1 See footnote at end of text.
A relatively high cost of capital burdens U.S. industry and banks alike. The effects of high capital costs on capital formation in the United States are hard to demonstrate, but are believed to be important, especially in research-intensive high technology industries. The inflow of foreign direct investment into the United States in the late 1970s and the 1980s fits with a cost-of-capital interpretation. Cost-of-capital differences assert themselves with particular force in competition in wholesale banking. How foreign banks will respond to the effect Of recession on the cash flows of U. S. corporations is important, because a high cost of capital has shrunk U.S. banks' market share.
IT IS EASY to come away from a reading of the growing body of work comparing capital costs across countries with a question as to the possible consequences. Pairs of analysts perform research on the subject as if the exertion requires a team in harness.(1) The teams seem to arrive at estimates of the cost of capital not just lathered but also winded by the long run of calculations.
Comparing cost of capital across countries elbowed its way onto economists' research agenda from the outside, as it were, from business. Most economists who work on cost of capital are tax experts whose faith in the equalization of all prices of interest across all markets is undisturbed by any attempt at measurements.(2) The convenient consequence of his faith is that tax wedges remain the only matter of interest.
The Semiconductor Industry Association commissioned a study in 1980 of capital costs in Japan and the United States. Concern over the ease with which Japanese firms were making the massive investments required for the next generation of chips motivated the investigation. Later, as the U.S. deficit in international trade widened, so did interest in cost of capital. The flaws of the Semiconductor Industry Association's report and a later pass on the subject by the Commerce Department(3) drew economists to the project. To this day, cost of capital comparisons get more attention at gatherings of the American Electronics Association than at gatherings of the American Economic Association.
WHY CAPITAL COSTS MATTER
Capital costs influence two kinds of investment. First, capital formation depends on capital costs, which may be thought of as setting the required payback period for investment projects. Capital costs also shape direct investment flows.
Capital Formation
Capital costs matter to the level of investment in an economy, and the level of investment per worker matters for the growth of productivity and therefore living standards. On the latter connection the evidence is fairly impressive: the strength of investment spending bids fair to explain cross-country differences in productivity.(4) On the connection between capital costs and investment, most macro-economists will readily admit that capital costs do not add much to a simple accelerator model of investment in explaining investment over time in a given country.(5)
The cost of capital as we measure it bears a striking relation to investment performance of the United States, Japan, Germany, and Britain (Charts 1 and 2).(6) The juxtaposition raises the question of whether it is fair to test the efficacy of cost of capital in the usual fashion. The time series evidence on investment from single countries is unsurprisingly dominated by the business cycle, which may obscure the effect of cost of capital.
The cost of capital advantage enjoyed by Germany and Japan arose from quite different sources. Germany's short-term and long-term interest rates were not all that different in real terms from those of the United States in the 1980s, but German corporations relied almost entirely on cheaper short-term debt. German companies got away with not paying the premium for long-term liabilities by virtue of closer links between industry and banks on the one hand and the strong commitment of the Bundesbank to price stability on the other hand. Corporate Germany, however, has not been well-served by this mix of debt since the breaching of the Berlin Wall. Japanese firms, by contrast, derived their advantage in the 1980s from the run-up of equity prices on the Tokyo exchange.
On its face, the rise in the share of Japan's domestic product devoted to investment, to 29 percent in 1989 from the low 20s, cannot be separated from the run-up in the Tokyo stock market. if the rise in equity prices represented a bubble, rational or otherwise, it was nevertheless a bubble from which corporate Japan could and did remove cash, largely by the sale of call options embodied in Euro-bonds with warrants and convertible bonds. That the investment rate in the Japanese economy rose again in 1990 in spite of the disorderly retreat of the Tokyo Stock Exchange suggests the importance of lags and liquidity effects rather than the unimportance of the cost of equity.
The composition of investment in the United States in the 1980s may also reflect capital costs. Gross investment held to its postwar norm in the 1980s, but the shortening of the average life of U. S. equipment investment dragged net investment below its norm. The shift in the mix of investment may well reflect that the cost of capital disadvantage is accentuated for long-lived projects.
Direct investment in the United States
Twenty years ago Bob Aliber argued that the predominant home country for foreign direct investment draws on a cost-of-capital advantage. If in the 1950s and 1960s the New York Stock Exchange capitalized a given stream of earnings at a higher multiple than the London, Frankfurt, Paris or Tokyo stock exchanges, then U.S. multinationals could outbid British, German, French or Japanese companies for corporate assets abroad.(7) This view does not provide an account of the two-way flow characteristic of foreign direct investment; oil companies marketing in each other's back yard is better understood in terms of industrial organization.(8) As an account of the shifting balance of foreign direct investment, however, Aliber's hypothesis has aged reasonably well. Foreign acquisitions in the United States rose sharply in the late 1970s when, as a result of the confounding effects of inflation, U.S. firms' cost of equity moved irregularly above that of major foreign competitors (Chart 3).
From the mid-1980s, foreign acquirers brought a significant cost of equity advantage to the bidding contests for U.S. corporate assets. By the end of the decade, as foreign firms accounted for as much as a third of the deals by value, Congress legislated new restrictions on foreign acquisitions. The country composition of the foreign acquisitions shifted toward Japan, which made sense in light of the low cost of equity there. That British firms managed to increase their wonted share of acquisitions in the United States was a little puzzling, and a deal-by-deal comparison of the price-earnings ratios of U. K. acquirer and U.S. target does not suggest that the British firms were creating equity value by relocating earnings from New York to London; indeed, in 1988 and 1989 the target's exit multiple was generally higher than the acquirer's price-earning's multiple.(9) Overall, however, both the timing of the United States' receipt of a disproportionate share of the world's direct investment and the sources by country accord with Aliber's hypothesis.
Competition in Banking
A corollary of the cost of capital interpretation of direct investment is that businesses that rely heavily on equity should show an exaggerated effect of international differences in fundamental stock market valuations. This corollary is borne out by a comparison of competitive outcomes in industry and banking.
In industry, foreign acquisitions are raising the share of U.S. manufacturing assets or employment under the control of foreign firms, although the growth is slower than one might expect because of divestments by foreign firms that found it easier to acquire than run firms in the United States. Much of the recent near-doubling of the share of U.S. gross national product accounted for by foreign-owned firms - from 2.3 percent in 1977 to 4.3 percent in 1987 - actually occurred in the late 1970s.(10) Still, only in the rare cases such as the chemical industry have foreign firms reached a one-third market share.(11) And U.S. manufacturing and commercial firms are not retrenching their foreign operations.(12)
U.S. banks, however, seem to be lagging their industrial counterparts in international competition at least as measured by asset growth (Chart 4). Foreign banks have captured 30 percent of the market for commercial loans, as conventionally measured, and nearly 40 percent if account is taken of loans to U.S. firms booked abroad. Meanwhile, U.S. banks as a group are withdrawing from foreign lending.
The contrast in the performance of U. S. banks and industry may reflect U.S. banking law and the very different profitability of banks' and corporations' foreign operations. If a relatively high cost of equity burdens both U.S. banks and industrial firms, and if the cost of equity figures more critically in financial than in industrial competition, then it is understandable that U.S. banks might lag their industrial counterparts.
A more detailed look at commercial lending in the United States reinforces the connection between competitive outcomes and bank capital cost in the late 1980s.(13) We express cost of equity differences in terms of the spread required on a loan strictly to cover the cost of equity; the costs of making and servicing the loan, as well as for any loan loss reserve are excluded. We measure competitive outcomes in terms of the percent change in market share in the U. S. commercial lending market. (Here no notice is taken of offshore loans because of the impossibility of fully decomposing them by home country of bank.) Our sample banks from six countries in the period March 1984 to March 1989 show quite marked differences. Japanese banks almost tripled their share of the U. S. commercial lending market, Swiss, German and Canadian banks increased their shares, while British banks lost market share somewhat and large U.S. banks suffered a 36 percent loss of market share (Chart 5). The point to be emphasized is that banks with low capital costs gained market share at the expense of banks with high capital costs.
Many observers have concluded that if Japanese firms' cost of equity was extraordinarily low in 1989, the decline of the Tokyo stock market in 1990 sufficed to bring fundamental valuations into line. Our work on Japanese bank shares suggests that the cost of equity did rise considerably for Japanese banks in 1990, but that it remains about a third of U.S. bank levels.
THE LIMITS OF EQUITY MARKET ARBITRAGE
Most international economists and nearly all teachers of finance in the United States have a hard time believing that fundamental valuations in equity markets can get out of line systematically and persistently. Yet equity markets do seem to price internationally comparable streams of earnings quite differently, and differences in fundamental valuations in equity markets are larger than real interest-rate differences observed in fixed-income markets.
In some respects equity markets are more aligned across countries than are bond markets. My colleague Eli Remolona has found that correlations of weekly returns across equity markets tend to be quite high and in some pairs and times approach the 0.8 to 0.9 correlations observed between sectors in a single stock market, for instance transportation and industrial shares. By contrast, weekly bond returns show correlations in a range of 0.3 to 0.5. So the stylized facts seem to be that equity markets' short-term movements show great sympathy notwithstanding fundamentally different valuations ! It is certainly true that international trading in bonds is one or two orders of magnitude larger than international trading of equities. Perhaps more important, the greater risk and informational demands of equity investing, not to mention portfolio restrictions on major institutional investors, still seem to limit international diversification of equity portfolios. As a result, investors' responses to discrepancies in fundamental valuations, for instance, foreigners' underweighting of Japanese shares in the late 1980s, do not suffice to eliminate them. Differences in household and national savings can still find expression in differences in equity valuations, because domestic savings are dammed up when it comes to equity investment.
If fundamental values are not being arbitraged on the buy side, why are they not arbitraged on the sell side? One answer is that they are but the process works slowly through the foreign acquisitions by firms from countries with low equity costs. If a library of old movies can fetch more on the Tokyo Stock Exchange than on the New York Stock Exchange, it still takes a while to make the deal.
The sell-side arbitrage can work the other way as well as U.S. firms can carve out their subsidiaries and joint ventures in Japan, and they have done so.(14) U. S. firms have sold their subsidiaries at price-earnings multiples characteristic of Japan, notwithstanding the residual U.S. ownership and control (Chart 6). So the high pricing of shares in Tokyo extends to Japanese firms or firms with earnings in Japan.
The limit to this form of arbitrage is given by the low level of foreign direct investment in Japan. In part as a result of the legacy of government and corporate policies, there is by international standards hardly any direct foreign investment in Japan. When the Tokyo stock exchange was opened to foreign portfolio investment in conjunction with Japan's joining the Organization for Economic Cooperation and Development in the 1960s, for example, the cross-shareholding increased to ensure that shares and not companies would be for sale to foreigners.
Note the asymmetry at work here. The equity carve-outs in Tokyo work if the pricing of the U.S. parent did not embody a Tokyo-style multiple for the earnings from Japan. In this case, the aggregate market valuation of the U.S. multinational can be raised by giving Japanese investors a "pure play" on the Japanese subsidiary. At the same time, Japanese firms are not penalized with relatively low multiples as they build up their foreign earnings stream. The latter is a testable proposition, and the results of a test of it would inform the debate over why Tokyo stocks were so richly priced. Japanese multinationals do not carry smoother Japanese growth with them when they set up operations abroad, although they may carry some risk-sharing arrangements with banks and suppliers. Japanese banks do not seem to have suffered in their pricing by virtue of their foreign expansion in the late 1980s.
FOOTNOTES
1 For an excellent survey, see James Poterba, "Ccomparing the Cost of Capital in the United States and Japan: A Survey," Federal Reserve Bank of New York Quarterly Review, 16 (Autumn/Winter 1990-91).
2 "The ability to borrow overseas and hedge any subsequent currency risk means that the cost of capital within the UK can be influenced by British authorities only by changes in tax and investment incentives policy." Discussion by Mervyn King of John Muellbauer and Anthony Murphy, "Is the UK Balance of Payments Sustainable?" Economic Policy, October 1990, p. 386.
3 U. S. Department of Commerce, International Trade Administration, A Historical Comparison of the Cost of Financial Capital in France, the Federal Republic of Germany, Japan, and the United States (Washington, D.C.: Government Printing Office, 1983).
4 A. Stephen Englander and Axel Mittelstadt, "Total Factor Productivity: Macroeconomic and Structural Aspects of the Slowdown," OECD Economic Studies, 10 (Spring 1988), p. 1-48.
5 Robert Ford and Pierre Poret, "Business Investment in the OECD Economies: Recent Performance and Some Implications for Policy," OECD Economic Studies (Spring 1991).
6 Robert N. McCauley and Stephen A. Zimmer, "Explaining International Differences in the Cost of Capital," Federal Reserve Bank of New York Quarterly Review, 14 (Summer 1989), pp. 7-28.
7 Robert Z. Aliber, "A Theory of Direct Foreign Investment," in Charles P. Kindleberger, ed., The International Corporation: A Symposium (Cambridge: Massachusetts Institute of Technology Press, 1970), pp. 17-34.
8 Stephen H. Hymer, The International Operations of National Firms: A Study of Direct Foreign Investment (Cambridge: Massachusetts Institute of Technology Press, 1976).
9 Robert N. McCauley and Dan P. Eldridge, "The British Invasion: Explaining the Strength of UK Acquisitions of US Firms in the Late 1980s," in International Capital Flows, Exchange Rate Determination and Persistent Current-Account Imbalances, (Basle: Bank for International Settlements, 1990), pp. 319-52.
10 Jeffrey Lowe, "Gross Product of U. S. Affiliates of Foreign Companies, 1977-87," Survey of Current Business, 70 (June 1990), p. 50.
11 Ned G. Howenstein, "U.S. Affiliates of Foreign Companies: Operations in 1988," Survey of Current Business, 70 (July 1990), pp. 127-143.
12 Raymond J. Mataloni, "U.S. Multinational Companies: Operations in 1988," Survey of Current Business, 70 (June 1990), pp. 31-53.
13 See Stephen A. Zimmer and Robert N. McCauley, "Bank Cost of Capital," Federal Reserve Bank of New York Quarterly Review, 15 (Fall/Winter, 1990-91).
14 See Ted Fikre, "Equity Carve-Outs in Tokyo," Federal Reserve Bank of New York Quarterly Review, 15 (Fall/Winter 1990-91). Figuration Omitted.
COPYRIGHT 1991 The National Association for Business Economists
COPYRIGHT 2004 Gale Group
ไม่มีความคิดเห็น:
แสดงความคิดเห็น