Explaining Global Capital Flows

The World Economic Forum  [glossary] released its annual Global Competitiveness Report earlier this week. This year’s report is the first to take account of the impact of the global economic crisis. The report is intended to outline and measure those factors which facilitate economic growth and make national economies more competitive. The index is thus developed from twelve “pillars”: the strength and stability of political institutions, the extensiveness and effectiveness of infrastructure, macroeconomic stability, access to health and education, the efficiency of goods markets, the efficiency of labor markets, the sophistication of financial markets, technological readiness, the overall size of the domestic market, business sophistication, and innovation. A number of variables are then used to weight and rank each of the twelve pillars (readers who are interested in this aspect of the rankings can read more about the process in the appendix to the full report.

This year’s rankings saw some minor shifting in positions but few dramatic changes. Some countries (e.g., New Zealand and Taiwan) improved their rankings, and a number predictably declined. Iceland, for example, saw its overall ranking fall from 20th place to 26th place, largely as a result of the fallout from the banking crisis that undermined financial institutions in the country last year. The top ten performers were:

1. Switzerland (up from 2nd in 2008)
2. The United States (down from 1st)
3. Singapore (up from 5th)
4. Sweden (position unchanged)
5. Denmark (down from 3rd)
6. Finland (position unchanged)
7. Germany (position unchanged)
8. Japan (up from 9th)
9. Canada (up from 10th)
10. The Netherlands (down from 8th)

The bottom ten performers, which also saw few dramatic changes, were:

124. Paraguay (position unchanged from 2008)
125. Nepal (up from 126th)
126. East Timor (up from 129th)
127. Mauritania (up from 131st)
128. Burkina Faso (down from 127th)
129. Mozambique (up from 130th)
130. Mali (down from 117th)
131. Chad (up from 124th)
132. Zimbabwe (up from 133rd)
133. Burundi (down from 132nd)

The differences between the top and bottom performers are probably obvious. But the composition of the top ten performers also tells us something interesting about the nature of global economics. Although the vast majority of foreign direct investment [glossary] occurs between developed countries, the conventional wisdom, particularly among critics of multinational corporations, is that foreign direct investment tends to flow to the countries with the lowest tax rates, lowest wages, weakest environmental regulations, softest labor standards, and so on. But the countries that top the list of “most competitive” according to the World Economic Forum—hardly as bastion of anti-capitalist rhetoric—suggests something very different. Indeed, many of the countries in the top ten (e.g., Sweden, Denmark, Finland, Germany) have incredibly strict labor and environmental standards and among the highest corporate and individual tax rates in the world. Clearly, some other factors are compensating for the higher cost of doing business in these countries.

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