What Does Measured FDI Actually Measure?

Foreign direct investment (FDI)—whether mergers and acquisitions or “greenfield” ventures built from the ground up—is generally thought of as reflecting decisions based on long-run factors. Conventional wisdom on capital flows holds that FDI inflows are “good flows,” while assessments of portfolio and other flows are more ambiguous. When considering restrictions on capital flows, the first reaction of researchers and policymakers is to want to exclude FDI inflows. Blanchard and Acelin find that FDI flows measured in the balance of payments are actually quite different from this depiction of FDI. Their analysis reveals that FDI inflows and outflows are highly correlated, even at high frequency and using different methodologies, and that FDI flows to emerging-market economies appear to respond to the US monetary policy rate, even at high frequency. Based on these findings they reach two conclusions. First, in many countries, a large proportion of measured FDI inflows are just flows going in and out of the country on their way to their final destination, with the stop due in part to favorable corporate tax conditions. Second, some of these measured FDI flows are much closer to portfolio debt flows, responding to short-run movements in US monetary policy conditions rather than to medium-run fundamentals of the country. Both these conclusions have implications for how researchers and policymakers should think about capital controls and the exclusion of measured FDI from such controls.