FDI and Spillovers: What Role for Public Subsidies? Wolfgang Keller

FDIandSpillovers:WhatRoleforPublicSubsidies?

WolfgangKeller

ADB-HKUFDIConference,June2-3,2016

HongKong,China

Evolution of gov’t policy towards FDI • Discouragement of foreign direct investment: key element

of Import Substitution Industrialization development strategy

Evolution of gov’t policy towards FDI • Discouragement of foreign direct investment: key element

of Import Substitution Industrialization development strategy

•  Today: Governments frequently offer large subsidies to attract FDI (multinational enterprises)

•  General Motors (1997): Rio Grande do Sul, Brazil: $77,000 per employee, or $1.5 billion total

•  Mercedez-Benz (1994): U.S. state of Alabama; $150,000 per employee

Attracting FDI: when are subsidies justified?

• Necessary condition is:

Positive externalities > cost of subsidies • What type of externalities? 1.  Knowledge spillovers 2.  Input-output linkages 3.  Labor pooling

Input-output and labor pooling • Also called Marshallian externalities

•  Related to size, typically size of the industry Scale economies è agglomeration

•  Pecuniary: reflected in market prices

Input-output and labor pooling • Also called Marshallian externalities

•  Related to size, typically size of the industry Scale economies è agglomeration

•  Pecuniary: reflected in market prices

•  Labor pooling: Google’s expansion in Boulder, CO attracts more tech workers to Boulder è lowers hiring costs of other tech firms

•  Input-output: Move of another cigarette lighter firm to Wenzhou, Zhejiang attracts more specialized input producers

But: No source of long-run growth •  Labor pooling and specialized input suppliers do not get

us growth in the long-run

• Once the economy is fully specialized –all tech workers have moved to Silicon Valley– there is no more growth •  “Core-periphery” pattern (Krugman et al.)

•  For long-run growth to occur, need knowledge spillovers

Knowledge (or technology) spillovers • Non-pecuniary: not reflected in market prices

•  “Knowledge spillovers leave no paper trail” (Krugman ‘91)

• Non-rivalrous: no increase in cost if additional user •  Typically not embodied in particular product or service

• Non-excludable •  “It is usually very hard to appropriate more than a tiny fraction of its

social returns” (Griliches ‘92)

OK, so how large are knowledge spillovers from FDI? • One of the most-studied questions in international and

development economics •  Literature so large, there are several meta-studies

•  Gorg and Strobl 2001 •  Meyer and Sinani 2009 •  Havranek and Irsova JIE 2011, WD 2013: Thousands of spillover

estimates from hundreds of researchers in last decade

•  FDI spillovers is one of two questions for which current Handbook of Development Economics chapter lists dozens of individual studies •  Harrison and Rodriguez-Clare (2010)

The canonical study

•  i = firm, j = industry, t = year • Horizontal: share of foreign presence in i’s own industry • Backward: share of i’s output sold to foreign affiliates •  Forward: share of i’s inputs bought from foreign affiliates

• Backward and Forward ( = vertical) typically from I-O tables at industry, not firm level

Recent empirical results • Unfortunately, spillover estimates vary widely

• Example: Two of the best known studies of vertical spillovers, Javorcik (AER 2004) and Blalock-Gertler (JIE 2008)

•  Javorcik’s estimates are 30 times Blalock-Gertler’s!

• Also negative vertical FDI spillovers are in the literature

Inward FDI spillover estimates: China

Source: Irsova/Havranek 2013

Vertical FDI spillovers •  Literature has increasingly focused on vertical FDI

spillovers, following Javorcik (2004 AER)

•  Intuition:

•  Multinationals have an incentive to prevent horizontal spillovers to local firms in the same industry

•  Multinationals may want to transfer knowledge to their local suppliers, i.e. actively generate vertical spillovers

Javorcik 2004: spillovers in Lithuania

Data on around 2,500 firm for years 1996 to 2000

Javorcik 2004 Results I

Javorcik 2004: first-differences



Identifying vertical spillovers • Buyer-seller relationship: Suppose domestic firms selling

to multinational affiliates can charge higher price •  Higher measured productivity è positive “spillover”


to multinational affiliates can charge higher price •  Higher measured productivity è positive “spillover”

• Usage of input-output table: For given FDI, Backward is high whenever industry j (domestic firm i’s industry) sells a lot to industry k (multinational’s industry)


to multinational affiliates can charge higher price •  Higher measured productivity è positive “spillovers”

• Usage of input-output table: For given FDI, Backward is high whenever industry j (domestic firm i’s industry) sells a lot to industry k (multinational’s industry)

•  Input-output element jk will tend to be large when industries j and k are geographically close to each other •  If multinationals are drawn to the same region by the same

amenities as domestic firms è positive “spillovers”

Manski’s “Reflection Problem” (1993) prodir = Xβ’ +β1prod_barr + eir

•  prod_barr is the average productivity in region r

•  Average productivity in region r is high because •  there are multinational affiliates, and they have relatively high

productivity •  affiliates and domestic firms are drawn by high productivity (amenities)

to the same region r •  …...

Manski’s “Reflection Problem” (1993) prodir = Xβ’ +β1prod_barr + eir

•  prod_barr is the average productivity in region r

•  Average productivity in region r is high because •  there are multinational affiliates, and they have relatively high

productivity •  affiliates and domestic firms are drawn by high productivity (amenities)

to the same region r •  …...

•  β1 : Not the effect of prod_bar on prod

•  FDI context: No estimation of vertical knowledge spillovers

Vertical “productivity effect” estimates: publication bias Source: Havranek-Irsova JIE 2011, based on 55 studies

What happens in vertical FDI relations?

•  Iacovone, Javorcik, Keller, Tybout 2015: retail-manufacturing link: Walmart in Mexico

•  Walmart enters after NAFTA, Mexico in the GATT (1985)

•  The FDI triggers massive reshuffling among Mexican producers: strong firms gain, weak firms lose

•  Walmart transfers knowledge & incentivizes innovation o Walmart provides info on inventory, other management techniques o Firms need to upgrade to ensure compatibility with Walmart

•  Interviews of Mexican firms, consultants as input for modeling o Simulate dynamic BLP-style model

o Present regression evidence using Mexican micro data

Becoming a Walmart supplier: the pros

•  SubstanDalmarketsizeincrease

•  BenefiDngfromWalmart’sinnovaDvebusinessmethods•  ModernizedIT-basedsystemofchannelingdeliveriesfrom

suppliersthroughcentralizedwarehouses•  Walmartrequireson-Dmedeliveries(finedifnot)and

driversmustcarryidenDficaDoncards•  Shipmentsmustbeonstandardizedcorner-protected

paleTes(rentablefromWalmart),subjecttothird-partyqualityaudits

Becoming a Walmart supplier: the pros

•  SubstanDalincreaseinmarketsize

•  BenefiDngfromWalmart’sinnovaDvebusinessmethods•  ModernizedIT-basedsystemofchannelingdeliveriesfrom

suppliersthroughcentralizedwarehouses•  Walmartrequireson-Dmedeliveries(finedifnot)anddrivers

mustcarryidenDficaDoncards•  Shipmentsmustbeonstandardizedcorner-protectedpaleTes

(rentablefromWalmart),subjecttothird-partyqualityaudits

•  Interviews: “Getting ready for Walmart is like •  getting into a company version of basic training with an

implacable Army drill sergeant •  It helps everything: customer focus, inventory management,

speed to market…”

Being a Walmart supplier: the cons • Walmart keeps negotiations with suppliers as stark as

possible •  Bargaining environment and # of negotiable contract features

(price, quantity, quality)

• Walmart makes low-price take-it-or-leave-it offer

• Walmart expects product innovation or annual price concessions

• Walmart uses store brands to create competition w/ its suppliers

A dynamic industry model w/ Walmart retail option

Blue: no Walmart retail option Green: Walmart retail option

R&D Investment

Blue: no Walmart retail option Green: Walmart retail option

Location of Walmart stores in 1997

Location of Walmart stores in 2007

Testing heterogeneous response prediction

Plant-level manufacturing census data, Mexico, n = 52,861

Testing heterogeneous response prediction

How large are vertical spillovers? • Which fraction of these estimates, if any, is a spillover? • Yes, Walmart transfers knowledge • But Walmart also requires low price, investments, more

effort…


effort…

Irsova-Havranek 2013 meta-analysis: •  “It is worth noting that the term ‘spillover’ has become

overused in the literature”


effort…

Irsova-Havranek 2013 meta-analysis: •  “It is worth noting that the term ‘spillover’ has become

overused in the literature”

•  “For simplicity, we follow the convention of calling productivity semi-elasticities ‘spillovers’ “

Horizontal FDI spillovers • Keller and Yeaple 2009 study horizontal spillovers from

FDI into the United States

•  Firm data from Compustat, about 1,300 firms

•  FDI data from U.S. Bureau of Economic Analysis

• Sample period: 1987 to 1996

One-year differences

Two-year differences

Three-year differences

Economic importance

• Contribution of FDI spillovers to productivity growth1987-96 •  FDI share of employment grew four percentage points •  Sum of FDI coefficients is 0.516 •  Average firm TFP growth is 19%

•  FDI spillovers contribute (0.516×0.04)/0.19 = 11 percent •  Using instrumental variables coefficients, this is 14 percent

• Economically significant—might justify FDI subsidies

Why do we get large horizontal spillovers? • What does not matter (much)

1.  Developed (versus less developed) country 2.  Publicly-traded, i.e. large firms 3.  Olley-Pakes to deal w/ selection, simultaneity 4.  Instrumental-variables estimation, versus OLS

• What does matter most •  Separating competition effects from spillovers

•  Gold standard: Bloom, Schankerman, van Reenen 2006

•  Data: Precise measurement of FDI

Tracking FDI in the host economy •  Example: Siemens is a diversified German multinational •  Suppose that in 1987, the industry distribution of Siemens’

15,000 employees in the U.S. is

•  Assume in 1988, the distribution is

•  US FDI data correctly records: small é elevators, ê trains •  Other countries’ data: Siemens goes from 100% elevators to

100% trains

Industry Elevators Industry 2 Industry 3 Industry 4 Trains

Fraction 21% 20% 20% 20% 19%


Fraction 19% 20% 20% 20% 21%




•  US FDI data correctly records: small elevators ê, trains é •  Other countries’ data: Siemens goes from 100% elevators to

100% trains


Fraction 21% 20% 20% 20% 19%


Fraction 19% 20% 20% 20% 21%




•  US FDI data correctly records: small elevators ê, trains é •  Other countries’ FDI data: Siemens goes from 100% elevators

to 100% trains in one year


Fraction 21% 20% 20% 20% 19%


Fraction 19% 20% 20% 20% 21%

US FDI data

Other countries’ FDI data

To conclude 1.  There seem to be sizable knowledge spillovers from

inward FDI

2.  Crucial for policy advice: distinguish spillovers from other effects

•  Especially needed, but hard to do, when estimating vertical effects

3.  Statistical agencies and international organizations should push for collection of detailed FDI data

•  Data on multi-product firms also an issue for non-FDI questions

Documents

FDI and Spillovers: What Role for Public Subsidies? Wolfgang Keller