An investment in the wrong kind of chips
The next big game will be the international trade in human capital. Britain is clearly in with a chance
Tuesday 04 August 1998
Any instinctive ambivalence we might have towards foreign companies has been further sharpened in the last few days by the cutbacks of jobs at Rover and the muddle over the sale of Rolls-Royce Motors.
On the one hand, most people recognise that foreign direct investment is now the chief way in which manufacturing technology transfers across national boundaries, and so - quite apart from the direct impact on employment and output - such investment improves the quality of the capital stock. The figures confirm this: foreign-owned companies have 34 per cent higher value-added than British-owned ones, 24 per cent higher wages, and 142 per cent higher net capital spending per head. So the fact that the UK is second only to the US in terms of the stock of foreign-owned assets (see table) means that we have "bought in" a lot of technology.
On the other hand, whenever there is some cutback, or simply the foreign purchase of a famous brand name (such as Rolls-Royce or Bentley) it is hard not to have a nagging feeling that the loss of national control carries costs. The flood of foreign investment into the country may indeed be a success story, but could it not also represent a failure?
In the case of the motor industry it must represent failure - the failure, for example, of Rover (and all its predecessors) to develop cars that were competitive in world markets. Rover was left in a position where it could either become a sub-contractor to Honda, relying on Japanese know-how to develop any new cars, or be taken over by a company with strong engineering resources and a strong balance-sheet.
But in making the judgement, we must feed in one other fact. Though we have an enormous stock of foreign-owned investments here, Britain actually owns an even larger stock abroad. The total value of direct investments abroad is pounds 238bn; the total stock of foreign-owned stuff here is pounds 172bn.
Surprised? I always am by discovering when abroad that something that I thought was foreign-owned turns out to be British. A few weeks ago I was in a hotel in Boston with some fancy French-sounding name, only to see in tiny letters at the bottom of some hotel literature that it was owned by Granada. We are invisible foreign-owners, blending in with the woodwork, whereas foreign-owned companies here tend to be recognised as such.
Does this mean we are exporting our expertise? Well, yes, I suppose we are. But the most surprising thing is the nature of our expertise. If you were to say the first thing that come into your head as an area where the UK had no comparative advantage, you might well choose food. British food is not, in the eyes of the world, particularly renowned. Which country does have a comparative advantage in that department? France, of course. So which company provided the food at all the World Cup stadiums this year, or does so at Charles de Gaulle airport in Paris, or at staff canteens in many French companies? Answer - yes, it is a British company, called Compass.
I give you that example not in an attempt to claim that Britons know more about food than the French. This particular company happens to be a brilliant manager of a variety of assorted firms in different parts of the food chain. It seems to be very good at buying the right chains and then improving their results. And this gives a clue to the changing nature of comparative advantage. It is very hard to maintain an advantage in making electronic chips, because the know-how crosses national boundaries with the speed of light. It does seem possible to maintain an advantage in making real chips, as Compass has demonstrated. But that skill lies in general management, not in high-technology.
The driving force in the globalisation of the world economy has already moved from physical trade - exporting and importing - to foreign direct investment. You make locally, shipping the know-how embedded in the product and the money to build the plant across the seas instead of shipping the actual goods. Now the trend seems to be moving from direct investment in companies producing goods to companies producing services.
We are still in the early stages of this process, but it will, I think, become the dominant one in the process of globalisation. Skills like portfolio management, marketing and the development of human capital are rising in importance by comparison with skills like factory organisation. Indeed this last skill - development of human capital - is becoming the most important of all.
If you look at a typical successful company, its physical assets account for a small proportion of its market value. The rest is accounted for by intangible assets. These include brand names (I reckon that, at pounds 40m, what BMW paid for the Rolls-Royce name was cheap), distribution networks, customer relationships and so on. But add all those up and there is usually still quite a lot unaccounted for. What can that be? Answer: it can only be the intellectual capital of the workforce.
All the crowing about the success of inward investment, and all the anguish when an investment goes belly-up, neglects the fact that these foreign manufacturing plants represent only the present manifestation of globalisation. Of course it is important and it will remain so. But the next big game will be the international trade in human capital. It is not just: "How do you manage clever people?" It is also which country has a cultural advantage in managing that cleverness in such a way as to extract maximum value for shareholders.
At a guess I would think that the US will do well, while Japan will do badly. Britain, for all the shortcomings of our management, is clearly in with a chance.
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