6 On a value of transaction basis, however, the manufacturing sector accounted for two-thirds, indicating that, on average, manufacturing sector acquisitions were double the value of non-manufacturing sector transactions. 7 Indeed, as Table 1 demonstrates, fifteen of the top twenty largest transactions by value between 2000 and 2009 were in the manufacturing sector in industries from paper, beverage, and food manufacturing to chemical, medical equipment, and semiconductor production. As is the case with respect to the stock of U.S. inward investment, the overwhelming majority of investment transactions involved European, Canadian, and Japanese buyers. In recent years there has been growth in acquisitions from some developing countries, but those transactions remain small in number and as a share of total inward investment. 8 6 FactSet MergerStat, LLC, Merger Stat database. 7 FactSet MergerStat, LLC, Merger Stat database. 8 There has been a spate of acquisitions and proposed acquisitions of U.S. companies by Chinese suitors since According to the BEA data, the stock of Chinese FDI in the United States as of the end 2012 was just over $10 billion. However, a more recent accounting by the Rhodium group ( puts that figure at about $25 billion, which includes deals in the pipeline that might not yet have been consummated. In any event, China s share of the $2.65 trillion of U.S. FDI stock is no more than 1 percent of the total. 8

9 The majority of U.S. inward foreign direct investment comes via cross-border mergers and acquisitions. Overwhelmingly, the acquiring foreign companies have headquarters in Europe, Canada, or Japan. Usually, these insourcing companies are world class operations, having succeeded first in their home markets, then in global markets, rising to the tops of their respective industries through highly competitive selection processes. The unique and often more daunting impediments to operating successfully in foreign markets relative to domestic markets require closer scrutiny and better understanding of the risks and rewards, and a deeper commitment to long-term goals, which, in turn, increases the likelihood of positive outcomes. Insourcing companies foreign investment decisions are not made whimsically but, instead, are products of competitive analysis, risk analysis, deliberation, and due diligence. When the decision is made to execute an acquisition, all expectations are that the company will do what it takes to succeed by exploiting its comparative advantages, attracting the best available workers, committing for the long term, deploying industry best practices, and being responsible corporate citizens. Insourcing companies have long been important pillars in the U.S. economy. They raise average economic performance, as measured by output, revenues, capital investment, research and development expenditures, and a multitude of other performance metrics. Their value-added activities spur residual and complementary commercial activities. Their higher-than-average employee wages, benefits, and profit-sharing contributions, along with the infusion of new skills and know-how, increase the returns to U.S. workers. They are reliable commercial and industrial anchors demonstrably committed to the U.S. economy, making large capital investments, reinvesting earnings in U.S. operations, expanding relationships with domestic intermediate goods suppliers, and conducting increasing amounts of research and development in the United States. Welcoming and encouraging these companies to operate in the United States will only improve the U.S. economic gene pool. In a recent White House speech about investment, President Obama said: Inbound investment has long been an important component of our overall economy. Today, United States subsidiaries of foreign-domiciled companies employ more than 5 million Americans and provide above-average compensation. These companies invest in innovation here in the United States, spending over $40 billion each year on research and development. And in many cases the goods and services produced here are sold around the world 9 The foreign companies that establish operations in the United States are, in effect, conduits for international best practices. The direct and residual effects of their participation in the U.S. economy are highly beneficial, not only to their own workers and shareholders, but to domestic competitors, 9 President Barack Obama, Statement by the President on United States: Commitment to Open Investment Policy, June 20, 2011, White House, Office of the Press Secretary. 9

10 consumers, entities up and down their supply chains, and the overall economy more broadly. According to a report from the Organization of Economic Cooperation and Development (OECD): Technology spillovers are perhaps the most widely discussed potential benefit from inward FDI. Although developing countries are expected to be the chief beneficiaries of such spillovers, it could be argued that developed countries are better placed to benefit because the knowledge gap between the investor and local firms is likely to be less among OECD countries. The technology transferred should be interpreted in a broad sense to include not only the proprietary technologies but also know-how, management techniques and other areas where the investor has a competitive advantage such as distribution and logistic. 10 Insourcing companies, who as a group account for less than 0.5 percent of the firms operating in the United States, punch well above their weight with respect to their contributions to U.S. output, compensation, capital investment, productivity, research and development activities, purchasing from other U.S. businesses, federal tax collections, and other crucial economic indicators. 11 The data indicate that the typical insourcing company possesses what could be described as five virtuous characteristics. Insourcing companies are big performers with penchants for success: their operations help lift aggregate U.S. economic performance. According to the most recent data, they account for: 5.9% of U.S. GDP % of U.S. sales revenue 16.6% of the cost of goods sold % of U.S. exports Insourcing companies benefit U.S. workers: their operations create higher quality jobs at higher compensation, which influences compensation and the general workplace environment economywide. They account for: 5.4% of U.S. private-sector employment Organization for Economic Cooperation and Development, International Investment Perspectives: 2007 Edition, p. 69, OECD, Insourcing companies accounted for 30,000 of more than 6,000,000 U.S. businesses with payrolls, according to the IRS. 12 The denominator in this calculation is private sector value added, net of value added in private households, imputed rental income from owner-occupied housing, and business transfer payments. This methodology is consistent with BEA practice, as done in: Thomas Anderson, U.S. Affiliates of Foreign Companies: Operations in 2010, Table 1, Bureau of Economic Analysis, August Cost of Goods Sold captures the direct costs labor, materials, and direct overhead attributable to the production of goods sold by a company. The COGS figure is for 2009, as that is the most recent year available for the IRS-sourced metrics used in this analysis. 14 The denominator in this calculation is the BEA s figure for full-time equivalent employees (FTE), which was 100,594,000 in

11 22.0% higher compensation per worker than the U.S. average 13.0% of U.S. private-sector employee benefits % of U.S. private-sector pension and profit sharing expenditures 16 Insourcing companies are committed to long term success in the United States: their operations serve as community and regional commercial anchors that support economic growth. They account for: 9.3% of private-sector, non-residential capital investment 11.7% of new private-sector, non-residential capital investment $54.9 billion of reinvested corporate earnings 15.2% of private-sector research and development expenditures 20.3% of all U.S. private sector purchases of intermediate goods, which amounted to $1.9 trillion worth of purchases from U.S. suppliers or $0.79 of every dollar spent by insourcing companies on intermediate goods. Insourcing companies are paragons of industry best practices: their operations disseminate industry and institutional knowledge, new techniques and technologies, and the benefits of experience to their U.S. workers and, ultimately, throughout the U.S. economy. They account for: 9.2% greater value-added per worker than the private-sector average 156% greater sales revenue per worker 48.7% greater returns on fixed capital 72.5% greater capital intensity (capital per worker) Insourcing companies are good corporate citizens: their operations expand the U.S. tax base, improve the average corporate environmental profile, and generate significant charitable contributions. They account for: 11.8% of all taxable corporate income % of all corporate taxes paid % higher effective income tax rates than the U.S. private-sector average % of all private sector charitable contributions The employee benefits figure is for 2009, as that is the most recent year available for the IRS-sourced metrics used in this analysis. 16 The pension and profit sharing figure is for 2009, as that is the most recent year available for the IRS-sourced metrics used in this analysis. 17 The taxable income figure is for 2009, as that is the most recent year available for the IRS-sourced metrics used in this analysis. 18 The taxes paid figure is for 2009, as that is the most recent year available for the IRS-sourced metrics used in this analysis. 19 The effective tax rates figure is for 2009, as that is the most recent year available for the IRS-sourced metrics used in this analysis. 20 The private sector charitable giving figure is for 2009, as that is the most recent year available for the IRS-sourced metrics used in this analysis. 11

12 These direct contributions as significant as they are understate the full impact of insourcing companies on the U.S economy. The full impact must take into consideration the economic activity spurred by these direct contributions of insourcing companies which, among other effects, includes an increase in commercial transactions with upstream suppliers, vendors, and intermediate goods providers, as well as the business generated downstream through the spending of their employees. Of course there are other short term effects, such as those generated by the reactions of other firms in the industry and in the industry s supply chain. In the longer run, other positive adjustments take place that can be attributed at least in part to the initial appearance and participation of an insourcing company. As described by the Council of Economic Advisers: Economic research shows that the benefits of foreign investment are even greater than these measures indicate. When foreign subsidiaries use advanced technologies and effective management to achieve high levels of productivity in their U.S. operations, the benefits can spill over to their American competitors (Keller and Yeaple 2009). As U.S. firms increasingly interact in their home market with highly productive foreign subsidiaries, the U.S. firms may be able to learn from their competitors strengths. Keller and Yeaple find that 14 percent of the aggregate productivity growth between 1987 and 1996 (a period of rapidly rising FDI in the United States) resulted from FDI-related productivity spillovers. These spillovers were particularly valuable for small firms, which do not routinely encounter these competitors in markets outside the United States. One reason proximity matters is that employees who move from foreign firms to domestic firms are often an important conduit through which knowledge diffuses from foreign to domestic firms (Poole forthcoming). 21 Recent estimates of the immediate supply chain and paycheck effects (transactions between the insourcing companies and their vendors and the insourcing companies employees and the places where they spend their paychecks) were published last year in a study by PricewaterhouseCoopers. 22 PwC found that for every one job at an insourcing company, there are three U.S. jobs attributable to these supply chain and paycheck effects; for every dollar paid in employee compensation, there are another two dollars in compensation generated, and; for every dollar in value added at insourcing companies, there is $2.40 more generated through these effects. Insourcing companies account for $661 billion in value added, which is 5.9 percent of the privatesector total. Applying PwC s multiplier to this figure produces the estimate that insourcing companies directly and indirectly account for over $2.2 trillion in value added (about 15 percent of GDP) Economic Report of the President, Council of Economic Advisers, Chapter PricewaterhouseCoopers, LLP, Economic Impact of U.S. Subsidiaries, A White Paper prepared for the Organization for International Investment. 12

13 Insourcing companies employ 5.6 million workers in the United States. 23 After applying PwC s multiplier of three related supply chain and paycheck jobs for every one at insourcing companies, the total amount of employment attributable to insourcing companies is 22.4 million, or one out of every five U.S. private sector full time jobs. And since every dollar of compensation at insourcing companies was found to produce two more dollars of compensation through supply chain and paycheck effects, insourcing companies account for over $1.2 trillion in compensation, which is nearly 20 percent of private-sector compensation. Insourcing companies are a self-selected group of higher-than-average performers, which tend to possess highly desirable characteristics. They are usually experienced companies that have enjoyed success in their home markets; they know how to motivate and empower their human capital; they demonstrate patience and commitment to long term goals; they have industry and institutional knowledge to share, and; they recognize the importance to success of civic-mindedness, corporate responsibility, and relationship building in the communities in which they operate. A review of the performance of these companies over time supports and amplifies these characterizations. While much information can be gleaned from observing the performance and contributions of insourcing companies at a specific point in time, a comprehensive assessment of their significance and impact requires an analysis of performance over time. If foreign direct investment, cross-border mergers and acquisitions, and their ultimate manifestations as insourcing companies are going to be deemed net positives for the U.S. economy, then their performance over time, their impact on the performance of other companies in the industry or sector, and the effects they have on aggregate economic indicators should be generally positive. On the next several pages, a more detailed assessment of the performance of insourcing companies is conducted. More than 20 different metrics are considered, in a variety of ways, as part of that assessment. Most of the analysis is based on the performance of all insourcing companies as a group, over time and relative to U.S. private sector performance. But, in light of the significant and growing presence of insourcing companies in the U.S. manufacturing sector, which accounted for one-third of cross-border mergers and acquisitions last decade and is home to more than one-third of the total stock of foreign direct investment in the United States ($899 billion), it is instructive to devote some attention to the performance of insourcing companies in that sector, as well. The four charts on the next two pages provide bird s eye views of the performance of all insourcing companies over time and relative to the U.S. economy, as well as the performance of insourcing manufacturers relative to the U.S. manufacturing sector. Real change from 2001 to 2010 in the metrics considered throughout the paper is depicted in the horizontal bars. 23 This figure reflects the BEA s preliminary 2011 statistics. 13

14 Chart 5 shows the percentage changes in the values of selected metrics, after adjusting for inflation between 2001 and A quick glance reveals that insourcing companies have made real advances in many of the metrics that reflect on their performance and operations since

15 Chart 6 includes the percentage changes for the economy-wide metrics for comparison. A closer look reveals that, while there has been real growth in economy-wide performance, too, insourcing companies appear to have advanced at a stronger pace on most metrics over the decade. 15

16 Chart 7 shows the percentage changes in the values of selected metrics for manufacturing affiliates, after adjusting for inflation between 2001 and Insourcing manufacturers and as a result, their workers, communities, and the economy performed well over the decade. 16

17 For comparison, Chart 8 adds in the percentage changes for manufacturing sector-wide metrics. A closer look reveals that, while there has been real growth in economy-wide performance, too, insourcing companies appear to have advanced at a stronger pace on most metrics over the decade. 17

18 Over the past decade, insourcing companies increased their U.S. output (as measured by value added) from $434 billion to $661 billion, an increase of 25.2 percent in real terms, which was 76 percent better than the U.S. private sector increase over the decade. Sales revenue growth of 14.5 percent for insourcing companies over the decade outpaced the private sector average, causing the share of revenues attributable to insourcing firms to rise to almost 14 percent. Faster than average value added and sales revenue growth at insourcing companies indicates that these companies are raising GDP and spurring more economic activity than would be the case in their absence. Insourcing manufacturers achieved a nearly 50 increase in value added over the decade, which was nearly triple the rate of growth experienced in the manufacturing sector overall. Growing by 51 percent in real terms over the decade, the nearly $1.3 trillion in sales receipts of insourcing manufacturers accounted for more than one quarter of the overall sector s most recent annual sales. Insourcing manufacturers increased their exports from the United States by 55 percent over the decade. 18

19 Between 2001 and 2010 (the most recent data), insourcing companies increased their U.S. output (as measured by value added) from $434 billion to $661 billion. In real terms, that was an increase of 25.2 percent, which exceeded the overall U.S. private sector increase of 14.3 percent over the decade. In the process, insourcing companies became more significant contributors to U.S. GDP, increasing their share of U.S. private sector value added from 5.4 percent in 2001 to 5.9 percent in Likewise, over the period, insourcing companies sales revenues increased by 14.5 percent in real terms, reaching $3.1 trillion in That rate of growth was 2.5 percentage points better than the U.S. private sector average, which resulted in the share of U.S. sales revenues attributable to insourcing companies increasing to 13.8 percent. When value added and sales revenues grow faster for insourcing companies than for the economy as a whole, those companies are raising GDP, spurring more economic activity, and creating more downstream and upstream business than would be the case in their absence or if they had performed at the U.S. private sector average. Further evidence that insourcing companies have created greater opportunities for U.S. suppliers and vendors can be gleaned from the Cost of Goods Sold data. The COGS figures capture the direct costs labor, materials, and direct overhead attributable to the production of the goods or services sold by a company. Whereas sales revenues speak to the success of the companies, the COGS figures convey information about the distribution of those revenues between shareholders, workers, other factors of production, and other businesses in the supply chain. Higher revenues could be a function of either higher prices or more sales (since total revenue equals price multiplied by quantity sold), the latter of which is more beneficial to employees and providers of intermediate goods because greater output requires more input, which means more opportunities for suppliers of inputs and greater returns to workers. The cost of goods sold by insourcing companies increased from $1.6 trillion to $2.2 trillion over the period, which was an increase in real terms of 12.6 percent. That compares quite favorably to the 0.1 percent rate of real growth in this metric experienced by the U.S. private sector overall. As a result of these disparate rates of growth, insourcing companies increased their share of U.S. private sector costs of goods sold from 14.7 percent to 16.6 over the decade. Moreover, while the difference between sales revenues and COGS (an approximation of operating profits) for insourcing companies grew by 19.3 percent over the period, that difference increased by 35.1 percent for the U.S. private sector overall, suggesting that insourcing companies are increasingly more likely to share their bounty with workers and other businesses in the supply chain. Although foreign corporations acquire U.S. firms and become insourcing companies primarily to better serve the U.S. market, many take advantage of the fact that the United States offers huge advantages as an export platform, particularly to markets in the Western hemisphere. Over the decade, the exports of insourcing companies increased from $145 billion to $240 billion annually, to account for 18.8 percent of all exports, which was a real increase of 35.5 percent. 19

20 That rate of growth impressive as it was trailed the U.S. private sector growth rate, which was 43.6 percent in real terms. Of course, many U.S. companies have become more successful exporters over the years, as more and more once-anemic economies around the world have come online, posting stronger economic growth than the United States, and as the U.S. dollar weakened against other nations currencies. But one important reason that U.S. private-sector export growth exceeded rates experienced by insourcing companies is that there are some disparities between the industries represented by insourcing companies and the industries in the U.S economy that engage in exporting activities. For example, the data indicate that insourcing companies do not export agricultural and livestock products from the United States, which happened to be one of the fastest growth sectors for U.S. exports over the period examined. U.S. exports of agricultural and livestock products increased by 83 percent in real terms, reaching $68 billion by the end of the period, but no such exports were registered to insourcing companies. Accordingly, if we subtract these exports from the total U.S export value to achieve more of an applesto-apples comparison, the rate of growth of economy-wide exports declines to 35.9 percent (virtually the same rate of growth experienced by insourcing companies), and the share of U.S. exports attributable to insourcing companies in 2010 increases to 19.8 percent (as compared to 19.9 percent in 2001). Moreover, there are a few other categories of exports where insourcing companies have no presence, such as exports of used or second-hand merchandise ($8.3 billion in 2010) and waste and scrap ($29.5 billion in 2010). Subtracting these categories from total U.S. exports reduces the economy-wide rate of growth to 31.6 percent (versus 35.5 percent for insourcing companies) and increases the share of exports attributable to insourcing companies in 2010 to 20.5 percent. With respect to these performance metrics, the relative importance of insourcing companies to U.S. manufacturing is even more pronounced. The rate of value added growth for insourcing manufacturers over the period was 49.5 percent almost triple the rate of growth experienced in the sector overall. To put it another way, without the $111 billion increase in value added ($103 billion in real terms) by insourcing manufacturers over the period, U.S. manufacturing sector growth would have been more than six full percentage points lower than the 16.7 percent increase experienced. 24 With nearly $1.3 trillion in receipts, insourcing manufacturers account for more than one quarter (26.5%) of all U.S. manufacturing sector sales, up from 21 percent in That gain in share is attributable to a real increase in sales of 51.1 percent for insourcing manufacturers, as compared to 19.8 percent for the U.S. manufacturing sector overall. Exports from insourcing manufacturers increased from $90 billion to $145 billion over the period, which was a strong real increase of 55.5 percent. Even so, the U.S. manufacturing sector, overall, experienced a real increase over the period of 60.9 percent. According to the trade data, there was a surge in exports of aircraft and other goods from other manufacturing industries in which the participation of insourcing companies is limited. Nevertheless, the most recent data show that 24 This conclusion is reached by subtracting manufacturing insourcers real value added from overall U.S. manufacturing value added for both 2010 and 2001, and recalculating the change for the latter. Instead of growing by 16.7%, value added would have grown by 11.3%. 20

21 insourcing manufacturers account for 13.2 percent of U.S. manufacturing exports. In 2010, U.S exports included $72 billion in sales of civilian aircraft, engines, and parts. Non-automobile transportation equipment exports from insourcing companies amounted to $7 billion, some fraction of which may have been airplane parts. If we exclude the civil aircraft sector from the analysis, the rates of growth converge: exports from the U.S manufacturing sector overall increased by 48.8 percent and exports from insourcing manufacturers grew by 47.6 percent to account for 13.5 percent of total manufacturing exports. For all of the ongoing concern among policymakers and the media about the state of U.S. manufacturing, it is worth noting the significant role being played by insourcing companies to help ensure that U.S. manufacturing not only survives, but continues to thrive. The participation of insourcing companies throughout the economy, and in particular in the manufacturing sector, has raised average U.S. performance and produced spillover benefits for other economic sectors. 21

22 Average per worker compensation of $76,458 at insourcing companies is 22 percent higher than the U.S. private sector overall a slightly higher premium than existed in Expenditures on employee benefits and on pensions and profit-sharing programs at insourcing companies increased by 34.4 percent and 92.2 percent in real terms, respectively, over the decade. Today, pension and profit sharing expenditures per worker at insourcing companies are 125 percent greater than the U.S. private sector average. Insourcing manufacturers are more generous with their workers than is the case for the average U.S. manufacturing sector company. With a job attrition rate of less than half the U.S. manufacturing sector average, insourcing manufacturers have helped put the brakes on sector-wide job loss. Without the participation of insourcing companies, U.S. manufacturing job attrition over the period would have been nearly 10 percent higher. 22

23 The direct participation of U.S. affiliates of foreign-headquartered companies in the United States as manufacturers, wholesalers, retailers, information sector firms, and hotel operators contributes meaningfully to the quality and value of U.S. output. But this dynamic is particularly beneficial to U.S. workers. When companies intent on succeeding enter new markets, they want to attract, train, and retain the best workers they can find. Offering better compensation and more generous benefits is a proven strategy to allure the best labor resources, and that tends to have ripple effects through labor markets and the economy. As Table 4 reveals, that seems to be the approach many insourcing companies are taking to their labor resources throughout the U.S. economy. Average per worker compensation of $76,458 at insourcing companies is 22 percent higher than the U.S. private sector overall a slightly higher premium than existed in Part of this differential is attributable to the fact that insourcing companies tend to offer more higher-skilled and thus, higher-paying jobs. But for comparable jobs in comparable industries, the premium is likely attributable to the desire to attract the best workers. Expenditures on employee benefits and on pensions and profit-sharing programs at insourcing companies increased by 34.4 percent and 92.2 percent in real terms, respectively, over the decade. By comparison, the private sector average increases were a smaller 13.8 percent and 61.7 percent, respectively. On a per worker basis, the differentials are significantly more compelling. In 2001, per worker expenditures on benefits at insourcing companies amounted to $4,707, which was exactly double the $2,356 per worker offered in the U.S. private sector. After growing by 43 percent in real terms over the decade, per worker expenditures on benefits at insourcing companies reached $8,074, which is 141 percent greater than the private sector per worker average of $3,343. Per worker expenditures on pensions and profit sharing programs at insourcing companies, which, at $1,517, were already 85 percent higher than the private sector average of $820 in 2001, increased by 104 percent in real terms to $3,720 by the end of the decade. The private sector average over this period increased at a slower real rate of 68 percent, from $820 to $1,653 per worker. Today, pension and profit sharing expenditures per worker at insourcing companies are 125 percent greater than the U.S. private sector average. The story with respect to worker-friendly metrics is similar in the manufacturing sector. Insourcing manufacturers are more generous with their workers than is the case for the average U.S. manufacturing sector company. In real terms, average compensation grew by 12 percent at insourcing manufacturers, which increased their share of manufacturing sector compensation to nearly one-fifth of the $859 billion total. Part of the increase in share is attributable to the fact that real compensation declined for the overall manufacturing sector by 5.5 percent. The real rates of growth experienced at insourcing manufacturers, for both employee benefits and pension/profit sharing expenditures, exceeded the U.S. manufacturing sector averages, and today they account for nearly one-fifth and 17.4 percent of sector-wide totals, respectively. 23

24 While insourcing manufacturers pay their workers at a 9.8 percent premium to the sector-wide average today, the premium had been 15 percent in The decline has a perverse explanation. Real growth of 35.6 percent in compensation per worker sector-wide exceeded the 29.5 percent increase experienced at insourcing manufacturers even though their compensation growth was stronger in fact, sector-wide, the real value declined by 5.5 percent. The reason for the sector-wide increase in compensation per worker is that employment, sector-wide, declined by nearly 5 million jobs. Thus, when the rate of compensation decline (5.5%) is not as steep as the rate of employment decline (30.5%), having even fewer workers among whom to spread less compensation means that compensation per worker rises. Much has been made of the decline in U.S. manufacturing employment over the past decade and, indeed, there are now nearly 5 million fewer jobs in the manufacturing sector than in With a job attrition rate of less than half the U.S. manufacturing sector average, insourcing manufacturers have helped put the brakes on sector-wide job loss. Without the participation of insourcing companies, U.S. manufacturing job attrition over the period would have been nearly 10 percent higher Calculated by subtracting insourcing manufacturers employment from manufacturing employment in 2001 and 2010, recalculating the change over the period, and comparing that change to the base.. 24

25 Capital expenditures of insourcing companies grew in real terms by 4.3 percent over the period to $156 billion, which compares favorably to the overall private sector decline of 9.5 percent. Insourcing companies purchases of domestic intermediate goods increased by 8.1 percent in real terms, reaching $1.9 trillion or 20.3 percent of all U.S. intermediate goods purchases. Insourcing companies 31.5 percent rate of real R&D expenditure growth over the period was considerably higher than the 15.5 percent rate experienced in the overall private sector. Insourcing manufacturers account for a whopping 32.6 percent and 36.2 percent of the manufacturing sector s PPE stock and new expenditures, respectively. Insourcing manufacturers increased their purchases of local intermediate inputs by 48.1 percent in real terms over the decade, raising their share of the U.S. manufacturing sector s domestic intermediate inputs purchases by over six percentage points to 27 percent. For U.S. manufacturers overall, the real increase in such spending over the period was just 13.4 percent. 25

26 The emphasis on winning the good will of employees and properly motivating the labor resources at insourcing companies may be matched by a similar high-priority commitment to establishing, broadening, and deepening their commercial relationships in and physical ties to the United States. According to an analysis of foreign direct investment undertaken by McKinsey: In contrast to cross-border lending, which can dry up quickly, FDI has consistently proven to be the least volatile type of capital flow in emerging markets and developed countries alike. This reflects the long-term nature of such investment Companies do not undertake the decision to expand overseas lightly, and they typically make such commitments as part of a longer-term, multiyear strategy. 26 Insourcing companies tend to be deeply committed to their U.S operations. The fixed capital stock (property, plant, and equipment) owned by insourcing companies increased from $1 trillion to nearly $1.6 trillion over the decade, which was a 27.1 percent increase in real terms. Meanwhile, new PPE expenditures of insourcing companies increased by 4.3 percent in real terms to $156 billion, which compares favorably to the real decline of 9.5 percent in overall private sector spending on PPE. While insourcing companies account for 9.3 percent of total U.S private sector PPE stock and 11.7 percent of new PPE expenditures, their share of total capital expenditures is much more pronounced in the manufacturing sector. Insourcing manufacturers account for 32.6 percent and 36.2 percent of the manufacturing sector s PPE stock and new expenditures, respectively. In real terms, the stock held by insourcing manufacturers increased by 45.3 percent over the period, while the rate of growth for U.S. manufacturing overall was 18.1 percent. While new PPE expenditures at insourcing manufacturers experienced a real increase of 13.8 percent over the period, the sector overall endured a real decline of 15.8 percent. Insourcing companies have made significant contributions to the U.S. manufacturing sector and the economy overall. This commitment to producing in the United States now and into the future should be embraced by Americans, particularly in light of the slowing pace of capital investment in the manufacturing sector overall. A lack of adequate investment in production facilities and capital equipment mean that tomorrow s output, wealth creation, and living standards will suffer. Evidence of the commitment of these companies to the United States can be found in other metrics as well. One such metric is earnings reinvested in U.S. operations, which have reached between $50 and $100 billion over the past few years. Moreover, in a survey of the literature about the various effects of foreign direct investment, the OECD had this assessment about the impact of FDI on commercial relationships with local firms: It is possible to argue that spillovers might be greater under M&As since the investor inherits an existing set of local suppliers. This possibility presupposes that local firms are able to meet the more stringent requirements of the new owner. While in many cases 26 Susan Lund, et. al,. Financial Globalization: Retreat or Reset? Global Capital Markets 2013, McKinsey Global Institute, March

27 in the long run, greenfield investors should build up a similar network over time, some studies have found that the greater spillovers from mergers persist over time. Concerning vertical spillovers, Andersson et al. (1996) find that greenfield investors continue to import more intermediate inputs from their home country than do local firms which have been acquired by foreigners. 27 Regardless of whether the products of greenfield investment or mergers and acquisitions, insourcing companies in the United States have overwhelmingly purchased their intermediate inputs from domestic sources. Over the course of the last decade they have devoted $0.77 to $0.79 of every dollar spent on intermediate inputs to domestic suppliers. Put differently, for every $1.00 spent on imported intermediate inputs, insourcing companies spend $4.00 on domestic inputs. In the most recent year, insourcing companies spent $1.9 trillion on domestic intermediate inputs, which was more than 20 percent of all private-sector spending on intermediates and an 8.1 percent increase in real terms over such spending in In the manufacturing sector where imported intermediate goods are much more accessible than they are in most other sectors spending by insourcing companies on domestic inputs is large and growing. Insourcing manufacturers increased their purchases of local intermediate inputs by 48.1 percent in real terms over the decade, raising their share of the U.S. manufacturing sector s domestic intermediate inputs purchases by over six percentage points to 27 percent. For U.S. manufacturers overall, the real increase in such spending over the period was just 13.4 percent. The data suggest that insourcing companies are not only large and growing customers of U.S. intermediate goods suppliers, but that they are also performing, on average, higher value-added activities in the United States than the average company. This is evidenced, not only by the 22 percent per-worker compensation premium offered by insourcing companies, but by their reported research and development expenditures, as well. Research and development activities are among the highest value-added functions at most companies and, according to the data on R&D expenditures, insourcing companies play a prominent and growing role in this area. In 2001, insourcing companies invested $26.5 billion on research and development projects in the United States. In each successive year (with the exception of the Great Recession of 2008 and 2009, when the figure stagnated, but did not decline) the amount of resources devoted to R&D increased and now stands at $42.4 billion. The 31.5 percent rate of real R&D expenditure growth over the period was considerably higher than the 15.5 percent rate experienced in the overall private sector, which boosted the insourcing share of the U.S. private sector research and development total from 13.3 percent to 15.2 percent today. And $0.73 of every dollar invested by insourcing companies in research and development occurs in the manufacturing sector. 27 OECD, p

28 Over the last decade, value added per worker increased by 32.8 percent in real terms at insourcing companies, as compared to 18.5 percent for the private sector overall. After growing by nearly 22 percent over the decade, sales revenue per worker at insourcing companies are 156 percent greater than the economy-wide average. Insourcing companies deploy 73 percent more capital per worker and get 49 percent greater returns on their assets than the average private-sector company. With $359,638 worth of capital at each worker s disposal, insourcing manufacturers are 81.7 percent more capital intensive than the average U.S. manufacturing sector company. Insourcing manufacturers achieved a 73 percent increase in value added per worker, increasing its premium over the sector average to 6.7 percent. Per worker sales revenue is 47.7 percent greater at insourcing manufacturers than in the manufacturing sector overall. 28