ARCHIVED — Discussion Papers

No. 14: Making Canada the Destination of Choice for Internationally Mobile Resources

by Keith Head and John Ries University of British Columbia, January 2004

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Executive Summary

This paper examines competition for three types of internationally mobile resources (IMRs) — financial, intellectual, and human capital. We operationalize these concepts as foreign direct investment (FDI), research and development (R&D) activity, and university-educated workers. The analysis identifies the potential benefits to Canada of attracting these resources and reviews the empirical evidence on these benefits. We also provide theoretical and empirical evidence on the determinants of the location choice of mobile resources. Our initial views on each resource are as follows:

• Foreign Direct Investment
  Canada has historically attracted a disproportionate share of this resource but its position is steadily slipping. Foreign-controlled affiliates are more productive than domestically controlled ones and pay higher wages. Evidence on spillovers to the host economy exists but is somewhat weak. How Canada fares in the competition for FDI depends on how multinational enterprises (MNEs) respond to continued reductions in trade and communication costs and evolving patterns of comparative advantage. MNEs cluster in particular locations because of common factors (proximity to demand, low-cost inputs, etc.) and perhaps also to access agglomeration economies flowing across firms.
• Research and Development
  Canada conducts somewhat less non-governmental R&D than can be expected from its economic size and the R&D intensity of foreign affiliates is less than that of Canadian firms. The case for attracting R&D depends on spillovers that are local in nature. There are strong reasons to believe that R&D confers spillovers and the evidence indicates that these spillovers flow across large distances. The location choice of R&D appears to be poorly understood.
• University–educated Workers
  Canada has more individuals with some college education than might be expected based on its economic size but its share of university graduates falls short of our benchmark. Skilled workers seem to internalize much of the benefits of their human capital. The brain drain to the United States does not strike us as alarming at current levels. Indeed, it may not even represent a real cost to Canada if one accounts for the presumed benefits received by the emigrants themselves. Since workers are drawn to good job opportunities, policies promoting economic growth are the key to keeping these workers in Canada.

The location decisions of FDI, R&D, and university-educated workers are jointly determined: success at attracting one resource draws more of each. These dynamics are self-reinforcing and can lead to industry clusters and a national competitive advantage in particular sectors. While the presence of these dynamics motivates policies to foster such clusters, the success of these policies remains highly uncertain. Government policies aimed at promoting clusters may be offset by the actions of rival governments and some locations may lack an intrinsic attractiveness to support a cluster. Low-cost campaigns to inform foreigners about Canada's attractive features probably make sense. What should be avoided are bidding wars in which Canada pays more to the investors it wins than their spillover benefits can justify.

Policy maker viewpoints have shifted substantially from the hostility and fear once directed towards foreign investors and immigrants. This is a good thing. We urge some caution at this point, so as to avoid overshooting in the other direction. Most of the benefits of locating in Canada appear to accrue to the IMRs themselves. Furthermore, most policies that make sense on their own merits will have the side effect of attracting more IMRs. More research is required before reaching final conclusions on the extent to which Canada should target scarce public resources specifically towards attracting internationally mobile resources.

Discussion Papers