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Is the relationship between inward FDI and spillover effects linear? An empirical examination of the case of China

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Abstract

This paper finds that the nationality of ownership of foreign investors significantly impacts upon productivity spillover effects, revealing a curvilinear relationship with foreign direct investment on data for overseas Chinese (Hong Kong, Macau and Taiwan) multinational enterprises, but not for other (Western) firms. This relationship is most pronounced for low-technology host industries. These findings suggest that the curvilinear form is more appropriate to the future study of the spillover effects of foreign presence.

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Notes

  1. The effect of productivity spillovers appears to be higher in cross-sectional studies than in panel data studies (Görg and Strobl, 2001).

  2. In Caves' (1974) scheme, only the competitive effect may exert either a positive or negative impact on spillovers, with the precise effect depending on industrial conditions. For instance, the survival of the most efficient LOEs, given low barriers to exit, is one of the theoretically positive mechanisms. The majority of studies support a positive effect of competition on LOEs' productivity (Blomström, 1986; Wang and Blomström, 1992).

  3. The appropriability ‘problem’ identified by Hymer (1960) and by Magee (1977) suggests that spillover benefits to rival LOEs will bear the signature of the foreign investor's technological advantages.

  4. Smarzynska (2002) argues that market-oriented FDI generates more spillovers than export-oriented FDI. It is widely accepted that OTHER FDI is market-oriented and HMT FDI is more export-oriented (e.g., Buckley et al., 2002). This lends further support to our argument for a linear relationship between OTHER FDI and LOEs’ productivity.

  5. The authors would like to thank an anonymous reviewer for suggesting this analysis.

  6. The authors are grateful to an anonymous reviewer for pointing this out.

  7. Editions of the Orientation Directory of Industries for FDI record the progress of laws and regulations relevant to specific sectors to comply with the State plan for national economic growth (Luo, 2000). Prior to 1978 inward FDI was prohibited. From 1978 to 1986 FDI was promoted in all but certain sensitive sectors (e.g., electricity, railways and financial services), but only in joint venture form. Controls on the numbers of foreign investors and ownership restrictions were then removed from 1987, with the exception of sectors of strategic importance (e.g., final assembly of transportation equipment, post and telecommunications network operation, power generation, aerospace and defence).

  8. Shaver (1998) argues that failure to control for selection of industry may lead to biased results. Admittedly, this selection problem can be better addressed with panel data.

  9. As is widely recognised in the literature, the fundamental problem with any instrumental variable is the difficulty of finding good instruments. There are no perfect instruments, and therefore caution must be exercised when interpreting results.

  10. This lack of perceptible impact may be partly caused by the exclusion of all but seven FDI-restricted industries from the regressions on the grounds of incomplete data. After excluding these typically sensitive industries, for which the government is unwilling to divulge full information, fewer industries that are FDI restricted are left in our sample. The insignificance of the dummy variable suggests that the selection of sensitive industries by the government has been appropriate, with no locally owned industry suffering deleterious impacts through inadequate protection from inward FDI.

  11. Most existing studies employ capital share to proxy foreign presence (FP). Following Blomström and Persson (1983), we also tried foreign employment share and found that this made no material difference to the results.

  12. The F-test is a formal way to compare the linear with the curvilinear specification in the context of our model. Indeed, the existence of the significant FP hmt 2 term alone is sufficient to reject the linear specification.

  13. The primary objective of this paper is to examine the form of the relationship between foreign presence and LOEs’ productivity. The key element of Hypothesis 2 is linearity rather than the sign of the relationship. Therefore, though FP other has a positive sign, Hypothesis 2 is rejected.

  14. According to Buckley et al. (2002), HMT firms’ FDI is concentrated in light industries. Their capital shares in these industries are as follows (with OTHER capital penetration in brackets for comparison): other food processing, 0.211 (0.136); cake and sugar confectionery, 0.211 (0.127); soft drinks, 0.186 (0.128); knitting, 0.225 (0.076); other textile products, 0.278 (0.138); clothes, 0.239 (0.098); toys, 0.397 (0.058); household chemical products, 0.072 (0.254); fishing equipment and associated materials, 0.273 (0.091); rubber tyres, 0.077 (0.17); household plastic groceries, 0.268 (0.077).

  15. The five breakpoints are very tightly clustered, and the choice of any of them makes very little difference to the size of the two subsamples. This also means that the selection of more than two subsamples is not feasible. We therefore chose the point with the highest significance.

  16. The evidence is that SOEs conduct the overwhelming majority of R&D in Chinese-owned industry.

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Acknowledgements

We thank three anonymous referees and the JIBS Departmental Editor, Professor José Manuel Campa, for their very constructive comments on our earlier versions of this manuscript.

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Authors and Affiliations

  1. Centre for International Business, University of Leeds (CIBUL), Leeds University Business School, Leeds, UK

    Peter J Buckley & Jeremy Clegg

  2. Nottingham University Business School, UK

    Chengqi Wang

  3. Business School, Ningbo University, China

    Chengqi Wang

Authors
  1. Peter J Buckley
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  2. Jeremy Clegg
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  3. Chengqi Wang
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Correspondence to Chengqi Wang.

Additional information

Accepted by José Manuel Campa, Deparmental Editor, 14 August 2006. This paper has been with the author for three revisions.

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Buckley, P., Clegg, J. & Wang, C. Is the relationship between inward FDI and spillover effects linear? An empirical examination of the case of China. J Int Bus Stud 38, 447–459 (2007). https://doi.org/10.1057/palgrave.jibs.8400274

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