Could America’s superpower status be endangered by the country’s thirst for ever greater profits from  complex investment products?  The strategic consequences of massive foreign investment in the U.S. economy are now emerging. As the world economy grows and new economic giants like the E.U., China, and India emerge, the American investment sector remains the most attractive in the world.  But investors everywhere want stability and predictability in addition to strong profits. 

As Heather Timmons and Katrin Bennhold of the New York Times write (see their story here), the crisis in subprime lending and subsequent tremors in the larger U.S. economy are leading significant foreign investors, including foreign governments, to seek greater regulatory controls over U.S. investment products and banking rules.  Timmons and Bennhold write that "losses to investors in other countries suggest that American regulators are not properly monitoring [investment] products or alerting investors to the risks." 

Investment funds around the world (including state-run funds — see our earlier comment on this issue here) are wondering what hit them.  After all, as the Times notes, "investors were caught by surprise because American rating agencies had given the products top ratings, leading buyers to believe there was little risk."  These investors are now suggesting stronger international controls and regulation of U.S. investment vehicles.

When American investors move into emerging economies like those of China, Russia, India, Brazil, and a host of others, they are interested first in strong profits.  They take for granted that political stability comes later, and with it, lower risk and lower rates of return.  In the case of foreign investment in the U.S. economy, the equation is turned on its head:  investors believe that the U.S. economy and government are stable, so they are satisfied with lower profitability.  They are even less likely to raise questions when they achieve high returns, including from the commoditization of mortgage lending practices that happened over the last decade. 

But when questionable lending practices in the U.S. trigger larger problems in the U.S. economy, foreign investors ask, quite sensibly, what our national regulatory agencies were thinking.  Lax regulation of complex (and highly profitable) investment products means not only a lot of U.S. citizens losing their homes, but a host of overseas "corporate citizens" breathing down our necks.   As a result, the U.S. may find itself moving into an international system of regulation that could, in the end, hamper the country’s ability to act independently relative to our allies and our potential adversaries on the world stage. 

The benefits to the few from high-risk investments may be fraught, for America, with much more than anyone bargained for.  American regulatory agencies can avoid this scenario by a much more energetic approach to home-grown investment products.  This would protect both "us" and "them."

Ned Hodgman

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