Do Multinationals Restrain the State?

10 January 2007 at 2:16 pm Peter G. Klein Leave a comment

| Peter Klein |

I referred early to Ralph Raico’s essay on the European Miracle, the unprecedented, long-term rise in living standards that began in late-medieval Europe. As discussed there, the consensus of mainstream scholars such as Rosenberg and Birdzell, Mokyr, North, Landes, and Weingast is that Europe grew rich because unlike more centralized Eastern civilizations, European political and social life was controlled by a complex, decentralized mosaic of institutions and organizations, each of which placed limits on the other.

The most important of these institutions was the transnational Church. The concept of the sovereign as subordinate not only to a Higher Law, but also to a higher earthly authority, located outside his realm, was unique to European politics. State power was thus restricted by horizontal competition among sovereign states and complex vertical relationships between church and state.

Today, of course, the Catholic Church no longer plays this limiting role. However, there are other multinational and transnational institutions that place powerful limits on state power. These include charitable and relief organizations such as the Red Cross or Doctors Without Borders, religious movements and groups, the news media (we bloggers especially!), and other voluntary associations. But the most important of these institutions is the multinational or transnational corporation. What role do multinational firms play in limiting the power of the state?

We all know that multinationals or transnationals (for now I’m ignoring the distinction) are major economic forces. Some stats at hand:

Of the 100 largest economies in the world, 51 are multinational corporations.
According to estimates by UNCTAD, the universe of multinationals now spans some 77,000 parent companies with over 770,000 foreign affiliates. In 2005, these foreign affiliates generated an estimated $4.5 trillion in value added, employed some 62 million workers and exported goods and services valued at more than $4 trillion.
Inflows of foreign direct investment were $916 billion in 2005, a substantial increase over the prior couple of years, largely due to a rise in cross-border M&As. The value of cross-border M&As rose by 88% over 2004, to $716 billion, and the number of deals rose by 20%, to 6,134.

As a result, researchers, government officials, and activists are starting to talk about the “stateless corporation,” the subject of a 1990 Business Week cover story. In the words of Mathew Horsman and Andrew Marshall:

Effortless communications across boundaries undermine the nation-state’s control; increased mobility, and the increased willingness of people to migrate, undermine its cohesiveness. Business abhors borders, and seeks to circumvent them. Information travels across borders and nation-states are hard pressed to control the flow. . . . The nation-state . . . is increasingly powerless to withstand these pressures.

Richard Swift, editor of the activist magazine The New International, writes with alarm: “Capital moves so freely that it is often impossible for governments to find, let alone to tax. Corporations treat the world like a global chessboard bidding down wages and taxes, avoiding environmental regulation and pillaging natural resources.”

An exaggeration, to be sure. Nonetheless, there are specific mechanisms by which the growth of multinationals can restrain the state:

As global corporations become less dependent on any particular nation, they have less interest in supporting any government with taxes. This results in a shrinking tax base and what is referred to as a “fiscal crisis of the state” (the tendency for government expenses to outrace revenues).
As corporations have developed their ability to tap into a huge global labor pool, they have less need for the social welfare policies of any particular nation.
Multinationals can arbitrage tax rates through transfer pricing (royalty payments, or other income transfers), which puts downward pressure on taxes.
The ability to shift production among countries puts downward pressure on labor and environmental protection.
Information sharing among affiliates can frustrate government restrictions on technology transfer (or at least make it more difficult for the state to enforce this).
More generally, subsidiaries of more centralized multinationals pay less attention to the actions of the host country government than do standalone enterprises.
Countries with higher levels of economic freedom, greater transparency, fewer restrictions on trade and international capital flows, etc., tend to attract more FDI.

Of course, several caveats are in order. Multinationals, like all large corporations in the mixed economy, use the state to their advantage, preferring managed trade (export subsidies, tariffs and quotas, and the like) over free trade. Moreover, many countries try to match domestic firms with international partners or FDI targets (taking businesspeople on diplomatic missions, etc.). Some governments offer political risk insurance for their domestic firms pursuing overseas expansion (and of course there are EX-IM banks, etc.). Some countries even offer investment guarantees. A few encourage (or force) their multinationals to invest in particular overseas markets to secure key resources (e.g., Chinese and Indian firms investing in oil and gas extraction). And of course state intervention played a major role in the emergence of firms like the British East India Company, a quasi-government enterprise that had legal monopoly privilege, paid the salaries of government officials, and so on.

Can readers recommend recent research along these lines?