This excellent book summarises decades of research on the economics
of multinational firms. A central puzzle economists pose is why
multinational firms choose to establish an overseas presence rather than
simply to export goods and services. The two main answers are to gain
access to potentially large markets that would otherwise be
closed--which the authors call horizontal foreign direct investment
(HFDI)--and to gain access to low-cost local inputs as part of a
strategy of global competitiveness--termed vertical foreign direct
investment (VFDI).
In the chapter on HFDI, the authors ask why multinational firms
sometimes set up 'greenfield' operations abroad rather than
simply merging with or acquiring a local firm. Mergers and acquisitions
'account for the dominant share of foreign direct investment (FDI)
flows, especially to high-income countries.' But greenfield
investments are still important; most host countries prefer greenfield
investments over mergers and acquisitions.
In the chapter on VFDI, the central question is how a firm will
divide its production processes across different locations with
different factor prices in the presence of 'trade costs' and
'disintegration costs.' VFDI flows between two countries will
not occur unless factor endowments are sufficiently different. However,
factor price equalisation will occur over time, partly as a result of
VFDI flows, and so VFDI may eventually be replaced by HFDI. Both,
however, are dependent on trade and disintegration costs.
Why are the international operations of firms sometimes'organised internally, in wholly owned subsidiaries' andsometimes 'externally, under arms-length contracts with independentlocal producers'? The main reason given for internalisation ismarket failure connected with arms-length contracts. According to theauthors, there are three types of market failures: the hold-up problem,the dissipation of intangible assets, and principal-agent relationshipsbetween multinationals and local firms. The hold-up problem occurs whena local firm has to make investments that are specific to thecontracting relationship. The potential losses caused by an alteredrelationship result in underinvestment. Even if you have a lot of other priorities for instance, sports, extracurricular activities, etc., still you need to complete a senior project to graduate successfullyThe dissipation of intangibleassets occurs when a foreign firm cannot avoid losing control overvalued assets because of its contractual relationship with a local firm.The principal-agent problem occurs because of hidden actions or hiddeninformation about local market conditions. The local firm may have aninterest in concealing local market information from the foreign firm.
Another chapter summarises large-n quantitative research on the
determinants of FDI flows and other indicators of multinational
activity. The main factors examined in this chapter are plant-level
economies of scale, firm-level research intensity, home- and
host-country market size, geographical distance (and other possible
barrier-related factors), and transportation costs. The so-called
'gravity model' explains much of the variance in
country-to-country flows of FDI so most empirical research controls for
gravity in measuring the impact of non-gravity factors. At the end of
the chapter, the authors provide suggestions about how to improve
existing quantitative research by allowing for a variety of motives for
foreign investment (HFDI, VFDI, and combinations thereof), by including
both firm-level and country-level variables in the analysis, and by
separating mergers and acquisitions from greenfield investments
empirically.
In summarising many empirical studies on the impact of
multinationals on host countries, the basic conclusion is that
'MNEs are indeed very different from local firms.' They are
larger and more efficient, they pay higher wages and employ more skilled
personnel. 'This is so because MNEs bring to host countries a
bundle of characteristics that are not necessarily available locally:
technologies, brands, management procedures, market access, and so
on.'
http://www.youtube.com/watch?v=hhhNLzLrZmc
A case study of foreign investment in Ireland, which has beensuccessful in attracting increasing inward flows of FDI, mainly from theUnited States, shows that Irish tax incentives had a lot to do with thedecision of multinationals to locate operations there. The authorsconclude with a warning of the possible negative consequences ofIreland's having to harmonise its taxes with other member states ofthe European Union.
A further chapter on the impact of foreign investment on home
countries concludes that this is generally positive because
'foreign investments are more likely to strengthen than to deplete home activities.' The authors are correct in noting, however, that
home-country effects are less well studied than host-country effects.
In the concluding chapters, the authors call for 'coordination
and supranational regulations ... to ensure that international markets
work in an efficient and beneficial way.' But they also argue that
'multinationals are a fundamental and efficient component of a
globalised world, not an enemy within.' They advise developing
countries to emulate Ireland which, in their view, 'successfully
managed to use its initial cost advantage to create long-lasting
linkages with foreign investors.'
This is an excellent book about the economics of multinationals and
FDI, although it will not be a popular work among opponents of
globalisation. Unlike other works, it does not ignore negative effects
of multinationals. It does not, however, discuss potentially negative
cultural impacts of the branding and marketing strategies of global
oligopolies. The authors put the onus on governments to see to it that
the positive benefits of globalisation can be felt beyond the narrow
circle of industrialised and industrialising countries.
I would recommend this book for graduate students and for advanced
undergraduates in economics or political economy programmes. It is
comprehensive in its coverage and clearly written, a worthy successor to
earlier summaries of the field.
Jeffrey A Hart
Indiana University, Bloomington, IN, USA
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