relative decline in favor of the creditors.nThere are two basic categories of foreign investment:ndirect investment in the ownership of enterprises (FDI), andn. portfolio investment (FPI) in long-term financial instruments.nDirect investment accounts for about one out ofnevery six dollars of foreign investment in the US. ThenCommerce Department has estimated that at the end ofn1988, 15 percent of American manufacturing was controllednby foreign-owned firms. There was a record inflow ofn$58 billion in FDI in 1988, compared to only $17 billion innUS direct investment placed overseas. The main factor citednby Commerce in their 1988 report on international directninvestment was the basic profitability and stability of thenAmerican economy. Yet the US has always been attractivenon these grounds. What is different in the 1980’s is thatnforeigners have lots of dollars to invest, thanks to the tradendeficit and dollar devaluation. Another worrisome factor,nthis one cited by Commerce, is that foreigners “are becomingnincreasingly confident in their ability to compete withnUS firms in the United States.”nAt the moment, the US economy (due to its vast size) isnless influenced by FDI than are many other host countries.nHowever, the effects will accumulate like those of a slownleak. It took the Titanic two and a half hours to sink afternhitting the iceberg. Pointing only to current figures whilenignoring the trend, which is what many free traders do innregard to investment flows, is like reporting after the first halfnhour that since the ship is still afloat there is nothing tonworry about.nSome foreign investors are very ambitious. MasaakinKurokawa, head of Nomura Securities, has predicted thatnCalifornia will become a joint US-Japan community basednon Japanese money and managers and American land andnlabor. So enthusiastic is Kurokawa that he has even claimednthat California will cease to be considered part of America.nThis is farfetched, perhaps, but economic imperialism has anlong history. The United States has used it to influencenevents in foreign lands, so why do American leaders believenothers will not?nThe shift in investment flows marks a waning of Americannwealth and power. During the 1975-80 period, the USnwas the source of 44.2 percent of the world’s internationalndirect investment funds. In the 1980-85 period this droppednto 19.3 percent. During the 1982-87 period, US firmsnacquired $23.4 billion worth of foreign companies, butnforeign firms bought up $101.9 billion worth of Americanncompanies. State governments in the US know where thenmoney is today. More states have offices in Tokyo than innWashington. Several states have been very aggressive inncourting FDI, hoping for local gains even at the cost ofnundermining the national economy.nOften it is said that it is better for foreign firms tonproduce in the US than simply to export goodsnproduced overseas to the American market—that at leastnthe factories, jobs, and tax base are in the US. There is somentruth to this — at least the argument recognizes the damagendone by imports—but it is not the whole story. It overlooksnthe role of FDI as a market extension strategy, as a way tonpenetrate overseas areas. About one-third of exports to thenUS go to foreign affiliates in the US; components to ben20/CHRONlCLESnnnassembled in production, capital equipment and supplies,neven the materials and personnel to build the facilitiesnthemselves originate abroad. These American affiliates aren”hollow” or “beachhead” corporations. As they expand, sondoes the trade deficit. American-owned affiliates overseasnplay the same role in boosting US exports. This is why a shiftnin the balance between American and foreign multinationalnfirms affects the domestic economy so strongly. As thenmarket share of foreign business empires expands, thenmarket share remaining for American firms shrinks. Andnsince foreign firms have access to low-cost capital (the costnof capital in Japan is half that of the US), they can at presentnexpand when American firms are unable to.nIt is national power that writes thenrules of the game.nVictory in these commercial struggles cannot be a matternof indifference to governments. As Princeton’s RobertnGilpin reminds us in his Political Economy of InternationalnRelations, the corporations that operate in the world arenanare not truly multinational; they are not divorcednfrom a particular nationality. Home governmentsnnot only have the incentive but also may have thenpower to fashion commercial and other policiesndesigned to benefit their own multinationals at thenexpense of competing firms and other economies.nThe money involved in foreign portfolio investment isneven greater than in direct investment. Private FPI accountsnfor 60 percent of America’s $1.5 trillion (and growing)nforeign debt. It grew at an annual rate of 50 percentnbetween 1980 and 1987. Over this period, foreign activitynshifted from Treasury securities to corporate bonds to thenstock market and back. In 1985, bonds of Americanncorporations sold overseas equaled one-third of the bondsnissued publicly in the US. In 1986, foreigners bought 25npercent of all the newly issued US corporate equities, as wellnas 15 percent of all newly issued corporate bonds. In 1987,nthe inflow of private FPI roughly equaled all individualnsavings generated by Americans.nFree traders argue that the influx of capital boostsndomestic economic growth, and this is true. But again theirnfocus is too narrow. The dollars start and end in the US,nrecycled through foreign hands. Would it not be better if thisncapital stayed in the US to begin with, earned by Americannfirms selling in the domestic market and reinvested by andnfor Americans? The problem is as much cultural asneconomic. American society is far more interested innpresent consumption than future growth. Both private andnpublic spending levels rest on debt, with a growingndependence on foreigners for financing.nThis is economically unsustainable and politically unwise.nA saturation point will be reached. A slowdown in the USneconomy, a political crisis, the onset of inflation or a furthernslide in the dollar will increase the risk to foreign holders ofndollar-denominated assets. If the country is still dependentnon foreign borrowings when that happens, the result will ben