Effects of Multinational Company Investments

Summary of working paper 9293
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If anything, both home and host countries would be worse off in a world without globe trotting multinationals.

While critics of globalization view the foreign ventures of multinational corporations as damaging exports, jobs, and wages at home and abroad, an exhaustive review of research into the effects of "foreign direct investment" credits multinationals with being far more beneficial than detrimental -- for both their "home" and "host" countries. In Home and Host Country Effects of FDI (NBER Working Paper No. 9293), NBER Research Associate Robert Lipsey asserts that there is little evidence that multinationals are guilty of the "many evils that are alleged."

Lipsey's study reviews economic research that has delved into various aspects of what happens when companies based in one country decide to expand their operations to a foreign country. Specifically, Lipsey is interested in whether foreign investments by multinational firms do what opponents of globalization claim they do: that is, lead to unemployment and reduced exports in the company's home country while depressing wages and exploiting workers in the host country.

Lipsey's analysis suggests that, if anything, both home and host countries would be worse off in a world without globe trotting multinationals. For example, examining the critique that a company's foreign operations inevitably will hurt domestic jobs and wages, Lipsey notes that among those who have studied the situation, such fears have "mostly dissipated."

Lipsey does not deny that problems, such as job losses at home, can occur when a domestic company invests in foreign production facility. But he notes that critics of globalization often fail to consider the broader picture. For example, in the United States, while there has been considerable attention to jobs lost because of a domestic firm shifting production abroad, less attention has been paid to how this may be offset by foreign firms investing in U.S. facilities. Lipsey notes that U.S.-based manufacturing employment and output provided by U.S.-owned companies indeed declined from 1977 to 1997, but "most of the reduction...was offset" by the increased output and employment resulting from an surge in foreign owned affiliates moving into the United States. "U.S. and foreign firms were both internationalizing," he writes. "Each group was expanding in the other group's home region."

Lipsey points to other instances in which a company's investment abroad provides benefits at home. For example, investing in a particular country may give a company access to markets that it would not be able to penetrate with a domestic operation alone. This has the effect of increasing the company's exports overall, the benefits of which accrue to domestic operations. In addition, having operations abroad can shield a company from the damaging effects of currency fluctuations and trade-inhibiting tax policies in the home country. In both instances, the foreign investment could end up protecting jobs at home by strengthening the parent company.

Overall, Lipsey argues it's not always or even often the case that an investment in production abroad "substitutes" for or displaces what would otherwise be production capacity at home. Looking at exports alone, Lipsey notes that economists have found more evidence associating foreign investments with an increase in home country exports than a decrease. Even in Europe -- where rising unemployment in proximity to an increase in foreign investment lead to suspicions that the two were related -- Lipsey notes that economists found foreign investment was more likely to boost rather than to reduce the host country's exports.

As for its effect on the foreign country, again, Lipsey finds little, if any, support for the anti-globalization gospel. For example, considering the charge that foreign investment leads to depressed wages and thus exploits "host country" workers, Lipsey finds that the opposite is true. "Within host countries it has been abundantly shown that foreign-owned firms pay higher wages than domestically-owned firms," he writes. Lipsey notes that foreign firms tend to be in "higher wage sectors," generally hire "better educated and more qualified workers" than locally-owned firms, and "tend to be larger and more capital intensive." He finds only sparse evidence of those higher wages having a "spillover" effect on wages paid by local companies, but he claims that whatever evidence there was points to an increase in average wages.

Lipsey observes that the research offers a mixed view of whether the presence of foreign firms has a positive effect on productivity in the host country, with some studies reporting a significant effect and others viewing the evidence as inconclusive. However, Lipsey believes that, with productivity in foreign firms generally superior, this "suggests that overall production is improved by the presence of foreign-owned operations, although that question is rarely, if ever, examined."

More conclusive, according to Lipsey, is evidence that foreign investment significantly boosts exports and economic growth in the host country. But he acknowledges that such an association "would not necessarily please critics of multinationals." For example, he notes that the encumbrances of trading relationships can be viewed as restricting a government's freedom to act domestically while "fast growth involves disruptions and the destruction of the value of old techniques of production and old skills."

"Those who value stability over economic progress will not be convinced of the worth of the gifts brought by foreign involvement," Lipsey observes. "That is especially true if the gains are captured by small elements of the population or if no effort is made to soften the impact of the inevitable losses."

-- Matthew Davis