Has the US really diverted environmental investments from Europe?

First, as a follow-up to last week’s free lunch, let me briefly touch on why it is impossible for non-Western central banks to sell Western assets. All at onceA reader asked, “What about gold?” The same problem arises with existing foreign exchange reserves: you have to buy gold from someone. If you buy from non-Western investors, the risk of Western seizure remains. If you buy from Western investors, congratulations! You’ve given Western investors a windfall and expanded the domestic investor base in Western economies.

Today I want to reflect for a moment on another conventional wisdom that seems to drive a lot of policy: the notion that Europe is losing out to the United States in “competitiveness” in general, and in green industrial policy in particular. Politicians and policymakers seem to take it for granted that recent moves by Washington to subsidize green technology and semiconductor manufacturing have made the United States a much more attractive investment destination than Europe. European businesspeople are telling their political leaders that they are redirecting their investment plans across the Atlantic.

However, much of the discussion seems to be just what European businessmen tell their politicians. As I said, this story is self-evident, or in other words, not based on facts. So I decided to take a closer look at the figures for investment flows in and out of the US and Europe.

Investment figures are surprisingly hard to get a grip on. Despite the best efforts of the Office for National Statistics, tracking these flows is a challenge. So are the folks at fDi Intelligence, a data and analytics service owned by the FT Group. They collect all the information they can about greenfield cross-border investment projects announced by companies. The result is fDi Markets, an FT-owned database that has been tracking such investment announcements since 2003.

Their latest data is compiled in their just-printed annual report. I asked them to excerpt details on EU and US foreign direct investment, specifically in the green technology sector. Below is the main information they provided me:

First, announced FDI into the EU has surged in recent years. This is especially true for FDI in renewable energy, semiconductor manufacturing, and other electronics. Not only that, but bilateral FDI announced into the EU by U.S.-based investors has also increased significantly. It was particularly high in 2021 and 2022.

Second, outward announced FDI from the EU is also high and consistently exceeds inward FDI. This is to be expected for a large surplus economy which, by definition, invests more abroad than inward. Outward announced FDI has grown faster, although not as fast, than inward FDI. The graph below shows the balance (outward announced minus inward announced) over time. However, in the renewable energy sector, outward FDI has grown much faster than inward FDI. In the electronics and semiconductors sector, outward and inward announced amounts remain in balance.

What about the US? The graph below makes it clear that FDI in the US has also been doing well in recent years. But it has been concentrated in semiconductors and electronics rather than renewable energy (so much for the European panic over the Anti-Inflation Act). In fact, there are few notable results in EU-US bilateral FDI. The EU’s share in the two sectors highlighted in the graph is not included because it is hardly indicative. Most of the outward FDI announced by EU companies is directed to countries other than the US, and the investment directed to the US seems to be mainly in other sectors.

In summary, it seems that European business people have been making a lot of gloomy statements. There is a lot of investment capital flowing out of the EU, but also a lot of inflows. Meanwhile, the US investment boom seems to be mainly home-grown, not stolen, from other countries.

However, there are some big caveats to the fDi Markets data as it is entirely based on company announcements, so it misses unannounced content, there is a risk of double counting if a company rebrands past promises as new ones, and something counted at the time of announcement may end up being realised at a completely different scale. Additionally, investment sources are identified by headquarters location, so it won’t cover, for example, a cross-border portfolio (financial) investment in a local company that then announces a greenfield physical investment as a domestic project.

Therefore, the fDi Markets figures need to be cross-checked with national accounts and balance of payments data.

The chart below from the U.S. Treasury Department has garnered a lot of attention. It shows how investment in U.S. factory construction has surged since the Biden administration’s subsidy program was passed. (Though the Treasury Department boasts that foreign investment in factory construction is surging, what’s most shocking about its analysis is how tiny the numbers are: in the single digits of billions of dollars. Most of the factory construction boom has been domestically funded.)

I was looking for an equivalent graph for the EU. The closest I could find was construction data for “other buildings and structures” (i.e. non-“dwellings”), which I graphed below. The key point is that we don’t see any big changes at the EU level; in other words, no declines as one would imagine if companies cancelled factory projects in Europe and built in the US instead. In fact, we see modest increases, not in France or Germany, but in Poland and Sweden, as well as Italy and Spain. The lesson is to pay attention to which countries the complaints are coming from.

What about broader business investment? EU non-financial corporate investment rates (the share of value added invested by businesses) have stabilised since the pandemic shock. Compared to historical averages, they are still quite high, although not as high as in periods of strong demand and full employment such as at the end of last decade.

We can also look at the broadest measure of investment, which includes things like residential construction and is expressed as a percentage of the total economy (not just the business portion), which has stabilized recently at about 22% of GDP, a percentage point or two higher than the slow-growing 2010s but slightly lower than the last boom in the mid-2000s.

Finally, can we take anything from the official balance of payments information? Measured FDI flows have fluctuated widely from period to period and are only available up to 2022, and only on an annual basis. However, looking at the cumulative total value of FDI capital, the EU’s net international FDI position has not changed much since the pandemic. It is slightly lower than in the past decade, meaning there has been a slight shift in the direction of inward rather than outward investment flows. Although the change is small, it means that the relative attractiveness of EU FDI has improved slightly.

What do these numbers tell us? First, while U.S. policies may have spurred transatlantic investment, they have not been the only factors driving the Repurposed Capital inflows from Europe are declining. Indeed, while investment in the EU has remained stable overall, foreign direct investment announcements have grown significantly, especially in the most favored sectors of renewable energy and semiconductors/electronics. EU leaders need not be too disheartened; their policy framework is working well. But they cannot rest on their laurels, as investment rates are still too low for the economic transformation they claim to want.

Second, the post-pandemic years have seen a large amount of announcements of investments by EU residents into projects in other regions (though less so in the US). But given little change in the overall net investment picture compared to the rest of the world, the capital in question may also have been raised overseas.

Third, capital outflows (whether portfolio or financial investments or direct investments) should not be a surprise. They are an inevitable consequence of the EU economy’s huge surpluses. Enrico Letta’s report complained that EU savers send 300 billion euros out of the bloc every year, mainly to Americans. French President Emmanuel Macron also repeated this finding in his recent State of Europe address. Both presidents were too cautious to make the connection with the export surplus, which exceeds 300 billion euros per year. To invest more at home would mean to reduce that surplus. Not by reducing exports, but by stimulating substantially domestic capital investment and increasing imports to satisfy the consumption that must be given up to shift resources to investment. The EU will move forward when it finally realizes that it can either increase investment or increase its trade balance. But it will fail if it tries to do both.

Further reading

My data colleague created a fantastic seat prediction tool for the UK general election, which, if correct, would give Labour a commanding majority in current opinion polls.

Jacob Kirkegaard of the Peterson Institute has published an excellent report outlining all aspects of EU-China trade and investment developments in electric vehicles. In summary, it is a nuanced relationship, and there is reason to expect a thriving collaboration.

Here’s how it works: Estonia passed a law allowing it to confiscate Russian state assets for the benefit of Ukraine. While Estonia doesn’t have many such assets, this is important evidence that it is both practical and legally feasible.

This shows the fibre optic cable linking the Arctic island of Svalbard to mainland Europe finally being pulled from the ocean after it ruptured under suspicious circumstances.