Why Do Foreigners Invest in the United States?

51 Pages Posted: 14 Apr 2008 Last revised: 30 Jun 2009

Kristin J. Forbes

Massachusetts Institute of Technology (MIT) - Sloan School of Management; National Bureau of Economic Research (NBER); Bank of England - Monetary Policy Committee

Multiple version iconThere are 2 versions of this paper

Date Written: June 16, 2009

Abstract

Why are foreigners willing to invest almost $2 trillion per year in the United States? The answer affects if the existing pattern of global imbalances can persist and if the United States can continue to finance its current account deficit without a major change in asset prices and returns. This paper tests various hypotheses and finds that standard portfolio allocation models and diversification motives are poor predictors of foreign holdings of U.S. liabilities. Instead, foreigners hold greater shares of their investment portfolios in the United States if they have less developed financial markets. The magnitude of this effect decreases with income per capita. Countries with fewer capital controls and greater trade with the United States also invest more in U.S. equity and bond markets, and foreign investors chase returns in their purchases of U.S. equities (although not bonds). The empirical results showing a primary role of financial market development in driving foreign purchases of U.S. portfolio liabilities supports recent theoretical work on global imbalances.

Keywords: home bias, foreign investment, portfolio flows, capital flows, U.S. current account

JEL Classification: F2, F3, F4, G1

Suggested Citation

Forbes, Kristin J., Why Do Foreigners Invest in the United States? (June 16, 2009). MIT Sloan Research Paper No. 4701-08. Available at SSRN: https://ssrn.com/abstract=1118864 or http://dx.doi.org/10.2139/ssrn.1118864

Kristin J. Forbes (Contact Author)

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