Wednesday 6 July 2011

Sending profits abroad is a good thing

At the CIS website, Oliver Marc Hartwich makes the point that the idea that sending profits overseas is somehow bad for the local economy is "just a protectionist fallacy". He writes,
Let's say the Australian branch of a US company is very profitable. What happens to these profits?

First, the profits might stay in Australia to expand the business of the US company, creating more jobs and extra economic activity here. Even ardent nationalists would find it hard to argue against this.

If the parent company however decided to transfer the profits from its Australian branch to America, it would soon find out that Australian dollars are pretty useless outside Australia and change them into US dollars.

But what happens to the Australian dollars? Since Australian dollars don't buy anything abroad, they will return to Australia to buy Australian goods and services. Maybe a US company will use them to buy Australian minerals. Perhaps US tourists will come here to spend their holidays. Or the US might import Australian-made cars.

In any case, Australian dollar profits transferred abroad return to Australia sooner rather than later because outside Australia, our dollars are just printed paper that will not get you a cup of coffee.

This is where the 'Australian-owned' argument falls to pieces. For Australia's wealth and prosperity, it does not matter where the profits from Australian businesses end up. All that matters for the Australian economy is that Australia remains a place where business transactions take place – irrespective of who owns the business.
Replace Australia with New Zealand in the above quote and the argument applies just as well to us. Profits don't go overseas, as New Zealand dollars are only useful in New Zealand so they have to come back.


Miguel Sanchez said...

There are good arguments as to why sending profits overseas is not bad for the local economy; this isn't one of them. Think about what would happen if Australia/NZ used the US dollar - the profits would cross the national border and nothing need flow back in return.

Paul Walker said...

Miguel. 1) NZ and Aust don't use the US$ so the argument is true. 2) the North and South Island both use the NZ$ and we don't worry about profits going from he South to the North.

Miguel Sanchez said...

Paul: (2) is one of the 'good' arguments that I mentioned. People seem to develop an economic blind spot when national borders are involved though, so it's a tricky one to argue.

However, with (1) you're implying that the benefits depend on whether there is an FX transaction involved. But an FX 'transaction' is exactly what it says: the NZ dollars will only flow back in exchange for something else. It could be goods and services (but why would Americans' decisions to buy our exports depend on whether they receive profits from here?), or it could be financial assets (which means that ultimately someone has to give up US dollar assets of equal value). With a freely-floating exchange rate, it has to be one or the other. Hartwich completely ignores the latter; in his description the current account balance is always zero.

Paolo said...

Forgive my ignorance. But say a company send its profits via electronic tranfer, so the conversion is done within Australia and USD arrives clean and fresh in the US. It isn't clear to me how do these AUD come back?

Now, I'm not on the protectionist side. Quite the contrary, I think the fact that the company is generating jobs in Australia suffice their existence. It's just the specific example that got me a little confused...