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DETERMINANTS AND EFFECTS OF FOREIGN DIRECT
INVESTMENT IN ROMANIA
*>y
IOAN VOICU
A Dissertation submitted to the
Graduate School New Brunswick
Rutgers, The State University of New Jersey
in partial fulfillment of the requirements
for the degree of
Doctor of Philosophy
Graduate program in Economics
written under the direction of
Professor Roger Klein
and approved by
New Brunswick, New Jersey
October 2000
UMI Number: 9991942
Copyright 2000 by
Voicu, loan
All rights reserved.
___
UMI
UMI Microform 9991942
Copyright 2001 by Bell & Howell Information and Learning Company.
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unauthorized copying under Title 17, United States Code.
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P.O. Box 1346
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2000
loan Voicu
ALL RIGHTS RESERVED
ABSTRACT OF THE DISSERTATION
Determinants and Effects of Foreign Direct Investment in Romania
by loan Voicu
Dissertation Director: Professor Roger Klein
This dissertation asks whether foreign firms are technologically superior to
domestic firms and whether there are any productivity spillovers from foreign direct
investment (FDI) in the Romanian manufacturing. It also analyzes determinants of FDI
volume and performance in joint ventures. The empirical analysis is based on
comprehensive firm-level datasets collected by the author from Romanian sources.
Chapter 2 examines whether foreign firms in Romania are technologically superior
to domestic firms by separately estimating the technology-related productivity
differentials between domestic firms and international joint ventures, and between
domestic firms and foreign wholly-owned enterprises. When comparing domestic firms
and international joint ventures, the estimation corrects for selection biases induced by the
unobserved heterogeneity in domestic firms knowledge of local markets. Both types of
foreign firms are found to exhibit a technological advantage in all manufacturing sectors.
Chapter 3 tests for productivity spillovers from FDI and investigates whether the
incidence of spillovers is related to the size of the foreign - domestic technology gap. The
ii
firm-level productivity measure is obtained from a semiparametric estimation of the
production function that controls for simultaneity and selection biases in input
coefficients. Unlike the previous literature using panel data, this study finds evidence of
productivity spillovers for aggregate manufacturing. These different findings are due to
different productivity estimation methods rather than to different country experiences. It is
also found that the spillovers concentrate in industries where the foreign - domestic
technological gap is not too big.
Chapter 4 investigates the impact of certain firm- and industry-level variables on
profits and FDI volume and profitability in joint ventures. The explanatory variables include
the market share of the firm, labor intensity, import competition and the participation of the
state in a joint venture. Multiple imputation based on Bayesian inference is used to cope
with the missing data problem that plagues the analysis. The findings suggest that a larger
market share and the participation of the state in joint ventures are associated with a larger
FDI volume and profitability. More labor intensive activities are likely to attract larger FDI
amounts, and a higher degree o f import competition favors profits and FDI profitability.
iii
ACKNOWLEDGEMENTS
I wish to thank Professors Roger Klein, Ira Gang, Rosanne Altshuler, and Penny
Goldberg for their many suggestions concerning the direction of this dissertation, and
Professor John Earle for providing part of the data that I used in Chapter 2.
iv
TABLE OF CONTENTS
ABSTRACT............................................................................................................................ii
ACKNOWLEDGEMENS................................................................................................... iv
LIST OF TABLES................................................................................................................ ix
LIST OF FIGURES...............................................................................................................xi
CHAPTER I: INTRODUCTION
1.1 Foreign Direct Investment in Romania - A Macro Prospective........................ 1
1.2 Purpose and Organization of This Thesis............................................................7
CHAPTER 2: A COMPARISON OF THE PERFORMANCE OF FOREIGN
AND DOMESTIC FIRMS IN ROMANIA
2.1 Introduction........................................................................................................... 11
2.2 The Choice between an International Joint Venture and a Wholly-Owned
Subsidiary.............................................................................................................. 17
2.2.1 Literature Review..................................................................................17
2.2.2 Outline of the Model............................................................................21
2.3 Empirical Methodology for the Comparative Analysis of Domestic and
Foreign Firms in Romania...................................................................................37
2.3.1 Empirical Models for the Comparative Analysis of Domestic and
Foreign Firms........................................................................................37
V
2.3.2 Total Factor Productivity Estimation...............................................46
2.4 Results.................................................................................................................. 49
2.5 Conclusions......................................................................................................... 56
Appendix A. Proofs of Propositions 2, 3, and 4 in section 2 .2 .............................. 58
Appendix B. Data Description and Preparation
Description of the Data................................................................................. 60
Definition of Main Variables........................................................................61
Constructing the Datasets Used in the Empirical Analysis........................ 62
Patterns of Major Economic Variables in 1996..........................................65
Appendix C. Probit Estimates of the Selection Equation.......................................68
CHAPTER 3: PRODUCTIVITY SPILLOVERS FROM FOREIGN DIRECT
INVESTMENT - EVIDENCE FROM PANEL DATA FOR
ROMANIA
3.1 Introduction...........................................................................................................69
3.2 Production Function Estimation.......................................................................... 75
3.2.1 Empirical Issues................................................................................... 75
3.2.2 Empirical Model................................................................................... 77
3.2.2.1 Theoretical Background........................................................78
3.2.2.2 Estimation.............................................................................. 81
3.3 Data....................................................................................................................... 87
3.4 Estimation Results.................................................................................................90
3.4.1 Estimation of the Production Function Coefficients....................... 90
vi
3.4.2 Productivity Measure.............................................................................93
3.4.3 Productivity Spillovers......................................................................... 96
3.5 Conclusions........................................................................................................ 108
Appendix D. Methods for Consistent Estimation of FDI Spillovers in the Presence
of Simultaneous Effects of Domestic Productivity on Foreign
Presence................................................................................................ I l l
CHAPTER 4: AN EXPLORATORY ANALYSIS OF THE
INTERNATIONAL JOINT-VENTURES PERFORMANCE
IN ROMANIA
4.1 Introduction........................................................................................................... 114
4.2 Hypotheses and Models........................................................................................116
4.2.1. Hypotheses........................................................................................... 116
4.2.2 The Models......................................................................................... 118
The FDI Model................................................................................. 118
The Profits Model............................................................................. 119
The FDI Profitability Model............................................................ 120
4.3 Data........................................................................................................................ 121
4.3.1 Data Sources and Variable Definition................................................. 121
4.3.2 Solutions for the Missing Data Problem.............................................. 122
4.3.2.1 Multiple Imputation under Explicit Bayesian Models 124
Procedure A ........................................................................... 125
Procedure B ........................................................................... 128
vii
Choosing the Number of Imputations m .............................132
4.3.2.2 Combined Estimates and Inference Results Following
Multiple Imputation.............................................................133
4.4 Empirical Results................................................................................................. 135
4.5 Conclusions...........................................................................................................142
BIBLIOGRAPHY................................................................................................................ 143
CURRICULUM VITAE..................................................................................................... 151
viii
LIST OF TABLES
Table 1.1. Dynamics of FDI in Romania between 03/20/1990 - 12/31/1996........................ 3
Table 1.2. The structure of FDI according to the value of foreign capital between
03/20/1990 - 12/31/1996 ....................................................................................... 5
Table 2.1. Comparison of labor productivity, outward orientation, and wages
between domestic and foreign-owned firms in manufacturing: ratios of
unweighted means.................................................................................................50
between domestic and foreign-owned firms: OLS estimates of the foreign
ownership coefficient controlling for sales........................................................ 51
Table 2.3. Comparing the level of total factor productivity between foreign firms
and domestic firms that were active between 1994 and 1996 .......................... 52
Table 2.4. Comparing the level of total factor productivity between international
ventures and all domestic firms that were active between 1992 and 1996 ......54
Table B1. Distribution by industry of the manufacturing firms that were active
between 1994 and 1996 ........................................................................................ 63
between 1992 and 1996........................................................................................ 64
Table B3. The Romanian manufacturing sector in 1996.................................................... 67
Table C l . Probit estimates of the selection equation.......................................................... 68
Table 3.1. Panel Information...................................................................................................88
I X
Table 3.2. Exit in the manufacturing sector in Romania, 1994 - 1996 ................................88
Table 3.3. Alternative estimates of production function parameters....................................91
Table 3.4. Ownership of the most efficient firms.................................................................. 95
Table 3.5. Impact of foreign ownership on the domestic firms' deviation from
sector level best practices performance............................................................... 101
Table 3.6. Impact of foreign ownership on the domestic firms' deviation from
sector level best practices performance by sector............................................ 103
Table 3.7. Replicating Aitken and Harrisons (1994) study: results for all
manufacturing......................................................................................................105
Table 3.8. Replicating Aitken and Harrisons (1994) study: results by sector.................106
Table 4.1. Empirical results for the FDI Model.................................................................... 137
Table 4.2. Empirical results for the Profits Model............................................................... 138
Table 4.3. Empirical results for the FDI Profitability Model............................................ 139
X
LIST OF FIGURES
Figure 2.1. Distribution of Entry Modes with Small Technology Gap and Large
Host Market Demand..................................................................................... 32
Figure 2.2. Distribution of Entry Modes with Large Technology Gap and Large
Host Market Demand..................................................................................... 33
Figure 2.3. Distribution of Entry Modes with Small Host Market Demand................ 35
xi
1
Chapter 1
INTRODUCTION
1.1 Foreign Direct Investment in Romania - A Macro Prospective
Romania was among the first East European countries to open the door to foreign
direct investment (FDI). In 1972, a law was passed that allowed the establishment of
international joint ventures with no more than 49 percent foreign ownership. However, the
effective results of this policy were very meager at that time for reasons such as Western
companies natural suspicion of communist governments and fears of new changes of the
political situation, bad regulations, bureaucratic inefficiency, etc.
Following the collapse of communist political hegemony in 1989, comprehensive
reforms to bring about transition to a market economy were initiated. The most important
economic challenges facing Romania at present are restructuring large state enterprises and
promoting stable, sustainable economic growth. Romania, like most East-European
transitional economies, views FDI as a major restructuring instrument, as such investments
can supplement the domestic capital pool and introduce Western management, technology
and market behavior.
The new Romanian foreign investment legislation enacted after 1989 is relatively
liberal and provides important incentives for foreign investors. FDI is permitted in virtually
all the economic sectors, full foreign ownership is allowed, and new investments can be
registered without governmental approval. There are no restrictions on the repatriation of
2
profits or of capital proceeds on the ultimate disposal of the investment. Foreign investors
are offered guarantees against nationalization and expropriation, and tax incentives such as:
extensive customs duty holidays (from 2 to 7 years depending on the size of investment) or
exemptions, VAT exemption for imports, and tax holidays (up to 7 years) or exemption on
income taxes. This favorable legal framework is one of the main factors which accounts for
the increase in the inflow of foreign capital from a close to zero level in 1990 to about US$
2.2 billion in 1996.
Macroeconomic stabilization in Romania began in 1994. GDP increased 3.4% from
1993, the private sector share in GDP reached 35%, exports increased 22.6%, imports
decreased by 5.5%, personal savings doubled and inflation dropped from 295.5% in 1993 to
61.7% in 1994. Years 1995 and 1996 were characterized by the continuation and
consolidation of the stabilization process. These positive trends also apply to FDI. Data
provided by the Romanian Development Agency (RDA) and shown in table 1.1 are relevant
in this respect. Glancing through table 1.1, we can notice that the volume of foreign capital
invested in Romania in 1994 was almost 4 times as much as the capital invested in 1993,
and in 1996 it reached twice the value registered in the previous year. As an important
positive trend, one can highlight starting from 1994 - a more rapid growth in the
amount of invested capital compared to the number of incorporated companies, which
reflects an upward swing in large volume foreign investments. The figures in columns (3)
and (4) of table 1.1 reveal that the growth rate in the FDI level was twice as large as that
in the number of investors in 1994 and 1995 and more than 4 times as large in 1996.
Another issue worth mentioning is the growing weight of capital increase in already
existing foreign firms compared to the capital of newly incorporated companies. As
3
column (6) of table 1.1 shows, the share of newly established companies with foreign
participation in total investment decreased from 100% in 1990 to less than 50% in 1995
and 1996. This trend suggests that already existing foreign investors trust the Romanian
economic potential and that they are committed to developing their activity in Romania.
The figures and facts presented above clearly indicate the progress of the Romanian
economy in general and of FDI activity in particular. However, as an American investment
banker put very well, one should not forget that everything is relative. 60% is still a very
high inflation rate; if the investors target return is 40% in "real" money he needs an
investment return in lei of 238%! There are not many legitimate investments that yield a
238% return (RDA, 1997a). Likewise, one has to compare the aggregate flows of FDI in
Table 1.1. Dynamics of FDI in Romania between 03/20/1990 - 12/31/1996
Year Investment
(U.S. $ mil.)
No. of
companies
Rate of increase (%) Share of new
investments in
total investment (%)
No. of
investing
countries
Investment No. of
companies
1990 106.7 1,479 - - 100.0 68
1991 148.7 6,154 139.4 416.1 99.9 84
1992a 307.4 12,235 120.4 160.3 96.4 103
19933 156.4 8,416 27.8 42.4 78.3 103
1994a 568.2 10,703 79.0 37.8 66.4 116
1995a 312.8 5,016 24.3 12.9 40.8 97
1996a 608.5 4,009 38.0 9.1 47.7 92
Total 2,208.7 48,012 66.5 138
a) Includes increases of capital for companies established in former years.
Source-. Romanian Development Agency
4
Romania with those in the other East European economies in order to correctly assess the
country's attractiveness for foreign investors. When such a comparative analysis is
performed, the initial optimism generated by the absolute figures is considerably attenuated.
While in terms of number o f joint ventures Romania holds a top position among the other
former socialist countries in the region, it occupies one of the last places according to the
volume of FDI. This specific feature of the FDI activity in Romania - that is, the existence
of a great number of small size foreign investments and a small number of important ones -
is clearly illustrated in table 1.2. Only 1% of the total number of commercial companies
with foreign participation account for about 77% of the total foreign capital invested in
Romania. Meantime, 95% of the enterprises with foreign participation own only 11% of the
invested foreign capital.
The polarization of FDI in very small and very large companies is not surprising for
a transition economy in which the market mechanism and institutions are not fully
functional. On the one hand, the large multinational corporations can survive in relatively
hostile conditions as they are able to follow long-term strategies while accommodating
short-term losses during the first years of operation. In addition, they can cope relatively
easily with the lack of country specific knowledge by having better access to the local
governmental institutions and to adequate technical and legal consulting. On the other hand,
small foreign investors can operate in a transition economy due to their small inertia: they
do not undertake large investment projects with long technological cycles and, therefore, are
able to quickly take advantage of favorable market circumstances when they occur.
From the point of view of the amount of capital invested, the distribution of FDI by
branches shows priority towards production: food industry 15.6%, machine building 12.4%,
5
tourism 5.7%, light industry 5.2%, banking 4.5%, transportation 4.2%, mining 3.8%,
services 3.8%, electronics 2.7%, and 2.1 agriculture, telecommunications 0.9%. According
Table 1.2. The structure of FDI according to the value of foreign capital between
03/20/1990-12/3 l/1996.a
Intervals (x $ 1000) No. of
companies
% o f all
companies
Capital
(in $ millions)
% of total
capital
Capital > 1000 254 0.6 1,391.2 70.7
Capital > 500 and capital < 1000 169 0.4 114.3 5.8
Capital >100 and capital < 500 882 2.0 191.7 9.7
Capital > 50 and capital < 100 817 1.8 54.3 2.8
Capital < 50 42,136 95.2 216.8 11.0
TOTAL 44,258 100.0 1,968.3 100.0
a) Due to a gap in the data collected from the Romanian Development Agency, the statistics do not include
the period 01/06/95 -12/31/1995.
Source: Romanian Development Agency.
to the RDA's "Annual Report - 1996", a rising interest has occurred in the following fields:
aircraft industry, chemical industry, electrotechnics, stocking and distributing oil products,
railway infrastructure modernization, and production and distributing of industrial gas.
From the distributional point of view, while foreign capital is present in all counties,
there is a high concentration of investments in Bucharest about 55% of the invested
capital and about 62% of the incorporated companies. Counties registering a higher level of
foreign investment at the end of 1996 are: Dolj (7.8%), Timis (5.8%), Constanta (3.8%),
Bihor (2.9%), Brasov (2.5%), and Dfov (2.5%).
Looking at the origin of FDI, OECD countries hold leading positions in terms of
both the value of invested capital (74% of the total foreign capital) and the number of
6
companies (51% of all established companies with foreign participation). The European
Union countries have 52% of the total invested capital and 36% of the set up companies.
From the geographical point of view and related to invested capital. Western Europe
takes first place (59%), followed by Asia 17%, North America 11%, Middle East 6%,
Australia 3%, and Eastern Europe 2%. Regarding the number of established companies with
foreign participation, 5 zones are distinguishable: Western Europe - 38%, Middle East -
30%, Asia - 16%, Eastern Europe - 6% and North America - 5%. At the end of 1996, the
top 10 investing countries were: Korea, Italy, Germany, The Netherlands, USA, France,
UK. Turkey, Luxembourg, and Switzerland. The largest single foreign investment in
Romania, amounting to nearly US$ 1 billion over 6 years, was undertaken in 1994 and
refers to a joint venture between the South Korean company Daewoo and the Romanian car
producer S.C. Automobile SA Craiova.
7
1.2 Purpose and Organization of This Thesis
This thesis provides a detailed analysis of the determinants and external effects (or
spillovers) of FDI in Romania. There seems to be general agreement in the literature
that the existence of knowledge-based firm-specific assets such as superior technology or
management know-how is an important condition for a firm to become a successful
multinational enterprise (MNE). These assets are much like public goods within the firm
in that they can be supplied at no cost to additional plants, thus leading to the efficiency
of multi-plant location. FDI then consists in part of supplying the services of the assets to
foreign operations. In other words, FDI is an avenue for technology transfer. If this is the
case, foreign firms in a host country should exhibit some type of technological superiority
relative to their domestic counterparts. The public good nature of foreign firms specific
assets makes it difficult for the foreign firm to appropriate all the returns expected from
its use, and favors the occurrence of technology spillovers to competing firms. These
spillovers represent one of the most important reasons why countries especially those
with old technology stocks such as developing and transition economies - try to attract
FDI by offering income tax holidays, import duty exemptions, and subsidies to foreign
firms that are often not available to domestic firms.
In its main part, this thesis employs comprehensive firm-level panel datasets to
answer two related questions. To what extent do foreign firms exhibit a technological
edge over their domestic counterparts in the Romanian manufacturing sector? Does
technology spill over from these foreign firms to domestic firms? These issues are
important from a policy perspective in that they could indicate whether subsidies to foreign
8
firms are justified at all and also provide guidance for Romanias policies aiming to
maximize spillover benefits.
Since the late 1970s, FDI and joint ventures in Eastern Europe have attracted
considerable attention. Following the collapse of the communist regimes, they have become
the focus of both the business and the academic sectors, but little systematic and in-depth
empirical quantitative research has so far been carried out to test the determinants of FDI in
these transitional economies, especially at the microeconomic level. In an attempt to fill this
gap, this thesis also analyzes firm- and industry-level determinants of FDI volume and
performance in joint ventures in Romania.
The thesis is organized as follows. Chapter 2 uses a balanced panel of detailed
firm-level data to examine whether foreign firms in Romania exhibit a technological edge
over their domestic counterparts by estimating the technology-related productivity
differential between foreign and domestic firms. To this end, total factor productivity of
domestic firms is compared separately to that of international jcint-ventures and wholly-
owned subsidiaries of MNEs. When comparing domestic firms and international joint
ventures, I explicitly account for selection biases in the OLS estimate of the productivity
differential induced by the unobserved heterogeneity in domestic firms knowledge of
domestic markets. The two-step estimation method used for this purpose explicitly
incorporates the joint venture formation process and it is based on a simple theoretical
model of an MNEs choice of entry mode in a developing country. When comparing
domestic firms and foreign wholly-owned subsidiaries, the downward bias in the OLS
estimate of the technology-related productivity differential induced by the domestic
firms superior knowledge of domestic markets is acknowledged. However, due to
9
extraordinary data requirements, this bias is not technically accounted for. I find that both
international joint ventures and foreign wholly-owned subsidiaries exhibit a technological
advantage in virtually all manufacturing sectors.
Chapter 3 employs a comprehensive firm-level unbalanced panel dataset to examine
whether any of the foreign firms technological advantage spills over to domestic firms
and how the incidence of spillovers is related to the apparent technology gap between
foreign and local firms. Methodologically, I approach these questions in two steps. In the
first step, I estimate a firms production function to obtain a measure of its productivity.
Productivity is modeled as a firm-specific, time-variant component of the production
function. The production function is estimated using a semiparametric method that corrects
for the presence of simultaneity and selection biases in the estimates of the input
coefficients required to construct a productivity measure. I explicitly incorporate firm exit
in the estimation and correct for the selection bias induced by liquidated firms. These
methodological aspects are crucial in obtaining a reliable firm-level productivity measure
based on consistent estimates of the input coefficients. In the second step, I examine in a
regression framework whether inter-temporal variations in sectoral and local FDI are
positively correlated with variations in domestic firms productivity, and whether
differences in the technology gap between domestic and foreign firms have any impact on
the relation between domestic productivity and foreign presence. In contrast with previous
studies using panel data, I find evidence of productivity spillovers for manufacturing as a
whole. These spillovers tend to be concentrated in industries where the technological gap
between domestic and foreign firms is not too big. Replication of earlier work reveals that
the findings in this paper differ from those in the previous literature using panel data due to
10
the different method of productivity estimation rather than due to different country
experiences. I find no support for spillovers from proximity to foreign firms.
Chapter 4 empirically investigates whether and how changes in certain firm and
industry related variables affect the size of FDL, net profits, and profitability of FDI in
international joint ventures doing business in Romania. For this purpose, I estimate
equations of FDI volume, profits, and profitability of FDI for a sample of representative
joint ventures in Romania. The explanatory variables include firms market share, labor
intensity, import competition, and the participation of the state as a partner in a joint
venture. To cope with the missing data problem that plagues the analysis, I employ multiple
imputation techniques based on Bayesian inference. I find evidence of higher volume and
superior performance of FDI in the presence of large market shares and with state
participation in joint ventures. Firms with more labor intensive activities are likely to attract
larger amounts of foreign capital and industries with a higher degree of import competition -
in contrast to initial expectations - favor profits and profitability of FDI during this stage of
reforms.
11
Chapter 2
A COMPARISON OF THE PERFORMANCE OF FOREIGN
AND DOMESTIC FIRMS IN ROMANIA
2.1 Introduction
A predominant view in the literature is that FDI is an avenue for technology
transfer; if this is the case, foreign firms in a host country should exhibit some type of
technological superiority relative to their domestic counterparts. This superiority as it is
usually stated - should manifest itself through higher levels of productivity in firms with
foreign equity. The rationale of this statement has to do with the assumption that
productivity can be related to the mix of activities undertaken by the firms, and the
efficiency with which resources are used to carry out these activities. Holding the activity
set constant, differences in productivity - it is asserted - are ultimately related to
differences in firm-specific knowledge such as technological and managerial know-how.
Consequently, testing for the technological superiority (or, more broadly, firm-specific
knowledge advantage) of foreign firms is usually achieved by testing for differences in
productivity between foreign and domestic firms. Sometimes, additional performance
measures (such as export-sales ratios, net exports and real wages) that are believed to be
associated with firm-specific knowledge are compared.
12
There is a large literature comparing different performance measures of foreign
and domestic firms in developing countries1. Several approaches have been used in
statistical analyses of the comparative performance of foreign and locally owned firms,
each of them giving rise to particular problems, both of methodology and of
interpretation.
One approach is to compare average performance indicators for the two groups of
firms for the economy as a whole, or for a major sector (e.g., manufacturing). It is then
possible to make statements to the effect that foreign firms have on average higher
productivity, or export larger shares of their output than domestic firms. The problem
with this approach is that it is not possible to say whether these differences are the result
of some foreign ownership related technological advantage or the result of other factors
which tend to be associated with foreign ownership. In particular, since foreign firms are
usually concentrated in particular industries and are larger than the average local firm, it
does not indicate whether the differences observed are the result of ownership, industrial
location or firm size.
Another, more disaggregated, approach is to compare foreign and local firms at
the level of different industries. This approach eliminates in part one of the possible
problems associated with the previous approach. However, it still does not deal with the
problem of firm size.
If information is available at the industry level but, in addition, is disaggregated by
ownership type and firm size classes, or, even better, is available on a firm-by-firm basis, it
1For a good review of theoretical issues and empirical evidence on the comparative behavior of foreign
subsidiaries and local firms see Jenkins (1990).
is possible to carry out a more sophisticated analysis, taking into account other variables in
addition to ownership. This is usually done through multiple regression, using a foreign
ownership dummy (equal to 1 for foreign-owned firms and 0 otherwise) as one of the
independent variables. This method makes better use of available information but is quite
demanding in terms of requiring strong assumptions underlying a complicated model.
Fajnzylber and Martinez Tarrago (1976), Morley and Smith (1977), Tyler (1978, 1979),
Newfarmer and Marsh (1981), Chen (1983), Blomstrom (1989), Kumar (1990), Aitken and
Harrison (1992), Haddad and Harrison (1993), and Athukorala, Jayasurya,and Oczkowski
(1995) are among the most notable works that used this approach.
Yet another approach is to collect information for pairs of firms - one foreign and
one local - matched usually by size and product line. Any observed difference between
the two types of firms is then attributed to the effect of ownership rather than the effect of
scale of production or industry. While this method has the advantages of simplicity and
weak assumptions, it does give rise to other problems. First, it is often applied to a small
number of firms and therefore raises questions about the statistical significance of the
results. Second, it can only be used in those industries where there are similar domestic
and foreign firms which can be compared. If large sectors of the economy are populated
exclusively or mainly with either local firms or foreign firms, focusing only on those
industries in which the two types of firms coexist may be misleading (Jenkins, 1990). It is
not surprising then that the matched paired method has been used very little in
comparative studies of foreign and domestic firms. Morley and Smith (1977), Chung and
Lee (1980), and Willmore (1986) are among the few studies that employ this method.
In addition to the specific problems mentioned above with respect to each of the
different approaches which have been used to examine the comparative performance of
domestic and foreign firms, there is a conceptual problem - unexplored so far in the
literature - which affects all the approaches when it comes to comparing total factor
productivity measures for the two types of firms. The problem is that productivity - in
contrast with the conventional wisdom - is related not only to firms technological and
managerial knowledge but also to its knowledge of domestic markets such as knowledge
of the domestic labor market, consumer preferences, potential problems associated with
production at particular locations, and the various cultural considerations that may impact
on the domestic product market (Yu and Tang (1992), Leung (1995, 1998)). Therefore, if
the comparison involves domestic firms and wholly-owned subsidiaries of MNEs (with
no domestic participation) the productivity differential - captured in a multiple regression
analysis by the OLS estimate of the coefficient on a foreign ownership dummy variable -
is related not only to differences in firm-specific knowledge but also to differences in
knowledge of domestic markets between the two types of firms. Since domestic firms
have superior knowledge o f their own domestic market, the firm-specific knowledge
related productivity advantage o f MNEs subsidiaries is likely to be underestimated.
If the comparison is carried out between domestic firms and international joint
ventures with foreign and domestic partners, the OLS coefficient estimate for the foreign
ownership dummy will again provide a biased measure of firm-specific knowledge related
productivity differentials, only the bias is more subtle. In an international joint venture, each
of the partners contributes something to the productivity performance of the firm. In
developing countries, in particular, the main contribution of the local partner is its
15
familiarity with the domestic market whereas the contribution of the MNE is the firm-
specific knowledge that it offers to a prospective domestic partner (Yu and Tang (1992),
and Leung (1995, 1998), among others). In addition, the local partners knowledge of
domestic markets plays - as suggested by Kogut and Singh (1988), Yu and Tang (1992), and
Leung (1995, 1998) - a role in an MNEs choice between establishing a wholly-owned
subsidiary or entering into a joint venture with an established domestic firm, and,
consequently, is a factor determining whether a domestic firm will attract foreign ownership
or not. This induces a selectivity bias problem: the foreign ownership dummy variable - that
also stands, in this case, for whether a domestic firm attracted foreign ownership - is itself
determined by the choices of the partners on the basis of expected profit, and unobservables
(such as knowledge of domestic markets) that influence the joint venture formation also
affect productivity. The OLS estimate of the foreign ownership dummy coefficient will
capture, in addition to productivity differentials due to foreign-domestic differences in firm-
specific knowledge, the effect of unobserved heterogeneity in local firms knowledge of
domestic markets.
One way to deal with this issue is to compare the productivity of domestic firms
separately with that of wholly-owned subsidiaries of MNEs and that c f international joint
ventures. Since there is no easy way to account for foreign-domestic differences in
productivity due to knowledge of domestic markets, the comparative analysis between
domestic firms and foreign wholly-owned subsidiaries would be carried out in the
traditional fashion. However, to alleviate the revealed drawback of the traditional approach,
a statistically insignificant coefficient estimate for the foreign ownership dummy should be
interpreted as evidence of foreign firms superior firm-specific knowledge. Under certain
16
simplifying assumptions, a two-step estimator can be used to account for selectivity biases
that arise when dealing with joint ventures.
This chapter investigates whether foreign firms in Romania exhibit a technological
edge by using the original approach described above - in addition to traditional methods - to
estimate the firm-specific knowledge related productivity differential between foreign and
domestic firms. Other performance measures such as export-sales ratio and real wages are
also compared using traditional methods. In order to obtain a measure of firm-level total
factor productivity, I apply econometric techniques from the panel data literature to
estimate a production function in which firm efficiency is modeled as an unobserved
firm-specific effect.
The chapter is organized as follows. Section 2.2 constructs a simple theoretic
model of an MNEs choice between an international joint venture and a wholly-owned
subsidiary in a developing country. This model will provide the underlying framework for
the empirical analysis carried out in the subsequent sections. Section 2.3 presents the
empirical models to be estimated for the comparative analysis. Section 2.4 presents and
discusses the estimation results. Section 2.5 contains some concluding remarks.
17
2.2 The Choice between an International Joint Venture and a Wholly-Owned
Subsidiary
This section constructs a simple model of a multinational firm's decision on
whether to enter a new market by forming an international equity joint venture with a
local firm or by setting up a new venture in the form of a wholly-owned subsidiary. This
model may seem too artificial as it excludes alternative entry options such as exporting or
licensing. However, exclusion of exports can be justified by taking transport costs into
consideration. If transport costs are high enough to outweigh the benefit o f producing at
home (i.e., no additional investment costs and higher productivity due to the availability
of location-specific knowledge), a firm will substitute exports by direct production in the
foreign country. Licensing could be deterred by the lack of proper patent protection
legislation, as is in fact the case in Romania.
The theoretical model of this section provides the underlying framework for the
empirical analysis of the comparative performance of foreign and domestic firms in
Romania carried out in the subsequent sections.
2.2.1 Literature Review
There is an extensive literature that studies the choice of an MNE on entering a
new market via a wholly-owned subsidiary or a joint venture with a domestic firm. Most
of this literature discusses, conceptually, various benefits and costs of one entry mode
18
over the other, or/and tackles the issue empirically. Theoretical treatments of the entry
mode choice are, however, sparse.
Empirical studies identify three main reasons for which joint ventures might be
preferred to wholly-owned subsidiaries. The first reason has to do with benefits of joint
ventures in the form of added efficiency (i.e., cost reductions). Because of complementary
skills, economies of scale and scope, and the local partners knowledge of the local
environment, a joint venture may incur lower operating costs and become more efficient
than a wholly owned subsidiary (see Stopford and Wells (1972), Harrigan (1985, 1988),
Kogut (1988), Hennart(1988), Pitt-Watson (1990)). Economizing on transaction costs can
provide additional efficiency benefits to joint ventures. As outlined by Beamish and
Banks (1987), Contractor and Lorange (1988), and Gomes-Casseres (1989), joint
ventures balance the benefits of combining complementary assets with costs associated
with managerial conflicts and shirking or leakage of proprietary knowledge. The second
reason is to enhance market power (see Stopford and Wells (1972), Hall (1984), Kogut
(1988,1991). The third reason is to placate host governments. Franko (1989), Contractor
(1990), and Gomes-Casseres (1990) argue that sole venture is generally preferred but
occasionally conceded in bargain with host governments.
Although many existing empirical studies implicitly assume that the objective of
MNEs is profit maximization, most theoretical research on entry mode choice focuses on
the costs of different entry strategies. For example, Hirsch (1976) and Rugman (1982)
suggest choosing the strategy with the minimum cost to serve foreign markets; Teece
(1986) uses the transaction costs framework to highlight the selection of entry mode that
incurs the lowest cost of technology transfer; and Anderson and Gatington (1986) propose
19
a modified version of the transaction costs approach that uses efficiency (i.e., the ratio of
output to input) to compare entry strategies. Although empirical studies do indicate that
the transaction costs approach provides a useful explanation of the entry mode choice,
Davidson and McFetridge (1985) and Gatington and Anderson (1988) caution that factors
other than transaction costs should also be considered. In fact, Grosse (1985) and
Contractor (1985) show that, in the same host market, the revenues generated by different
entry modes may not be the same, and therefore, the mode that minimizes costs may not
be the same as the one that maximizes profits. In addition, while recognizing the
economic benefits from joint ventures, the literature on entry mode choice generally
ignores the costs to the MNE that arise from sharing its profit with a local partner.
Recent research (Yu and Tang (1992) and Leung (1995, 1998)) - to which this
paper is most closely related - addresses the above issues in a more formal framework by
deriving models that compare expected profits from different entry strategies. Yu and
Tang (1992) use a Cournot competition model to investigate the impact of the profit-
sharing costs and the benefits of joint ventures to MNE on the choice of entry strategy.
These benefits include market-power enhancement, added efficiency due to the domestic
partners familiarity with the local environment, and risk reductions. In addition they also
study the role of local competitors in MNEs entry mode decisions. Leung (1995, 1998)
employs general equilibrium models to explore a foreign MNEs decisions on
establishing a wholly-owned subsidiary and/or forming a joint venture with a local
partner when there are intraindustry and interindustry technology spillovers. The
conditions under which an MNE that is considering horizontal integration into a host
country will elect to do so via a wholly-owned subsidiary and/or joint venture with a host-
20
country firm depend on the MNEs nontransferable firm-specific knowledge (i.e., an asset
with a public good nature, such as technology and management knowledge that can be
used within a firm but cannot be transferred to other firms) and the host-country firms
specific knowledge (i.e., the advantage of a local firm producing at a specific place).
Two gaps are apparent in this recent research as, in fact, in all of the previous
theoretical literature on entry mode choice. First, little is said about the profit sharing
mechanism. For example, Yu and Tang (1992) assume that the foreign ownership share -
which in their paper is the same as the profit share - is restricted by the host government
to 50 percent; in Leung (1995) a joint venture may occur only when one of the firms
makes losses under Cournot duopoly case in which the other firm holds all the joint
ventures profits; and Leung (1998) assumes that the foreign firms compete with each
other in searching for local partners and therefore, the profits totally goes to the host
country firms. The literature on joint ventures, especially that on international joint
ventures, is somewhat more generous in dealing with this issue. Following the
assumption that profit share is the same as the equity ownership share, two main
approaches are typically used in dealing with how' the joint venture resolves the degree of
ownership between two firms (and, consequently, the profit sharing problem). The first
approach assumes that the MNE chooses the level of equity ownership Pareto efficiently
(see Svejnar and Smith (1984), Purkayastha (1993), Gangopadhyay and Gang (1994)).
The second approach uses a Nash bargaining framework to explain the ownership share
distribution (see Svejnar and Smith (1984), Al-Saadon and Deis (1996), Veugelers and
Kesteloot (1996)). Both these approaches suggest, in general, that firm-specific,
nonmarketable assets, the value of outside options, and firm-(sector-) specific incentives
21
(e.g., tariff protection for the final product or tariff reduction on equipment and
components) or disincentives (e.g., excise duty or tariff on the import of a specialized
input necessary for the technology used in the joint venture) provided by the host
government have a strong bearing on the ownership distribution.
The second problem is that technology transfer costs are neglected. 2 Teece (1977)
developed unique data on the costs of intrafirm and arms-length transfers of technology
that upset the common assumption that information once developed costs nothing to
transfer. For example, in the average project that he surveyed, the costs of technology
transfer amounted to 19 percent of the total costs of the project receiving it. Teece found
that transfer costs vary considerably according to the transferors characteristics such as
the number of previous applications of the innovation (-) and the newness of the
technology (+), the transferees characteristics such as manufacturing experience (-) and
volume of sales (-), and the number of firms identified by the transferor as having a
technology that is technically similar to the technology underlying the transfer (-). He also
found that transfers to joint ventures are on average 5 per cent more costly than transfers
to wholly owned subsidiaries. Other evidence supports some o f Teeces findings (see
Tsurumi (1976), Sekiguchi (1979), Ramachandran (1993)).
This section aims to fill these two gaps by deriving a simple model of
multinational operation which includes the choice to enter a new market by forming an
international equity joint venture with a local firm or by setting up a wholly-owned
subsidiary.
22
2.2.2 Outline of the model
We consider a situation in which a producer (the MNE), M, of an established
product, Y, located in a foreign country (also called the source country) and possessing
superior, productivity enhancing (cost reducing), technological and managerial
knowledge - that is, firm-specific knowledge - has decided to manufacture this product in
a less advanced country (also called the host country), a market in which the MNE has no
previous production experience. The MNEs level of firm-specific knowledge is XFM. The
host country market structure consists of a local monopolist - the domestic firm H3 -
producing Y. Firm H possesses a level of firm-specific knowledge XFH, with XFH < XF {.
Following Yu and Tang (1992) and Leung (1995, 1998), we also assume that location-
specific knowledge in the form of familiarity with the domestic market is available to the
local firm without any cost and that this knowledge leads to productivity improvements
and marginal cost reductions. More specifically, location-specific knowledge includes
knowledge of, and experience with, the domestic labor market, consumer preferences,
potential problems associated with production at particular locations, and the various
cultural considerations that may impact on the domestic product market. Let Xl be the
level of location-specific knowledge of domestic firm H. The MNE lacks location-
specific knowledge in the host country (i.e., Xl = 0). Among the options for servicing the
host country two are potentially most profitable for the MNE: establishing a local wholly-
owned subsidiary or setting up an equity joint venture with the local firm. A wholly-
2Technology transfer costs are defined as the costs of transmitting and absorbing all of the relevant
knowledge unembodied in physical items such as tooling, equipment, and blueprints (Teece (1977)).
23
owned subsidiary benefits from the MNEs superior firm-specific knowledge but lacks
location-specific knowledge whereas a joint venture benefits from both the MNEs firm-
specific knowledge and the local partners location-specific knowledge.
Assume, for simplicity, a common constant returns to scale Cobb-Douglas
production function across firms within an industry (up to the intercept),
Y, = AiL,7K/"', (2.1)
where Y, is the observed output, L, is the labor input and K, is the capital input; A, is firm-
specific total factor productivity; i=0 for a foreign wholly-owned subsidiary, i=JV for a
joint venture between the MNE and domestic firm H, and i=H for domestic firm H 4
Taking into account the productivity enhancing effects of firm-specific and location-
specific knowledge, the total factor productivity of a domestic plant with no foreign firm-
specific knowledge can then be written as
A h =f(XFH)g(XO, (2.2)
that of an MNEs wholly-owned subsidiary with no location-specific knowledge in the
host country as
A0 =f(XFM), (2.3)
and that of an international joint venture benefiting from both the MNEs firm-specific
knowledge and the host firms location-specific knowledge as
Ajy = f ( X / ()g(XO, (2.4)
where/{.), and g(.) are positive increasing functions of XF and Xl, respectively. Let f(XF)
= exp(bFXF), and g(biXu ~ expfb^A'i), with bF> 0 and bi > 0.
3In Romania, a domestic firm only has one plant Therefore, I assume in the model that H has one plant
Due to this feature, the notions of plant and firm will be used interchangeably.
4 In the empirical section, we will relax the constant returns to scale assumption.
24
Cost minimization for each of the three types of plants yields the following
marginal costs:
for domestic plant H,
cH = = l c = ce-hFX-btXL (2.5)
Ah
for a foreign wholly-owned subsidiary,
c = = -rr-c = ce-bFX* (2.6)
A0 f ( X )
and for a joint venture with the local partner H,
cJ = = L -------! c = ( 2 7)
A /(-*?) g{ XL)
where c is a function of input prices, w (price of labor) and r (price of capital),
(2.8) c = w
f \ x~r f \ ~ r
- - y r
+ r
_ r r
1
v
l - Y
1 - y w
1 / g(Xi) and can be interpreted as the reduction in marginal cost due to location-specific
knowledge. The ratio /(XfH) / / ( X / 4) can be interpreted as the firm-specific knowledge
related cost advantage of the MNE.
Following Horstman and Markusen (1996) and Leung (1995), we assume that
opening the initial plant requires both a set-up cost of P(l) > 0 and a firm-specific fixed
cost F(Xf) > 0. P(l) captures such things as legal costs, cost of dealing with bureaucratic
red tape, costs incurred to meet the host countrys environmental, labor and/or work
safety standards, and, for FDI projects only, expenditures necessary to fulfill host country
requirements on FDI, e.g. securing permits from the host government. The / argument
allows set-up costs to vary across plants with differences in location within the host
25
country territory. Setting up any additional plant requires only P(l). The plant set-up costs
are higher for an FDI project than for a domestic wholly-owned plant due to various
expenditures necessary to fulfill host country requirements on FDI. To incorporate this
assumption, let P0 = Pfd/O), Pjv = PfdiO), and PH = PhO) with PH( ) < PfdiO) for any /,
be the set-up costs associated with a foreign wholly-owned subsidiary, a joint venture,
and a domestic plant, respectively.
F represents costs associated with acquiring firm-specific knowledge Xf, that is,
fixed costs incurred at the firm or company level that do not depend on the number of
plants of the firm but are increasing in A>. Let Fh = F(XfH) be the firm-specific fixed cost
of a host country firm. Since the MNE already has at least one plant in its home country,
setting up a new plant - in the form of either a wholly-owned subsidiary or a joint venture
- in the host country requires no additional firm-specific fixed cost (i.e., Fo = Fjv = 0 ).
In the case of the MNE forming a joint venture with a domestic firm, cooperation
costs may arise within the joint venture due to the fact that the parent firms usually have
conflicts with each other. As such, following Leung (1995, 1998), we assume that an
extra fixed cost, J, results from cooperating with partner H. Furthermore, in the case of
the MNE, establishing operations in the host country (whether via a wholly owned
subsidiary or a joint venture) requires a transfer of firm-specific knowledge from the
headquarters (located in the source country) that, to the extent that the MNE is more
technologically advanced than the host country firm, involves non-negligible costs. Teece
(1977) provides empirical evidence that the technology transfer cost is significantly
influenced by the transferors characteristics (such as the number of previous applications
of the innovation and age of technology), and by the transferees characteristics (such as
26
years of manufacturing experience and volume of sales). Following Teece (1977), we
assume that the technology transfer costs required for setting up a wholly-owned
subsidiary or a joint venture is an increasing function of the MNEs firm-specific
knowledge, and for the joint venture only is also a decreasing function of the local
partners previous manufacturing experience and size. Let To = T0( X / ) and TJV =
Tj i {X/ f, S) be the technology transfer cost for a wholly-owned subsidiary and for a joint
venture with domestic firm H, respectively; vector S includes the above local partners
characteristics in the pre-joint venture period, and dTo/dXp > 0, dTjiJdX? > 0, dTjy/dS <
0, To= Tiv = 0 i f XFM=XFH, and, following Teece (1977), T0 < 7>, V XFM, S.5
The market demand function in the host country is assumed to be linear, given by
p = a - Y (2.9)
where p and Y are price and total output, respectively, and a measures the size of the
market or the level of demand.
The sequence of decisions taken is as follows. First, the MNE decides on its entry
mode by comparing the net profits resulting from a joint venture arrangement with that
resulting from operating a wholly-owned subsidiary. If the joint venture yields a higher
pay-off than own development then the joint venture will be the preferred strategy;
otherwise, a wholly-owned subsidiary will be established. If a joint venture with the local
partner is formed, it is assumed that the joint venture replaces the domestic firm, so that
there will be only one firm in the market. If, on the other hand, a wholly-owned
subsidiary is chosen, there will be two firms in the market.
5 The condition To = Tj = 0 i f XM= X*1implies that there are no technology transfer costs if the
technology used by the MNE is similar to that used in the host country.
27
Second, if the joint venture is the preferred strategy, the MNE chooses its equity
ownership share (which is assumed to be the same as the profit share), a, subject to the
domestic firm accepting the MNEs offer of a joint venture. If own development is
chosen, the MNE chooses location / to minimize plant set-up costs and therefore
maximize profits. 6
Third, production decisions are made. A joint venture chooses output to maximize
monopoly profits. If the MNE chooses to set up a wholly-owned subsidiary, the two firms
in the market choose output in Cournot fashion.
If own development is chosen, the net profit for the MNEs subsidiary is
n 0 = (a - Y)Y0 - cY0 - ( P o - To) (2 . 1 0 )
and for the host firm H is
n = (a -Y)Yh - c H Yh - (F *Pn) (2.11)
The monopoly profit of a joint venture is:
Ujv = (a - Y)Y - C^Y- (Pjy + 7> + J) (2.12)
Deriving the first order conditions, the maximized profits under the wholly-owned
subsidiary strategy are: 7
n - = k l ^ l - iPo, r o)
n * = +F) (2.13)
Under the joint venture strategy, the maximized monopoly profits is:
6The implicit assumption here is that plant set-up costs represent the only location-dependent element in the
profit function.
7The second order condition necessary for profit maximization - the concavity o f the profit function with
respect to own output - is satisfied for linear demand and constant marginal costs.
Assuming that unless a joint venture is formed the MNE will set up a wholly
owned subsidiary, the MNE chooses the optimal ownership share in the joint venture, a ,
by solving
max a l l
J V
s i . ( l - a ) n ; K> n (2 . 15)
The local partners participation constraint is that its share of the joint ventures expected
profits, ( 1 - a)n*jv, should be at least as large as its maximum profit resulting from own
development in competition with an MNE subsidiary. Assuming n*jv > 0, the constraint
holds with equality. Optimal a is then
a = l - ^ ~ (2.16)
n
Ll j v
and the MNEs profit share is
a n j v = n j v - n h (2.11)
Using (2.17), the following joint venture condition can be formulated:
Proposition 1: A joint venture with local firm H will be preferred to a wholly-
owned subsidiary i f
r f j V- r f H> r f o (2.18)
Replacing the maximized profits with their expressions in (2.13) and (2.14), condition
(2.18) can be written as
29
{Pjy +TJV +J)
(,a + c - 2 c HY
+ (Fh +Ph) >
(a + c H- 2 c Y
~( Po+Tn )
4 9 9
(2.19)
Condition (2.19) implies that, in making a decision on the form of foreign
production operations, the MNE is confronted with a trade-off. Forming a joint venture
of the local partner, and enhances market power (less competition). These features favor a
joint venture. On the other hand, cooperation costs arise within the joint ventures,
technology transfer becomes more costly, and profits need to be shared with the local
partner with smaller share accruing to the MNE the smaller the cost advantage of the
MNE. These features favor a wholly-owned subsidiary.
From (2.19), it is straightforward to derive testable predictions about the influence
of set-up costs, Pjv, cooperation costs, J, and host firms determinants of the technology
transfer cost, S, on the strategy choice: other things constant, the lower Pjy, the lower J,
and the higher S, the more likely it is that a joint venture with local firm H will be the
preferred strategy. It can also be shown that a larger demand parameter, a, makes a joint
a
venture more likely for any given values of the other parameters.
The large number of parameters and the non-linearity in XL, X / 4, and X / 1 of
condition (2.19) makes it difficult to derive testable predictions regarding the influence of
location-specific and firm-specific knowledge on the MNEs entry mode decision and,
consequently, on the likelihood that the domestic firm will attract foreign participation,
8 Rearranging terms as in (2.20), it is straightforward to show that dRHS/da >0. The proof is available from
the author.
with a domestic firm reduces marginal costs by utilizing the location-specific knowledge
30
unless stronger additional assumptions are made. Depending on the other parameters of
the model, a higher level of location-specific knowledge, X of the domestic firm, for
example, may either decrease or increase the likelihood that a joint venture with that firm
will be set up. This change in Ax increases the relative benefits of a joint venture via
increased joint venture's profits (due to higher efficiency) and decreased profits of a
wholly-owned subsidiary competing with a stronger local rival but also increases its
relative costs via a smaller share of joint venture profit accruing to the MNE. As such, it
depends on the relative magnitude of the increases in benefits and costs (which in turn
depends on parameter values) whether a joint venture agreement will become more likely
or not.
To see in a more formal way how different parameter values may lead to different
predictions, consider the effect of Xl on the entry mode choice. Rearranging terms and
using (2.5), (2.6), and (2.7), condition (2.19) can be re-written as
, n { a- c e - b^ - b^ J {a + ce~b>x - 2 c e ^x" J (a + ce' h>x" - 2 c e ~ h^ ' J
4 9 9
+ (FH+PH) HT 0 + Po) - Tj r (2.20)
The first and second derivatives of the right-hand side (RHS) of (2.20) with respect to Xl
are:
dRHS
d X L
d 2RHS
= 2bt ce~bLX , - E2) (2.21)
dxL
where Ex =20e~lbyXt - 9e~2bhXf' > 0 ,
, = \6ce->x" +a(-9<r' * ' +4e- ' x") <0.
(2.22)
31
dRHS
The sign o f indicates the effect of Xl on the likelihood of a joint venture. A
d X,
positive sign, for example, means that a larger Xl makes a joint venture more likely.
d RHS . d 2RHS
and ------ :
dX, ax, 2
Graphically, knowing the signs of 7 7 and 7 2 would enable one to draw an
indifference curve in (for example) the ( P j y + J , X l) space, showing the values of P j y + J
and Xl where the MNE is indifferent between operating a wholly-owned subsidiary or
setting up a joint venture. This curve could then be used to identify the regions where
each of the two entry modes is preferred and to illustrate how changes in various
parameters may affect the entry mode choice.
Depending on the parameter values, one of the following three alternative
scenarios can occur.
Proposition 2. I f technology gap is small enough (i.e., 0 < XfM- XfH< In)
bF 9
1 Gce~bFX~brX
and the host market demand is large enough (i.e., a >-------------------- ), then a higher
level o f location-specific knowledge makes a joint venture with a host country firm more
likely (see proof in Appendix A).
Figure 2.1 shows the regions where one mode is preferred over the other for the
situation described in Proposition 2. Consistent with the signs of the 1st and 2nd derivative
of the RHS of (2.20), the indifference curve I is upward sloping and concave everywhere.
Notice also that curve I is everywhere above the line of height F + Ph + Po + To - Tjy.
32
Figure 2.1.
Distribution of Entry Modes with Small Technology Gap
and Large Host Market Demand
(Fh+Ph)+
(Po+T0)-Tjv
This is always the case, regardless of the other parameter values, because the gross
monopoly profit is larger than the sum of the Cournot duopolists gross profits, and
therefore the sum of the first three terms in (2.20) is positive. For any given Xl, the MNE
will enter the host market via a joint venture with a local partner for low values of the
joint ventures fixed cost, P j y + J, and via own development at high values of P j y + J.
Starting from a point A above the I curve, given the joint ventures fixed cost P j y + J =
(Pji-+J)a, an increase in the level of location-specific knowledge of the host countiy firm
to Xl8 will make a joint venture the preferred entry mode of the MNE. Given Xl Xl , a
decrease of joint venture fixed costs to ( P j y + J ) c due to a decrease in P j y relative to Po or
in ./will result in a joint venture arrangement. As discussed above, this is always the case,
33
dRHS dRHS
regardless of the other parameter values. Notice also that, since --------- and are
da dS
unambiguously positive, an increase in the demand parameter, a, or in the values of the
host firms determinants of the technology transfer cost, S, shifts the I curve up for any
given values of the other parameters, thereby making the joint venture more attractive.
Proposition 3. I f technology gap is large enough (i.e., Xffi - X / { > In) and
bp 9
2cE -16ce~*FXl?~bFX"
the host market demand is large enough (i.e., a > -----!------------------ -) then a higher
-9e~bfX'F + 4e~bfXf
level o f location-specific knowledge makes a joint venture with a host country firm less
likely (see proof in Appendix A).
Figure 2.2.
Distribution of Entry Modes with Large Technology Gap
and Large Host Market Demand
P j v + JF
: ... ........................ ' i . ^
(Pjv + J)a
(Ph+P h)+
(P o+3"o)'3jv
%
y ; - i- .V ~ J? if '.T7 - ;S-
34
situation described in Proposition 3. In this case, the indifference curve I is downward
sloping and convex everywhere. Starting from a point A above the I curve, if the joint
ventures fixed cost, Pjy + J, remains the same, a decrease in the level of location-
specific knowledge of the host country firm to Xl will make a joint venture the preferred
entry mode of the MNE.
Proposition 4. I f technology gap is large enough (i.e., X / 4 - X f { > In) and
bF 9
2cE -1 tee~bfX~bfX
the host market demand is small enough (i.e., a < ----- 5------------------ ), or i f
- 9 e hXh +4e~hrXf
technology gap is small enough (i.e., X / 4 - X / 1< In) and the host market demand
bF 9
1 6ce-bfXi'-b^ '
is small enough (i.e., a <-------- ), then an increase in the level oflocation-
9e-b>*r -4e~brXF
specific knowledge may either increase or decrease the likelihood o f a joint venture,
depending on the level o f location-specific knowledge as follows: I) i f the level o f
1 I f ,
location-specific knowledge is high enough (i.e., X , > In -), then an increase in
bL c ,
this level makes a joint venture less likely; 2) i f the level o f location-specific knowledge is
1 1 ,
low enough (i.e., X , < In -), then an increase in this level makes a joint venture
b, c ,
more likely (see proof in Appendix A).
35
situation described in Proposition 4. hi this case, the indifference curve I is bell-shaped.
1 1 E 2
Starting from a point above the I curve, in the region where X L < In , an
b, c j
increase in the level of location-specific knowledge of the host country firm holding the
joint ventures fixed cost P j y + / constant, will make a joint venture the preferred entry
mode of the MNE. Starting from a point above the I curve, in the region where
1 I E
X , > In - , it will take a decrease in the level of location-specific knowledge,
^L CE\
with the joint ventures fixed cost P j y + / held constant, to induce the MNE to enter via a
joint venture.
Figure 2.3
Distribution of Entry Modes with Small Host Market Demand
P J V + J j ;
WffioMy Ow ed Sutoeldtary
Xl -(1/bJln(E2/2cE1)
To conclude, the model of this section shows that productivity determinants such
as firm-specific and location-specific knowledge play a role in an MNEs entry mode
36
choice between a wholly-owned subsidiary and a joint venture with a domestic firm and,
therefore, are factors determining whether a domestic firm will attract foreign ownership
or not. The next section shows that with domestic firms that are heterogeneous in
unobserved location-specific knowledge, the fact that productivity and the MNEs entry
strategy depend on it generates a selection bias in the estimation of technology-related
productivity differentials between domestic firms and international joint ventures. For the
purposes of this study, the main product of this model is the joint venture formation
condition formulated in Proposition 1. This condition provides the selection equation that
will be used in the next section to account for the selection bias problem that plagues the
estimation of technology-related productivity differentials.
37
23 Empirical Methodology for the Comparative Analysis of Domestic and Foreign
Firms in Romania
2.3.1 Empirical models for the comparative analysis of domestic and foreign firms
This section presents alternative empirical specifications for assessing whether
foreign firms are technologically superior to domestic firms. The focus is on estimating
the productivity differential associated with differences in firm-specific knowledge (or
technology, in one word) between the two groups of firms. The theoretical model
developed in the previous section is used to formalize the problems that arise in the
estimation of technology-related productivity differentials between foreign and domestic
firms, and to propose an appropriate methodology for estimating these differentials. To
complement the productivity-based analysis, other performance measures that are
believed to be associated with firm-specific knowledge, such as export-sales ratios and
real wages, are also compared.
A first possible approach is to compare average indicators (for example, labor
productivity, export ratios) for the two groups of firms within a sector. Differences in
mean indicators can be conveniently estimated as the coefficient of a dummy variable
indicating whether a firm is foreign or domestically owned in the following two-variable
regression framework:
PIj = c + JFj +ey (2.23)
where PIj denotes firm f s relevant performance indicator, c is a constant, Fy is the foreign
ownership dummy variable (/} equals 1 for foreign firms and 0 otherwise), and ej is an
38
error term. A t-test may be used to determine whether the mean foreign-domestic
difference for each performance measure, that is, coefficient f is significantly different
from zero. Since foreign-domestic differences in scale sensitive indicators such as labor
productivity, export shares or real wages may simply reflect differential performance due
to different firm sizes, the second step is to compare weighted means - with the weights
given by total sales. 9 This is equivalent to analyzing conditional differentials in
performance measures in a regression framework
Plj = c + dSIZEj + fFj +ej (2.24)
where Plj and SIZEj denote firm f s relevant performance indicator and total sales,
respectively, and Fj is a dummy variable that takes on value 1 for firms with foreign
participation and 0 otherwise. This is the specification that is used, with slight variations,
in the literature. 10
For productivity comparisons the question is whether / measures the effects of
foreign ownership on productivity due to the existence of knowledge-based, firm-specific
assets (e.g., patents or other exclusive technical knowledge, copyrights or trademarks,
management, know-how, and the reputation of the firm) that are presumably associated
with it. Based on the theoretical model of the previous section, one can show, however,
9When comparing labor productivity measures, capital-labor ratio should also be controlled for since more
capital intensive firms also exhibit higher labor productivity. The dependence of labor productivity on scale
and capital-labor ratio can easily be proved in a production function framework. Empirical evidence
indicates that larger firms, in general, are more likely to export a higher share of output (Haddad and
Harisson, 1993). It has also been found in empirical studies of efficiency wages that, all other things
constant, large firms pay higher wages than smaller firms, presumably because shirking is harder to monitor
in larger firms (Brown and Medoff, 1989; Morisette, 1993; Globerman et al, 1994)
10It is worth noting that SIZE need not be included in the specification if the performance indicator is an appropriate
total factor productivity measure that was purged of scale effects. SIZE can also be excluded in labor productivity
comparisons provided that firms production functions exhibit constant returns to scale. However, since
accurate measures of returns to scale are difficult to obtain, including SIZE is desirable in most instances in
which labor productivity is used.
39
that using the dummy variable method (mean comparisons, for that matter) in order to
gauge firm-specific knowledge related productivity differentials, is not a satisfactory
solution.
If domestic firms are compared with wholly-owned subsidiaries of MNEs, the
productivity differential as measured by the OLS estimate of the foreign ownership
dummy coefficient is related to both differences in firm-specific knowledge and
differences in location-specific knowledge between the two types of firms. Since
domestic firms have superior knowledge of their own domestic market, the firm-specific
knowledge related productivity advantage of MNEs subsidiaries is likely to be
underestimated. To see this, rewrite productivity expressions for foreign wholly-owned
subsidiaries and domestic firms within an industry in (2.2) and (2.3) in log form by using
f(XF) = exptbrrXr) and g(X[) = exp(biXt), and assuming that domestic firms are
heterogeneous in unobserved location-specific knowledge and firm-specific knowledge is
constant among foreign firms in the same industry and among domestic firms in the same
industry:
InAj = bpXF1+ biXLj + Vj i f j is a domestic firm, (2.2)
InAj = b f X f 1+ Vj i f j is foreign wholly-owned subsidiary (2.3)
where v, is an i.i.d error term with mean 0 and variance <rv. The assumption of differential
levels of location-specific knowledge, Xq, among domestic firms seems warranted since
firms managers are likely to differ in terms of their experience with, and knowledge of
the domestic market. The assumption that domestic firms possess identical levels of firm-
specific knowledge, X / 1, is not unrealistic for a former centrally-planned economy like
Romania in which virtually all domestic firms were initially (and most of them still are)
40
state-owned and therefore usually shared technology advancements among themselves.
The assumption o f similar firm-specific knowledge levels among foreign firms is not
probably too unrealistic for Romania since foreign firms investing in manufacturing are,
with few exceptions, from developed countries with comparable technology levels.
Using the indicator variable Fj, productivity expressions in (2.2) and (2.3) can be
collapsed into a single equation,
InAj = Fj(bFXFKt + v j ) +( l - Fj)( bFXFH+ + vj (2.25)
The regression function giving the expected value of InA for firm j , given Fj, is
E[lnAj\FjJ = bFXFH+E[b[XLj\Fj=0]+Fj{bFXFM- bFXFH- E f r ^ ^ O ] } (2.26)
The term accompanying Fj in (2.26) is what is estimated by the OLS coefficient on the
foreign ownership dummy variable. This term includes both the firm-specific knowledge
related mean productivity differentials that we want to estimate (i.e., bFXF fbFXFH, and
the difference in mean productivity between foreign wholly-owned subsidiaries and
domestic firms due to location-specific knowledge differentials (i.e., 0-E[biX l}\Fj=0]).
Since data requirements make it difficult to account for differences in productivity due to
location-specific knowledge differentials, the comparative analysis between domestic
firms and foreign wholly-owned subsidiaries in this paper is carried out in the traditional
fashion. However, unlike in previous research, a statistically insignificant coefficient
estimate for the foreign ownership dummy is interpreted as evidence of foreign firms
superior firm-specific knowledge.
If the comparison involves domestic firms and joint ventures between foreign and
domestic partners a selectivity bias problem arises. The dummy variable - that also
stands, in this case, for whether a domestic firm attracted foreign ownership - is itself
41
determined by the choices of the partners on the basis of expected profit, and
unobservables that influence the joint venture formation also affect productivity. With
domestic firms that are heterogeneous in unobserved location-specific knowledge, the
dummy coefficient OLS estimate will capture, in addition to firm-specific knowledge
related productivity differentials, the difference in mean location-specific knowledge
related productivity between the local partners in joint ventures and the domestic firms
without foreign participation. To formalize these ideas using the framework of section
2 .2 , first rewrite the joint venture formation condition (2.18) rearranging terms
n V - n V n o > o (2.18)
Our final goal related to the joint venture formation condition is to estimate a reduced
form of it and then use the parameter estimates, as shown below, to construct a correction
term that will help us coping with the endogeneity of the foreign ownership dummy.
At this point, some observations are necessary to be made about condition (2.18).
In the simplified model of section 2.2, this is the condition under which an MNE chooses
to enter the host market via a joint venture with a domestic firm, or, to put it in other
words, the condition for a domestic firm to attract foreign participation, under the
assumption that there is only one domestic firm in the host country market. With n host
country firms, i f an MNE were able to explore the perspectives of a partnership with each
of the n domestic players, a joint venture with domestic partner j would be the preferred
entry mode if the MNEs share of joint ventures profit were larger not only than the
profit from own development but also than its profit share from a joint venture with any
42
of the other n- 1 domestic firms. 11 More usually, however, due to timing of entry and
market research cost considerations, the pool of potential joint venture partners that an
MNE would consider in its entry mode decision is far smaller than the whole population
of firms in the relevant industry. It is often the case that only one potential domestic
partner is considered based on previous contacts (e.g., sub-contracting or personal
connections at the management level). Consequently, (2.18) is not, probably, an
unrealistic joint venture formation condition. In addition, the data requirements would
make the estimation of the n-case joint venture formation condition (were the MNE able
to assess the perspectives of a partnership with each of the domestic firms) extremely
difficult. For these considerations, condition (2.18) rather then the n-case condition (see
footnote 1 2 ), is used in the empirical analysis of this section.
Define n / = (TI*jvj - n*//y) - n*o as the latent variable representing an MNEs
increment to net profits if it sets up a joint venture with local partner j instead of a
wholly-owned subsidiary. Also, define the indicator variable Fj to take a value of 1 for a
joint venture, and 0 for a domestic firm without foreign participation. The condition for a
domestic firm attracting foreign participation will then be summarized by the discrete-
choice equation:
Fj =1 i / U j ' > 0
Fj = 0 otherwise (2.27)
Since we are not interested in identification of structural parameters, we can approximate
n / as a reduced-form expression in exogenous firm and market characteristics that are
11 With n host country firms, an MNE will enter via a joint venture with domestic firm Hj if the following
inequality holds:
( n jij - n ffj) - max[n o , ( n m - n w/),...,(n jvj-i- n ^. /),( n jvt .i- n ...,(n jy -n #)] > o
43
observable to producers. To parametrize the reduced-form model, we assume, based on
(2.13) and (2.14) generalized for n host country Cournot competitors and on the
invariance of firm-specific knowledge among foreign firms and among domestic firms
within an industry, that within industry variation in n / arises from two sources:
observable differences in domestic firms characteristics (Zj) and noise (3 ):
FT, = pZj + Sj (2.28)
The vector Z} controls for factors found by Teece (1977) to have significant influence on
technology transfer costs, plant set-up costs, and coordination costs. It includes a
constant, previous firm size (proxied by the ratio of firm-level fixed assets to total fixed
assets of the largest firm in each sector) as a determinant of technology transfer costs,
export share in total sales as a proxy for coordination costs, and two location dummies to
capture regional variations in plant set-up costs that are common to all plants. 12 e}
represents a sum of unobservable differences in location-specific knowledge among
domestic firms, and an i.i.d error term with mean 0 and variance <jw, wj,
j = cXLj + wj (2.29)
where c is a constant that captures the effect of Xq on I f / . It is assumed that coviZ, , ej) =
0. Substituting (2.28) into (2.27), we obtain the basic estimating equation,
12 Previous firm size, volume of sales and export sales are measured for all domestic firms in 1992. This is
due to the fact that all the joint ventures recorded in the dataset were established between 1992 and 1994.
The assumption underlying the use of exports as a proxy for cooperation costs is that the local firms with
more intensive export activity are likely to be more exposed to international cooperation issues and hence
are likely to make the collaboration with a foreign partner smoother. In addition, more export activity may
also increase the likelihood that the potential partners had already established a contact via various trade
relations prior to discussing a joint venture set-up. The two location dummy variables divide the 39
Romanian counties into 3 categories: the reference category which includes Bucharest only and is
presumably associated with the lowest set-up costs due to the well developed infrastructure; a category with
somewhat higher set-up costs and which includes mainly Western and Transylvanian counties that are
perceived to be more developed than the rest of the country, though not as developed as Bucharest; and a
44
Fj= 1 i f pZj + j > 0
Fj = 0 otherwise (2.30)
Rewrite now productivity expressions for joint ventures and domestic firms within
an industry in (2.2) and (2.4) in log form \xsmgf(XF) = exp(bFXF), g(biXi) = exp(b[Xi),
and assuming that XLj is an unobserved random variable, i.i.d. normal across all domestic
firms (whether engaged in international joint ventures or not) with mean 0 and a standard
deviation of or
InAj = bFXF{ + Uj+ vj if j is a domestic firm, (2.2)
InAj = b fA>,v/ + Uj + Vj ifj is a joint venture that replaces the domestic firm j , (2.4)
where Uj biXij, and v i s an i.i.d error term with mean 0 and variance a,. It is assumed
that cov(vj, Xlj) = cov(Vj, wj) = cov(Wj, Xq) = 0. Using the indicator variable Fj,
productivity expressions in (2.2) and (2.4) can be collapsed into a single equation,
InAj = Fj(b?XFM + Uj + vj) + (1 - Fj)( bFA>" + Uj + vj
= bFXF" + Fj (bFXFM- bFXFH) + Uj + Vj (2.31)
The regression function giving the expected value of InA for firm j , given Fj, is
EfjlnAj \ FjJ=Fj{(bFXFM- b fXfh)+(E[Uj \ Fj =l]-E[Uj \ Fj =0])}+bFXF+E[Uj | F} =0] (2.32)
or, rearranging terms and using the identities E[Uj \Fj= 1] =E[uj\j > -pZj] and
E[uj I Fj = 0] =E[Uj\j <-pZj],
E[lnAj | F j J ^ p X f + F j f a X / ' - bpXFH)+Fj E[u} \q > -f3Zj]+(l - Fj) E[Uj | ^ < -fiZJ
=bpXFH+Fj(bFXFM- bFXFH)+pau[FjX (pZj/aj+(l - Fj) Xo(pZj/<jj] (2.32)
where: cru = bLcr \s the standard deviation of u;
high set-up cost category including the rest of the counties (most of which belong to the relatively backward
region of Moldova).
45
<ye = \%2<y2 + a 2w is the standard deviation of e ;
p= c, Ifbtcri) is the correlation coefficient between u and e ;
li(pZ/cr^ = [<p(pZj/Os) / <P(pZ/a^]\
Xo(PZ/<7s) = -qKPZ/a^ / [ I - <J>(PZ/aJ]
The term accompanying /} in (2.32) is what is estimated by the OLS coefficient on the
foreign ownership dummy variable. If Uj is correlated with } - and in this model Uj is
correlated with j through the presence of Xi} in both u3 and e, this term includes both
the foreign-domestic firm-specific knowledge related productivity differentials that we
want to estimate, and the difference in location-specific knowledge productivity between
the domestic firms selected as joint venture partners and the domestic firms without
foreign participation. The latter we want to control for since it has nothing to do with
foreign ownership. One way for achieving this is to use a dummy-variable version of the
two-step estimator proposed by Heckman (1976). This entails: 1) fitting (2.30) with
<P
probit and use the probit estimates of the ratios (J3 /at) to compute A, =
/ a
and
<P
-<p
='
v *
<D
; and 2) create A = A, + (l - ) i 0 and regress ln(Aj) on Fj
and A using OLS.
13
The methodology for obtaining In (A/) is described in section 2.3.2 below.
46
Ideally, one would estimate the model consisting of equations (2.30) and (2.32)
for each industry, separately. Due to the limitations of the available Romanian data,
however, the model will be estimated for the manufacturing sector as a whole rather than
for each industry separately. Therefore, the vector Zj in (2.30) will also include a set of
industry dummies to control for differences in domestic demand conditions and firm-
specific knowledge across industries. Correspondingly, equation (2.32) will consist of a
constant, A, a set of industry dummies capturing differences in domestic firm-specific
knowledge across industries, and a set of interaction terms between the foreign ownership
dummy and each of the industry dummies. The coefficient estimates on the interaction
terms will then capture the within industry productivity differentials due to firm-specific
knowledge differences between foreign and domestic firms.
2.3.2 Total factor productivity estimation
The estimation of productivity differentials between foreign and domestic firms uses
a firm-specific total factor productivity measure which takes into account the combined
productivity of the firms when all inputs are included. This section shows how it is possible
to compute such a measure using econometric techniques available for panel datasets.
We begin with a common Cobb-Douglass production function across firms within a
sector k (up to the intercept), with output Fas a function of three inputs, capital, labor, and
47
materials: 14
YJt = Aj Ljtbl KJtb2 MJtb3, (2.33)
where j indexes firms, t indexes time, and the measure of scale economies, b\ + b2+b3 , is
not constrained to be 1 (that is, the production function is not assumed to exhibit constant
returns to scale). An appropriate measure of the level of total factor productivity would be
an estimate of Aj which is assumed to vary across firms within each sector k. Schmidt and
Sickles (1984) have suggested a way to estimate these firm-specific productivity
measures by modifying standard techniques used for panel data. For each sector k, the
estimating equation in log terms is
logYj, = cij + bt logLj, + b2 logKji + b3 logMj, + ejt , j = I N, t = 1 T (2.34)
where a, = logAj is obtained by including N dummy variables which take on value 1 for
the corresponding firm / , and eJt is assumed to be an i.i.d random error term uncorrelated
with the input vector. Given the properties of eJt, the OLS estimator of a, bi, b2, and b3
(also called the within estimator') is the best linear unbiased estimator:
a j ^ Y j - b Vj, (2.35)
b = [Zj Z (VJt - Vj)(Vj, - Vj) [Zj Z, (Vj, - Vj)(logYj, - Yj) ], (2.36)
where b = [bi, b2, b3y , VJt is the 3xN matrix of log inputs, Y) = (1/7) YLjogYJt, and
Vj = (1/7) Z,Vj,.
Estimating the slope parameters b does not require the dummy variables for the
individual effects actually be included among the explanatory variables. Rather, the
variables can be transformed by subtracting from each cross-sectional unit the mean of its
14A translog specification was also tried but was discarded due to colinearities between the various terms of
the production function.
48
time-series observations, and then the OLS method without the intercept can be applied to
the transformed data,
YJ( - Yj = b (Vj, - Vj) + (eJt - e j , (2.37)
to obtain estimates of b. The estimates of the N intercept parameters can be computed as
the means of the residuals for each cross-sectional unit by using (2.35). These estimates
can then be used to construct the dependent variable in (2.32).
49
2.4 Results
This section presents the estimation results for the alternative empirical models
described in section 2.3.1. The estimation is based on firm-level data from firms' annual
balance sheet and income statements for 1992 and 1994 - 1996 collected by the
Romanian Chamber of Commerce and Finance Ministry. The total factor productivity
estimation and the traditional analysis of the relative performance of foreign and domestic
firms use a balanced panel dataset comprising information on 2,737 firms for 3 years,
1994 to 1996. The estimation of the technology-related productivity differential between
domestic firms and international joint ventures is based on a subset of 1,033 firms that
were active between 1992 and 1996. A detailed description of the datasets used in this
study is given in Appendix B.
Tables 2.1 and 2.2 compare the 1994 - 1996 relative performance of foreign and
domestic firms in terms of output per worker, exports as a percentage of total sales and
real wages. Table 2.1 reports performance measures as the ratio of the unweighted mean
of the performance indicator for foreign firms to that for domestic firms. As such, a value
of 3.0 for output per worker in the machinery & equipment sector indicates that worker
output is three times higher for foreign firms than for domestic firms, a difference that is
statistically significant at the 1% level. With very few exceptions, the statistics in table
2.1 suggest that foreign firms in Romania pay higher wages, export a higher share of
output, and display higher labor productivity. Differences in performance after controlling
for firm size - captured by the coefficient f of the foreign ownership dummy variable in
50
equation (2.24) - are shown in table 2.2 and tell the same story as the comparison of
unweighted means.
One problem with using labor productivity is that it is at best a partial measure of
overall multi-factor productivity. Total factor productivity estimates are therefore
calculated for each firm applying the methodology in section 2.3.2. for the 1994 -1996
panel.
between domestic and foreign-owned firms in manufacturing: ratios of
Sector Output
per worker3
Export as
% o f sales3
Real
wages3
food & beverages 1.62"^ 2 .6 8 *1* 1.14***
textile 4.70"* 3.57*'* 1.53*** '
clothing 1.62"' ""2786"r ' 1.15***
leather & shoes 1.92 1 .8 6 *** 1 . 0 1
wood products 2.25 1.51*" 1.16*
pulp & paper 3.58 0.38 1.64***
chemical products 1.50 0.90 1.06
rubber & plastics 2.05'" 0.75 1.31"*
metal products 2 .8 6 " 3.31"* 1.38*** "
machinery & equipment
_
3.19 2.62*** 1.51***
electronics & electric apparatus 4.07"* 0.76 1.46***
transportation equipment 3.42"' 0.94 1.05
a) Ratio of firm performance for firms with foreign ownership to that of domestic firms
Difference in means is statistically significant at the 10% level
*** Difference in means is statistically significant at the 1% level
Employing the log of total factor productivity as the dependent variable, equation (2.23)
is then estimated three times for each industry separately: first, using the sample of all
domestic firms and firms with foreign participation; second, using the sample of all
domestic firms and international joint ventures; and third, using the sample of all
domestic firms and foreign wholly-owned subsidiaries. Table 2.3 gives the OLS estimates
51
of the coefficient on foreign ownership in equation (2.23). A positive coefficient indicates
that productivity is higher for firms with foreign participation than for domestic firms.
between domestic and foreign-owned firms: OLS estimates of the foreign
Sector Output Export as Real
per worker % of sales Wages
food & beveraees

0.76 0 . 0 2 0.005'"
textile
_ mk k
0.56 0.42 0.018***
clothing 0.08
_
0.41 0 . 0 0 2
leather & shoes 0.19
_ * _**
0 . 2 0 0 . 0 0 1
wood products
_ .
0.27 0.13 0.006'
pulp & paper
*
0.84 -0 . 0 0 1 0.028'**
chemical products 0.28 0 . 0 1 0.004
rubber & plastics 0.34 0 . 0 0 1 0.014'**
metal products 0.49
^ a^ ifti
0.18 0.017***
machinery & equipment "b.381" " " 0 . 2 2 0.023'**
electronics & electric apparatus 1.37*** 0 . 0 2 0.023'**
transportation equipment 0.42'** -0.03 -0 . 0 0 1
a) Coefficients are estimated for each industry separately from a regression o f the
performance indicator on the foreign ownership dummy. A positive value indicates
higher indicator value among foreign firms.
*Statistically significant at the 10% level; ** Statistically significant at the 5% level;
*** Statistically significant at the 1% level
Glancing through the second column of the table, one can notice that firms with foreign
equity participation consistently exhibit higher levels of total factor productivity. The
coefficient estimates for the sample including all firms with foreign participation are
positive for almost all industries (except for wood and transportation) and positive and
statistically significant for 7 out of 12 industries. Similar results are obtained when
comparing domestic firms separately with foreign wholly-owned subsidiaries and
international joint ventures. When using the sample of domestic firms and foreign
52
wholly-owned subsidiaries, all industries except for wood display positive coefficient
estimates, and for 7 industries the estimates are statistically significant. Given the
Table 2.3. Comparing the level of totai factor productivity between foreign firms and
domestic firms that were active between 1994 and 1996
Sector
Coefficient on foreign ownership*
Sample of all domestic firms
and firms with foreign
participation
Sample of all domestic
firms and foreign wholly-
owned subsidiaries
Sample of all domestic
firms and international
joint ventures
food & beverages
. _ _
0.250

0.278
_ . __ 44*
0.407
textile 0.246 0.503 " -0.051
clothing 0.206 0.239 0.076
leather & shoes 0.086 0.077 0.214
wood products -0.031 -0.014 -0.139
pulp & paper 0.394 0.059 0.688 '
chemical products 0.171 0.151 0.066
rubber & plastics 0.134 0.139 0.127
metal products 0.399 * 0.444 0.535 m.........
machinery & equipment 0.832 , 1.177 * 0.717 *
electronics & el. app. 0.936 " 1.266 *'* 0.841 *
transportation equipment -0.057 0.854 -0.968
all manufacturing 0.294 0.332 * r..........o . 3 2 o .... ....... ..
N 2,737 2,605 2,508
a) Coefficients are estimated for each industry separately from a regression of total factor productivity on
the foreign ownership dummy. A positive value indicates higher productivity among foreign firms.
Statistically significant at the 10% level; ** Statistically significant at the 5% level; ** Statistically
significant at the 1%level.
downward bias of the OLS estimates shown in section 2.3.1, a proper interpretation of
these results would be that foreign wholly-owned subsidiaries exhibit a technological
edge over domestic firms in all industries. The coefficient estimates based on the sample
of domestic firms and international joint ventures are positive for all industries except for
textiles and wood, and positive and significant for 6 industries. As shown in section 2.3.1,
however, the OLS coefficient estimate on foreign ownership for the sample including
domestic firms and international joint ventures might not accurately reflect the foreign
53
ownership contribution (via firm-specific knowledge) to productivity performance. If the
MNEs tend to prefer cooperation with domestic firms with better (weaker) familiarity of
local markets, then domestic partners in joint venture will exhibit, on average, higher
(lower) levels of location-specific knowledge than the domestic firms that do not attract
foreign participation; therefore, the coefficient estimate on the foreign ownership dummy
will overestimate (underestimate) the impact of foreign ownership related firm-specific
knowledge on productivity.
Table 2.4 presents the results from comparing the productivity of international
joint ventures and domestic firms based on the two-step estimator discussed in section
2.3.1. At this point, some observations are necessary. Due to the fact that not all the
domestic firms in the 1994 - 1996 panel also existed in 1992 (the year for which the
selection equation (2.30) is estimated), the reference group of domestic firms used in the
two-step estimation is different from that used in the analysis of table 2.3. In addition, 53
joint ventures included in the samples in table 2.3 had to be excluded from the analysis
based on the two-step estimator due to lack of 1992 data on their domestic partners.
Therefore, the corrected estimates might differ from the OLS estimates due to different
comparison groups rather than due to the elimination of location-specific knowledge
differentials. To account for this inconsistency, we also show in table 2.4 (column 2) the
OLS estimates of the foreign ownership dummy obtained with the adjusted sample.
Whereas the estimates in column 2 do not substantially differ from their counterparts in
table 2.3, the corrected estimates, shown in the last column of table 2.4, are all positive
and significant (except for the coefficient for transportation), and have considerably
higher magnitude than the uncorrected estimates. For example, for the whole
54
Table 2.4. Comparing the level of total factor productivity between international
joint ventures and all domestic firms that were active between 1992 and 1996
Sector Coefficient on foreign ownership*
without correction with correction
food & beverages 0.535 (0.104) * 1.131 (0.342 U
Textile -0.047 (0.155) 0.649 (0.411 *
clothing 0.199 (0.136) 0.725 (0.318 *
leather & shoes 0.080 (0.271) 0.795 (0.476
wood products 0.234 (0.159) 0.820 (0.358
Pulp & paper 0.967 (0.281) 1.559 (0.429
chemical products 0.250 (0.150) * 0.854 (0.362 '*
Rubber & plastics 0.262 (0.176) 0.832 (0.358
metal products 0.765 (0.123) "* 1.344 (0.340 ***
machinery & equipment 0.942 (0.124) ** 1.509 (0.334 *
electronics & electric apparatus 1.258 (0.155) 1.796 (0.332
transportation equipment -0.452 (0.381) 0.203 (0.523
lambda -0.300 (0.164
all manufacturing 0.513 (0.046) " 1.602 (0.290 *
lambda -0.555 (0.146 "*
N 1,033 1,033
a) Coefficients are estimated from a regression of total factor productivity on industry dummies
and interaction terms between the foreign ownership dummy and the industry dummies. A positive
value indicates higher productivity among foreign firms. Standard errors are reported in
parentheses. For the corrected estimates, standard errors are computed based on the covariance
matrix corrected for heteroskedasticity and for the use of predicted lambda.
*Statistically significant at the 10% level; **Statistically significant at the 5% level; ***Statistically
significant the 1% level
manufacturing, the coefficient of 1.602 on the foreign ownership dummy variable
indicates that joint ventures technology-driven productivity is, on average, 5 (= e1 602)
times higher than that of domestic firms. The correction term, 'lambda', is negative and
significant at the 5% level. These results indicate that foreign partners do contribute with
superior firm-specific knowledge to the joint ventures performance in most
manufacturing sectors. The downward bias of the OLS coefficient estimate on the foreign
ownership dummy suggests that, at least for Romania, domestic partners in joint ventures
exhibit, on average, lower levels of location-specific knowledge than the domestic firms
55
that do not attract foreign participation. With Romania being the second largest East
European economy, and with Romanian firms technology lagging considerably behind
that of foreign firms, such a situation would be expected in the light of Proposition 3 in
the theoretical section.
56
2.5. Conclusions
This chapter examined whether foreign firms in Romania exhibit a technological
edge over their domestic counterparts by estimating the technology-related productivity
differential between foreign and domestic firms. When comparing international joint
ventures and domestic firms, we explicitly accounted for selection biases in the OLS
estimate of the productivity differential induced by the unobserved heterogeneity in
domestic firms knowledge of local markets. The two-step estimation method used for
this purpose is based on a simple theoretical model of an MNEs choice of entry mode in
a developing country. When comparing foreign wholly-owned subsidiaries and domestic
firms, the downward bias in the OLS estimate of the technology-related productivity
differential induced by the domestic firms superior location-specific knowledge was
acknowledged. However, due to the lack of appropriate data, this bias could not be
technically accounted for.
The main finding of the study is that foreign firms are technologically superior to
their domestic counterparts in virtually all manufacturing sectors. Without controlling for
location-specific knowledge related productivity differentials between domestic partners
in joint ventures and domestic firms without foreign participation, this superiority is more
evident for foreign wholly-owned subsidiaries than for international joint ventures.
However, once we control for such location-specific knowledge related productivity
differentials, the firm-specific knowledge advantage of foreign partners in joint ventures
becomes apparent in almost all sectors. This finding is strengthened by empirical
57
evidence of foreign firms higher levels of output per worker, wages, and export-sales
ratios.
58
Appendix A. Proofs of Propositions 2,3, and 4 in section 2.2
Proof o f Proposition 2
1 . 4 . \6ce~bfX^ ~bfX
0 < Xf 4 - XfH < In and a > jointly represent a
bF 9 9 e -v-vf _ 4e- ^ v
necessary and sufficient condition for ? < 0. The first inequality ensures that the term in
parentheses in ? is negative. The second inequality ensures that the whole second term in
d R H S RHS
E2 is negative enough so that E2 < 0. If E2 < 0 , > 0 a n d -------- < 0 follows from
d X L dX, ~
(2 .2 1 ) and (2 .2 2 ).
-bFxy-b,-x"
v h 1 , 4 , 2cE, -\ 6ce-F' F~F' F . . ,
Xf - Xf > In and a > ----- jointly represent a
bF 9 -9e~b^ + 4e ~hhXy
necessary and sufficient condition for 2 > 2cE/ (> 0). The first inequality ensures that the
term [-9e~hf Xf + Ae~hyX" ) is strictly positive. If this term were negative then, given that
2c, - 1 6ce if Ah' ~hrX" is always strictly positive, the second inequality of Proposition 3
, -bFXp ~bFXp
2cE 1
would become a <----- '------ ------------- < 0 - which cannot be satisfied with a > 0. The
-9e~bfXh +4e-bfXh
second inequality ensures that 2 > 2cE/ when (-9e~*'rX'/ + ) > 0.
dRHS . d 2RHS
< 0 a n d ------
d X , d X ,
If 2 > 2cEu ^ 77 < 0 and > 0 follows from (2 .2 1 ) and (2.22).
59
V H 1 , 4 2c, -l6ce~bFX~brX . . .
Xf - Xf > in and a < ------ jointly represent a
bF 9 - 9 e ' 6fAV + 4e~AfAf
sufficient condition for 0 < E2 < 2cy. The first inequality ensures that the term
{-9e~hF*F' +- 4e~hfXF ) is strictly positive a sufficient condition for ? > 0. The second
inequality ensures that E2 < 2cE/ when(9e_6fAr" + 4e~bF'x" ) > 0.
X fM - X fH < In and a < ^ ----------- jointly represent a second
bF 9 9e~bhXy 4e~byXf
sufficient condition for 0 < E2 < 2cEi. The first inequality ensures that the term
(-9e~AfA" +4e~bfX" ) is strictly negative. The second inequality ensures that the whole
second (negative) term in ? is small enough so that 2 > 0. So, the two inequalities
jointly represent a sufficient condition for 2 > 0. However, since 2 < 2c/ is true under
2cE 16ce~byXF~bfXF I u h\
a non-binding condition, a > ! (<0), when I- 9e~brXr + 4e~bFXf ) <
-9e~bFXh +4e~bFXf
0, then the sufficient condition for 2 > 0 is also a sufficient condition for 0 < E2< 2c/.
RffQ
If 0 < 2 < 2cEi, it follows from (2.21) t h a t -------- < 0 as long as 2 > ce*tXt,
dXL
(or X L > l n - ^ - ) and > 0 if 0 < E2 < (or X L < l n - ^ - ) .
bL c , dXL bL c ,
a 2Dfjc 1 1 r
From ( 2 . 2 2 ) , > 0 if E2 > 2ce~hLXLEx (or X L > - In^ - ) , and
dXL' bL 2c ,
<0 i f 0 < 2 < 2 ce' bLXL, (or X L < - \n ^ ) .
BX, 2 ' " bL 2c ,
1 . 4 . 16ce-bFXF~bFXF
Appendix B. Data Description and Preparation
60
This appendix presents an overview of the Romanian industrial data, along with
the calculation of major variables used in this study.
Description of the Data
The empirical analysis of the Romanian industrial performance is based on firm-
level data from firms annual balance sheet and income statements for 1992 and 1994 -
1996 collected by the Chamber of Commerce and Finance Ministry. The 1994 - 1996 data
include all enterprises with 20 or more employees in 1996, whereas the 1992 data include
all firms with 20 employees or more in 1992. A firms activity is described by a two-digit
Romanian nomenclature of economic activities (CAEN). Data were provided for fourteen
industrial sectors at the two-digit level of aggregation but due to the small sample sizes,
three sectors (electronics, electric apparatus, and precision equipment) were aggregated
for the purposes of this study in a single sector (electronics & electric apparatus). The
balance sheet and income statements contain standard statistics at the firm level,
including sales revenue, net value of plant, property & equipment, total exports,
employment, labor costs, material costs, net and gross profits, share capital, year of
establishment, county of location, and ownership type (state domestic, private domestic,
foreign, mixed).13 These variables are supplemented with industry level statistics on
volume of imports and exports, and national minimum wage information published in the
15A complete list of variables is available from the author.
61
Romanian Statistical Yearbook, industry average tariffs for 1995 provided by the
Commerce Ministry, and data on FDI value at the firm level provided by the Romanian
Development Agency (RDA). The RDA data cover the period 1990 - 1997 and include all
the FDI establishments with foreign capital equal to or greater than $10,000. The
variables in this dataset include the amount of FDI, share capital, main field of activity,
county of location, year of establishment, name of the firm and, for joint ventures, names
of the foreign and domestic partners.
For the purposes of this thesis, firms with foreign equity participation are
considered to be all the firms for which the share of foreign ownership of the firms
capital is greater than zero.
Definition of main variables
- Output is computed as total sales deflated by the producer price index (PPI).
- Capital input is computed as the net value of plant, property and equipment deflated by
the PPI.
- Labor input is expressed in terms of efficiency units and is computed as the total labor
cost divided by the minimum wage in the economy. This approach allows us to adjust, at
least partially, for a different skill composition among employees across firms.
- Material input is computes as total expenditure on materials deflated by the PPI.
- Firm size is given by the ratio of firm fixed assets to total fixed assets for the largest
firm in each industry.
62
- Sector level FDI is given by the ratio of foreign firms fixed assets to industry total fixed
assets.
- Firm level export share is calculated as the ratio of exports to total sales. Exports are
expressed using their f.o.b. (free on board) value.
- Firm level real wage is computed as the ratio of total labor cost to total number of
employees.
- Value-added = operating revenue (deflated by the PPI) + expenses with services
provided by third parties (deflated by the PPI).16
Constructing the datasets used in the empirical analysis
The main dataset used for estimating total factor productivity and carrying out the
regression analysis of the relative performance of domestic and foreign firms was
constructed in three steps. First, the firms in the 1994 to 1996 samples provided by the
Chamber of Commerce and Finance Ministry were matched by identification codes to
construct the main panel.
Second, the RDA information on firm-level FDI for all firms with foreign
participation, and names of the foreign and domestic partners for international joint
ventures was attached to the main panel. This step was particularly cumbersome since the
firms in the RDA dataset did not have identification codes. Therefore, the matching with
the firms in the main panel was done by using firms name, share capital, county of
16There are several equivalent definitions of value-added according to the European accounting standards.
We chose the one using available data.
63
location and year of establishment.
Third, all the firms that had missing information for at least one of the main
variables of interest were eliminated.
The above three steps resulted in a balanced panel dataset comprising information
on 2,737 firms for 3 years, 1994 to 1996. Table B1 shows the sectoral distribution of the
total number of firms and of the number of firms with foreign participation included in
the dataset.
between 1994 and 1996. ____
Sector Total no. of firms No. of foreign firms
food & beverages 705 87
textile 292 14
clothing 295 56
leather & shoes 123 22
wood products 290 24
pulp & paper 39 6
chemical products 146 15
rubber & plastics 99 11
metal products 397 32
machinery & equipment 193 17
electronics & electric apparatus 98 22
transportation equipment 60 2
Total 2.737 308
Note: Tobacco, printing & publishing, metallurgy, non-metallic minerals, and oil & coal
processing were excluded either because data was not provided or there was no foreign
firm in the sector.
The empirical model constructed in section 2.3.1 for evaluating productivity
differentials between domestic firms and international joint ventures is estimated on a
sample constructed in the following way. First we extracted from the 1994 - 1996 panel
all the international joint ventures that were established after 1992 and for which 1992
64
data on the domestic partner were available. We also extracted all the domestic firms. 53
joint ventures (out o f 132) were eliminated in this step. This step was quite demanding
since the firms in the 1992 dataset did not have identification codes. Therefore, the
matching with the firms in the 1994 - 1996 panel was done by using the firms name and
county of location.
between 1992 and 1996.
Sector Total no. of No. of domestic firms
domestic firms that became joint venture
partners between
1992 and 1994
food & beveraees 187 14
textile 194 6
clothing 57 9
leather & shoes 47 2
wood products 86 6
pulp & paper 18 2
chemical products 67 7
rubber & plastics 51 5
metal products 142 10
machinery & equipment 113 10
electronics & electric apparatus 43 7
transportation equipment 28 1
Total 1.033 79
Note: Tobacco, printing & publishing, metallurgy, non-metallic minerals, and oil & coal
processing were excluded either because data was not provided or there was no foreign
firm in the sector.
Second, we used the additional sample containing balance sheet and income
statement information on the main manufacturing firms for 1992 (sample size: 1704) to
attach to each selected joint venture 1992 data on its domestic partner and to each
domestic firm its own 1992 data. The 1992 data are used to construct the vector in the
probit equation.
65
The resulting sample consists of 1994 - 1996 data on 79 international joint
ventures, 1992 data on the 79 domestic firms that will later become joint venture partners,
and 1992 and 1994 - 1996 data on 954 domestic firms that did not receive FDI as of
1996. Table B2 shows the sectoral distribution of all domestic firms that were active
between 1992 and 1996 and of domestic firms that became partners in international joint
ventures between 1992 and 1994 included in the resulting sample.
Patterns of major economic variables in 1996
Table B3 presents patterns of major economic variables across different sectors in
the Romanian manufacturing industry for 1996 (the reference year used in constructing
the panel data sets).17 In terms of the number of firms (both foreign and domestic), the
largest sectors are food & beverages and clothing. In terms of the share in manufacturing
revenue, the chemical products sector emerges as a major sector besides food &
beverages. These facts are not surprising given the importance of agriculture and oil
processing in Romania. Output per worker is the highest in relatively capital-intensive
industries such as chemical products, electronics & electric apparatus, and food &
beverages. The most export-oriented sectors are clothing, leather & shoes, and wood
products which sell between 35 percent and 47 percent of their output abroad. The level
of tariff protection is the highest, by far, in food & beverages. Other sectors with
relatively high tariff levels are clothing and leather & shoes. Clothing occupies by any
measure a distant top place in terms of attractiveness to foreign investors. The other
66
sectors with relatively large foreign participation are food & beverages, leather & shoes,
and pulp & paper.
1' For a more comprehensive description, the statistics in table A3 are computed using all the observations
available in 1996 (not only those remaining after the matching process).
67
Table B3. The Romanian manufacturing sector in 1996
Sector N Nf L Sales
share
Lcost
VA
K
L
Q
L
Export
Sales
Foreign
share
Foreign
share
Foreign
share
Tariff
(%)
(%) (in % of
industry
assets)
(in % of
industry
employees)
(in % of
industry
sales)
(%)
food & beverages 1,091 224 206,112 23.01 0.15 3.78 60,032 2.02 18.00 11.95 25.23 145.4
Textile 409 45 171,110 6.28 0.38 2.48 17,586 25.27 3.32 3.98 9.33 25.4
Clothing 602 131 146,145 3.74 0.54 0.92 14,352 40.65 37.77 23.85 34.94 31.0
leather & shoes 250 82 83,859 2.96 0.40 0.48 19,258 34.01 12.60 13.42 17.89 36.4
wood products 462 80 150,833 5.72 0.29 0.80 22,110 46.31 11.13 6.83 13 11.7
pulp & paper 62 12 28,020 2.50 0.21 0.66 53,899 5.42 10.02 12.94 26.25 13.0
Chemical products 187 26 124,159 16.43 0.36 6.67 60,424 13.22 3.80 2.67 6.13 19.9
rubber & plastics 138 24 51,637 4.79 0.22 0.80 44,654 4.93 5.90 3.56 6.2 18.2
metal products 540 58 157,682 7.69 0.33 0.87 30,061 11.07 1.71 2.60 4.84 15.7
machinery & equip. 221 19 288,105 9.75 0.37 1.56 25,221 17.06 1.18 1.77 5.71 17.4
Electronics & electric 59 10 93,404 7.23 0.26 8.39 97,702 11.10 9.46 5.59 27.14 13.3
apparatus
Transportation equip. 40 2 154,457 9.89 0.33 1.32 25,057 11.52 14.12 3.17 12.17 15.2
Total 4,163 739 24.4
a) N = number of firms; Nf = number of foreign firms; L = labor; VA = value added; K = capital stock; Q = production. Variables are in thousands of lei where relevant.
R
e
p
r
o
d
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e
d

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i
t
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p
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r
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s
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e

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t

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.

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.
68
Appendix C. Probit Estimates of the Selection Equation
Table Cl presents the probit estimates of the discrete-choice equation (2.27) that
models the condition for a domestic firm to attract foreign participation. All the
independent variables in the model display the expected signs and are statistically
significant.
Table Cl. Probit estimates of the selection equation
V a r i a b l e n a m e P a r a m e t e r e s t i m a t e
Intercept -1.205 *
(0.200)
Size 0.595*
(0.319)
Export share 0.005
(0.003)
Set-up_l -0.335
(0.165)
Set-up_2 -0.453 *
(0.172)
N
Log likelihood
1,033
-263.34
a) Standard errors in ( ). The dependent variable is an index that takes on
value I if die domestic firm becomes a partner in an international joint
venture and 0 otherwise. The model includes sector dummies at the two-
digit level. Set-up 1 and Set-up_2 are dummy variables that takes on
value 1 if the firm is located in the region associated with the second and
third highest plant set-up cost levels, respectively. The reference category
consists of the firms located in Bucharest.
**Statistically significant at the 1%level; **statistically significant at
the 5% level; *statistically significant at the 10% level.
69
Chapter 3
PRODUCTIVITY SPILLOVERS FROM
FOREIGN DIRECT INVESTMENT
- EVIDENCE FROM PANEL DATA FOR ROMANIA -
3.1 Introduction
One of the most important reasons why countries try to attract foreign investment
is the prospect of acquiring modern technology, interpreted broadly to include process,
product, and distribution technology, as well as managerial know-how and marketing
skills. By facilitating - through income tax holidays, import duty exemptions, and
subsidies - MNEs entry in their national markets, host countries hope to gain access to
technologies and skills they do not yet possess. Since in the absence of perfect patent
protection technology to some extent is a public good, foreign investment can result in
benefits for host countries even i f the MNEs decide to carry out their foreign operations
in wholly-owned subsidiaries. These benefits take the form of various types of
externalities, and are often referred to as productivity spillovers. For example, local
firms may be able to improve their productivity by imitating MNEs technologies or hiring
workers trained by MNEs. Another kind of productivity spillover occurs if the increase in
competition induced by foreign entry forces local firms to use existing technology and
resources more efficiently or to search for new, more efficient technologies.
70
Despite the voluminous literature on FDI in the 1960s and 1970s, the empirical
evidence on spillovers from foreign sources of equity investment remains slim and
contradictory. Existing empirical studies differ considerably in their estimates of the
magnitude and significance of spillovers. On the one hand, a number of studies using
aggregate manufacturing data found that spillovers are generally important The earliest
study belonging to this group, Caves (1974), tests for the impact of foreign presence on
value-added per worker in Australian domestic manufacturing industries. Globerman (1979)
replicates Caves' study (1974) for Canadian manufacturing sectors. Both find some support
for the spillover benefit hypothesis. Some of the empirical work based on aggregate data has
focused on developing countries, especially Mexico which gathers manufacturing data by
ownership type. Blomstrom and Persson (1983) replicates Globerman's study using
Mexican data and finds a significant positive correlation between labor productivity and the
foreign firms' share of the labor force in a given sector. Blomstrom (1986) and Blomstrom
and Wolff (1989) extended the analysis of the Mexican sector-level data to examine the
effect of foreign presence on the dispersion of productivity and on the growth rate of total
factor productivity. Blomstrom (1986) finds that an increase in foreign ownership level
diminishes the deviation of productivity from the best-practice frontier but fails to increase
productivity growth, while Blomstrom and Wolff (1989) find faster productivity growth and
faster convergence of productivity levels in industries with higher levels of foreign
presence.
On the other hand, more recent studies using firm-level data suggest that spillovers
are not important in general, or that they do not take place in all industries. For example,
Haddad and Harrison (1993), using panel firm-level data for Morocco, find no evidence of a
71
positive effect of FDI on total factor productivity growth in domestic firms, and, therefore,
conclude that there are no spillovers. However, they note that increased competition
induced by foreign firms seems to bring domestic firms closer to the best practice
productivity in industries with low or moderately advanced technology. Aitken and
Harrison (1994) use plant-level data for Venezuelan manufacturing to test the impact of
foreign presence on total factor productivity. They found almost no evidence of positive
short-run spillovers of technology from foreign to domestic firms. However, they find that
domestic firms located near foreign firms tend to exhibit higher total factor productivity in
industries like wood or pottery and glass, where levels of technology are relatively low.
Based on a cross-section study of Mexican manufacturing, Kokko (1994) demonstrates that
positive spillovers are less likely in industries where high foreign market shares and large
productivity gaps between foreign and domestic firms coincide. Similarly, Kokko et al.
(1996a), using cross-section data from Uruguay, finds evidence of positive spillovers in the
group of domestic firms with moderate technology gaps vis-a-vis foreign firms, but not in
the group of domestic firms with large technology gaps.
The contradictory findings on FDI spillovers have caused a great deal of
uncertainty regarding policy recommendations for countries that aim to maximize the FDI
benefits. Early results showing that FDI is an important channel for the transfer of
modem technology to local firms imply that subsidizing foreign firms may be rational
from a host country perspective. By contrast, the finding of negative or no spillovers in
more recent work using disaggregate panel data suggests that special treatment of foreign
investors is not justified. Kokkos (1994) analysis implies that FDI promotion efforts
should not concentrate in sectors where advanced technology, differentiated products, and
72
scale economies are likely to lead to the emergence of foreign enclaves. In a similar vein,
Kokko et al. (1996a) suggests that general subsidies to foreign firms are not likely to pay
off. Rather, governments should channel their efforts towards sectors where their firms
are already competitive.
Results in Chapter 2 suggest that in Romania firms with foreign ownership exhibit
a technological edge in most manufacturing industries. This chapter uses a new data
source for the Romanian manufacturing sector to examine in a regression framework
whether any of this technological advantage spills over to domestic firms, and how the
incidence of spillovers is related to the apparent technology gap between foreign and local
firms. If the knowledge or new technology embodied in foreign firms is transmitted to
domestic firms, then sectoral FDI should be positively correlated with the productivity of
domestic firms. If spillovers take place - as the empirical evidence in Kokko (1994) and
Kokko et al. (1996a) suggests - mainly when local firms are initially not too far
(technology-wise) behind foreign firms, the correlation between sectoral FDI and
domestic productivity should be stronger for small productivity gaps between foreign and
domestic firms.
The main contribution of this paper to the existing literature on FDI spillovers is
in the measurement of firm-specific productivity. This is the first study that uses a firm-
specific time variant measure of total factor productivity estimated from a production
function that is allowed to vary across sectors. Previous studies using panel data either
employ firm-specific time invariant productivity measures (Haddad and Harrison, 1993)
or impose a common production technology across sectors (up to the intercept) (Haddad
and Harrison (1993), Aitken and Harrison (1994)). In order to obtain the firm-specific
73
productivity measure I estimate a production function in which firm efficiency is modeled
as an unobserved firm-specific effect. As shown below, a firms private knowledge of its
productivity affects firms choices of whether to liquidate, and of input quantities should
they continue, and thus induces both a selection and a simultaneity bias in the production
function parameter estimates. Since the productivity measure depends on these estimates,
their consistency is crucial for the analysis. Earlier studies usually correct for the
simultaneity biases induced by the correlation between productivity and input demands by
relying on simplifying assumptions about the unobserved firm heterogeneity such as time-
invariance. The FDI spillovers literature - and, in fact, most of the literature that deals in
one way or another with production function estimation has, so far, ignored selection
bias induced by liquidation. I employ the semiparametric estimation method introduced in
Olley and Pakes (1996) to take explicit account of the simultaneity and self-selection
problems. 18 This method produces a time-varying productivity measure based on
consistent estimation of the production function parameters; it requires no specific
functional form, and is tractable enough to incorporate in the estimation process.
As an improvement over studies using cross-sectional data, the availability of
panel data allows me to sort out simultaneous effects of domestic productivity on foreign
presence and control for omitted variable biases when testing for spillovers.
The main empirical findings are as follows. First, the production function
estimation indicates that selection bias caused by firm exit has a significant impact on the
capital coefficient in the production function. Controlling for self-selection increases the
capital coefficient estimate on average by 338% relative to the fixed effects estimate. This
18 I wish to thank Professor Penny Goldberg for suggesting me to use this method.
74
finding demonstrates the necessity of adjusting the estimation procedure to account for
this problem, especially in countries undergoing important structural adjustments like
Romania during the current transition period. Second, in contrast with previous literature
using panel data, I find some support for productivity spillovers from sectoral FDI.
Across all sectors, an increase over time in foreign presence in a sector tends to lower the
domestic firms productivity deviation from the best practice frontier. Third, productivity
spillovers seem to occur mainly where the technology gap between foreign and domestic
firms is not too big. Finally, I find no support for spillovers from proximity to foreign
firms.
Replication of earlier work reveals that the findings in this chapter differ from those
in previous research using panel data due to the different approach for productivity
estimation rather than due to different country experiences. Besides proving the sensitivity
of results to different productivity estimation methods, my findings are important from a
policy perspective. They suggest that general subsidies to actively promote FDI may not
be efficient in generating spillovers if the technological gap between domestic and foreign
firms is too big. Instead, FDI promotion should focus on sectors where the domestic firms
are already competitive.
The rest of the chapter is organized as follows. Section 3.2 provides an overview
of the empirical issues arising in the production function estimation, summarizes the
theoretical model guiding the estimation, and presents the estimation algorithm. Section
3.3 describes the data and summarizes descriptive statistics. Section 3.4 presents the
production function estimation results and uses the parameter estimates to analyze the
impact of FDI on domestic productivity. Section 3.5 concludes the study.
75
3.2 Production Function Estimation
3.2.1. Empirical Issues
Most of the recent literature on productivity spillovers from FDI uses a firm-level
productivity measure obtained by estimating a production function. Firm Fs technology at
time t is usually described by a Cobb-Douglas production function:
y = a + /3x + pk k + co + v, (3.1)
where y is the log of output, x is a vector of variable inputs (e.g., labor, materials), all
expressed in logarithms, k is the log of capital input, a, /?, and fik are unknown
parameters to be estimated, ojit is firm-specific productivity that is known by the firm but
not by the researcher, and v is either measurement error or an unexpected productivity
shock. (oit is known by the firm but not by the researcher, and v is known neither to the
firm nor to the researcher.
In this formulation, a firm-level productivity measure is computed as the
difference between a firms actual output and predicted output. For this reason, it is
important to obtain consistent estimates of the coefficients in the production function. A
firms private knowledge of its productivity plays a role in both its liquidation and input
choice decisions. Given that productivity is unobserved by the researcher, the fact that
shutdown and input demand decisions are based on it generates two problems in
estimating the production function parameters. First, the relationship between
productivity and input demands induces a simultaneity bias in the production function
estimation. If more productive firms are more likely to employ larger quantities of inputs
76
in production due to higher current and anticipated future profitability, OLS estimation of
a production function may yield upward biased estimates of the input coefficients.
Second, the relationship between productivity and the liquidation decision induces a
selection bias in the production function estimation. A production function is estimated
using only the firms that continue to produce. A firm decides to continue operations if its
expected profits exceed its liquidation value. A more productive firm is more profitable
today, it expects higher future profits, and, as a result, is less likely to close down. If there
is a positive correlation between a firms profits and its capital stock, given the
productivity level, firms with larger capital stock are more likely to stay in business at
i
lower productivity realizations than are firms with a lower capital stock. The expectation
of productivity conditional on the continuing firms is then no longer zero, but a
decreasing function of capital, leading to a negative bias in the capital coefficient.
The recent FDI spillovers literature employing firm-level panel data has accounted
for the simultaneity problem but it has so far neglected the selection bias resulting from
firms exit. Using the model of Schmidt and Sickles (1984), Harrison and Haddad (1993)
have corrected for simultaneity bias by assuming that the unobserved firm-specific
efficiency is time-invariant. The production function specified in (3.1) can then be
rewritten as:
y it = a + fix,, + pk k + to, + v, (3.2)
where co, represents the firm-specific, time-invariant productivity and it can be estimated
using a fixed effects model. 19 The fixed effects model partially accounts for the
simultaneity problem but it only removes the effects of the time-invariant firms
77
productivity component. During times of large structural adjustments such as transition to
market economy, the assumption .of time-invariant productivity is questionable, and the
fixed effects estimation may lead to biased input coefficient estimates. More importantly,
it is interesting to study whether a firms efficiency changes in response to temporal
fluctuations in the sectoral and regional FDI as a way of identifying productivity
spillovers from FDI. The assumption of unchanging productivity prevents one from doing
so.
The FDI spillovers literature - and, in fact, most of the literature that deals in one
way or another with production function estimation - has, so far, ignored selection bias
induced by firm exit. To my knowledge, Pavcnik (1998) is the only study that
incorporates firm exit in the estimation and corrects for the selection problem using the
methodology proposed in Olley and Pakes (1996); the productivity measure obtained
based on consistent estimates of the production function coefficients is then used to
analyze the impact of trade liberalization on firm productivity in the case of Chile.
3.2.2 Empirical Model
This section introduces the dynamic model of firm behavior on which the
productivity estimation is based, and describes the estimation algorithm. The firms
dynamic profit maximization model generates an investment demand function and an exit
rule that are then used to estimate the production function consistently. The estimation
19Aitken and Harrison (1994) also used fixed effects estimation as an alternative to OLS but, since the fixed
effects results did not differ significantly from the OLS results, they reported only the OLS estimates.
78
method consists of three steps. The first step estimates the coefficients on variable inputs
by using the investment demand function to control for the unobserved productivity. The
second step uses the exit rule to estimate the probability of a firms staying in business.
The third step uses the estimates of the variable input coefficients and survival probability
to estimate the coefficient on the fixed input.
3.2.2.1 Theoretical Background
The econometric analysis of FDI spillovers is based on production function
coefficient estimates obtained using the theoretical and empirical work of firm profit-
maximizing behavior in a dynamic setting presented in Ericson and Pakes (1995) and
Olley and Pakes (1996). The dynamic model of firm behavior in these papers allows for
firm-specific efficiency differences and firm-specific uncertainty about future market
conditions and investment. To sort out the simultaneity problem, the model specifies the
information available when input decisions are made. To account for the selection
induced by exit decisions, the model generates an exit rule. I now summarize the main
aspects of the model needed for the input demand and the exit rules.
A firms profits at time / are a function of its own state variables - capital k, and
unobserved productivity (o, -, factor prices, and a vector consisting of the state variables
of the other firms active in the market. A market structure is the collection of pairs (to,, kt)
for all active firms. Factor prices are assumed to be the same across firms and to evolve
according to an exogenous first order Markov process. It is also assumed that each firm
can easily adjust its labor force and the use of intermediate materials and, therefore, labor
79
and materials are treated as variable inputs. On the other hand, it is assumed that it takes
time to adjust the capital stock and, therefore, capital is considered a fixed input.
In each period, a firm decides on whether to close down or continue in operation.
A firm continues to produce if its expected future profit is larger than its sell-off
(liquidation) value. If it exits, it receives its sell-off value and never reappears again. If it
continues, it chooses variable inputs (labor, intermediate materials) and a level of
investment, which together with the current capital stock determine the capital stock next
period according to the capital accumulation equation
= (1 - S)kt + /, (3.3)
For econometric tractability, a firms productivity evolves over time as a first order
Markov process which ensures that the state variables in the current period depend on the
value of the state variables in the previous period.
A firms goal is to maximize the expected present value of its current and future
profits (net cash flows). Therefore, both the exit and the investment decisions will depend
on the firms beliefs about the distribution of future market structures given current
information. The firms problem can be described by the following Bellman equation for
the dynamic program;
V, ( co, k, ) = max{S, supIT, (cot k,) - c(i,) + p E [ ( c o , rl, k,^)\Ot]}, (3.4)
where n,() is the profit function giving current period (t) profits as a function of the firm
state variables, S is the sell-off value the firm receives if it exits, c(ij is the cost of current
investment /,, f5 is the firms discount factor, and fi, represents information available at
80
time t.20 The market structures and input prices that affect a firms profit and value
function but are the same across firms in period t are captured by the index t.
The max operator in (3.4) indicates that a firm compares the sell-off value (S) to
the expected discounted profits from continuing in operation. If the current state variables
indicate that staying in business is not worthwhile, the firm shuts down; otherwise, the
firm chooses an optimal investment level. As shown in Ericson and Pakes (1995) the
solution to this dynamic program generates a Markov perfect Nash equilibrium strategy
for firms exit and investment decisions - an equilibrium where firms beliefs of the
distribution of future market structures are consistent with the actual distribution of
market structures that the firms choices generate. The exit rule states that a firm
continues to produce if its unobserved productivity is no less than some threshold value
co, that is a function of the firms capital stock:
X, = 1 i f ah > ct)j (k,)
= 0 otherwise (3.5)
where X, is an indicator function that takes on value 1 if the firm stays in business in
period t and 0 if the firm exits. A firm chooses its investment based on its perceptions of
future productivity and profitability. The investment decision can then be written as a
function of the firms capital stock and productivity:
i, = it (a,, k,) (3.6)
The functions (Oj() and i,() are determined as part of the Markov perfect Nash
equilibrium and are indexed by t as they depend on the market structure and the factor
20Each industry is characterized by its own profit function. For simplicity, the industry and firm subscripts
are omitted in the notation.
81
prices prevalent when these decisions are made. The investment and exit rules can be
used in a production function estimation to generate a productivity measure.
3.2.2.2 Estimation
Following Olley and Pakes (1996), I incorporate investment and exit rules into a
production function estimation to obtain consistent estimates of the coefficients on capital
and variable inputs such as labor and intermediate materials. The estimation algorithm
consists of three steps: 1 ) obtaining consistent estimates of the coefficients on variable
inputs, 2) estimating the probability of a firm's staying in business, and 3) obtaining a
consistent estimate of the coefficient on capital.
Assume that an industry produces a homogenous product with Cobb-Douglass
technology described by the production function in (3.1). A firm can adjust its variable
inputs within each period to innovation in its private knowledge about the unobserved
productivity g* (so a firms choice of variable inputs can be affected by the current value
of co,). Capital (the fixed input) is, on the other hand, only affected by the distribution of
co, conditional on information at time M and past values of co. By inverting the
investment rule in equation (3.6), co, can be expressed as a function of observables (i.e.,
investment and capital) : 21
go, = //' Ob k,) = h, (iu k,) (3.7)
Substituting (3.7) into the production function specified in (3.1), we have
21 Provided that i, > 0, Pakes (1994, Theorem 27) shows that X ) is a strictly monotonic function of cd, - and
thus invertible in co, - for every k, if the marginal productivity of capital is an increasing function of
82
y, = fix, + f (I,, k,) + v, (3.8)
where
f (it, k,) = a + fik k, + h, (ib k,) (3.9)
The production function in (3.8) can be estimated using a partially linear regression
model, where the function h,() is approximated with a nth order polynomial series
expansion in (ib kj. More precisely, output is regressed, using OLS, on labor, materials
and terms consisting of the elements in the n* order polynomial expansion in investment
and capital, f . The empirical results presented here use a third order polynomial to
approximate f . Since the polynomial f controls for the unobserved productivity, the error
term in the production function is no longer correlated with the firms choice of variable
inputs and the estimate of the coefficient vector f i is consistent. 22 This is the first step in
the estimation algorithm.
The partially linear model in (3.8) identifies fi but does not allow to separate the
effect of capital on the investment decision from its effect on output and, thus, does not
achieve identification of the coefficient of capital, fik. If productivity is serially correlated,
productivity today contains information that a firm incorporates in its expectations about
its future profitability. The firm bases its investment decision at time t on its expectation
of future profitability and hence productivity. Since k,., includes (through the capital
accumulation equation) investment from previous period, i km is then correlated with
the conditional expectation of a*,, (conditional on current capital stock, and information
available at /), E[o),^\k,.u oh]- Expectation of productivity at i+l is a function of
83
productivity at /, and therefore, using (3.7), it can be written as a function of capital and
investment at t:23
E[co,~\\kt~\, co,] = g(co,) - a = g(ib k,) - a (3.10 )
Substituting (3.10) and expression of co, from (3.9) into (3.1) at f+1, and letting e,., be the
innovation in eo,*\, one can separate the effect of capital on investment from its effect on
output:
>i-i - P xi~\ = or + Pk k/Ti + E[cot,\\kt^ co,] + et~\ + vi*i
= pk k,,{ + g(co,) + e,., + V/.i
= pk k,ri + g(f, - pk kt) + ex+ v,. (3.11)
where e,., = - E[(o,^x\k,^h co,]. In the absence of firm exit, controlling for E[co,^\k,^,
a)J with observables ensures consistent estimation of the capital coefficient. Equation
(3.11) clarifies the need for the first step of the estimation algorithm. Since k is assumed
to be known at the beginning of period t+1 and e,., is mean independent of all variables
known at the beginning o f the period, e,., is mean independent of it,.,. Meanwhile, the
model allows for the possibility that variable inputs can be adjusted to realizations of e,.,.
meaning that x,., is not mean independent of the error term in (3.11) and thus justifying
the first stage of the estimation algorithm.
With firm exit, one only observes those firms that select to stay in business.
According to the exit rule in (3.5), a firm chooses to continue operations at t i f its
productivity at t, co,, is no less than some threshold co, that is through firms profitability a
22Andrews (1991) shows that the partially linear regression model with the series estimator of the nonlinear
part produces consistent and asymptotically normal estimates of the coefficients of the linear part of the
model.
23 A constant cannot be separately identified from the polynomial in investment and capital.
84
function of its capital stock. This truncation is responsible for a non-zero conditional
expectation of co, (conditional on information available at /-I and survival) that is
correlated with capital, thus biasing the capital coefficient Conditional on survival, (3.11)
can be written as:
yx- Px,.x = a + pk k,~x + E[cox\co, j Xx =1] + e,.x+ v,.,
= Pk k,,x+ Efco,.x|cob,co,~x>a),.x (k,+x)] + e,.x + v,.,
= Pk k,+l + gfa.a&.i) + e,,x+ vfM (3.12)
Note that the bias inducing expectation of co,,xis now a function not only of <ot but also of
the threshold value co,. Equation (3.11) showed how to control for co, but we also need
now to control for oo,.x. One can control for a>,~x by using the survival probability.
Following Olley and Pakes (1996), this probability can be written as a function of capital
and investment:
Pr{Xt,i = / | co,.i (k,^x), 2,}
= Pr{ co,.x >co,.x (kx)\a,,x(k), co,}
= <p, {q),-x(kx), co,}
= <pt (ib k,)=P, (3.13)
where first equality follows from the exit rule (3.5), and the third equality follows from
the capital accumulation equation (3.3) (which implies that kxcan be computed from k,
and /,) and (3.7) [i.e., co, = h,(ib k j ].
Provided the density of <o,~xconditional on co, is positive in a region about co,,xfor
every co,, equation (3.13) can be inverted to express co,,x as a function of P, and co,.
85
Equation (3.12) can then be rewritten with the bias term g( ) as a function of P, and co,,
both of which are functions of observables:
y, - fix,*, = pk kt + g(co,, P,) + + v,., (3-14)
As in (3.11), for given values of p and Pk I can condition on co, by conditioning on the
nonlinear term from the partially linear model in (3.8), that is by conditioning on
f = a + Pkk, + co,. Substituting^ intog, (3.14) becomes
y,~i - Px,^i = Pk k,~, + g(ft - Pk k , , P,) ~ e,~\ f vfi (3.15)
As such, capital at /+1 is no longer correlated with the unobserved productivity at /+1.
The second step of the estimation algorithm is to estimate the survival probability
P, which, from (3.13), is a function of k, and For this purpose, I use the kernel estimator
proposed by Klein and Spady (1992). In their approach, the estimator of the coefficient
vector 5 chooses the parameter estimates to maximize a quasi-likelihood function, that is,
a likelihood function in which the unknown survival probability function P(S) is replaced
A
with a kernel estimate P(S). A selection correction is more credible if it relies on
exclusion restrictions, in addition to assumptions about the functional or distributional
form. Investment can be considered such an exclusion restriction since it affects a firm's
survival probability (through its effect on future profitability) but does not affect its
output. I use total liabilities of a firm as an additional exclusion restriction, since this
indicator does not directly affect the output but does affect a firms ability to continue
operations.
The final step of the estimation procedure takes the estimates of P and f , from the
first step, and the estimate of P, from the second step, substitutes them into (3.15) for
86
their true values, and then obtains an estimate of by minimizing the sum of squared
residuals in that equation. That is, I estimate the following equation:
y,-, - p x ,., = Pt ki + g(f, - pkk, , P,) + e,., + v,., (3.16)
Here I use a series estimator of the unknown g(-) function, based on a third order
A A
polynomial expansion in (f, - Pkk,, PJ,
A x 3-m 3 / A x
= / . - A * , p. (3-l7>
_/=0 m=0 \ J
Since equation (3.16) is nonlinear in the capital coefficient /?*, I use the nonlinear least
squares procedure to estimate it. The resulting estimate of is consistent and
asymptotically normal. 24
24Pakes and Oliey (1995) prove Vn consistency and asymptotic normality of the capital coefficient when
kernel estimator is used for g(-)- Here 1use a series estimator and assume that the estimator converges
uniformly in parameter as well as data space in order to obtain asymptotic normality and consistency
results. The convergence results are proven for the series estimator over the parameter set but they have yet
to be proven over the data set. However, Olley and Pakes (1996) use both kernel and series estimators in the
last stage of the estimation and show that the results obtained with the 2 estimators are quite similar. They
conclude from here that it would be surprising if the series estimator did not have the same properties as the
kernel estimator; so, the convergence of the series estimator in the last step of the estimation is a technical
detail that still needs to be proven. In addition, the series estimator is much easier to compute than the
kernel estimator.
87
33 Data
The empirical analysis in this study is based on firm-level data from firms annual
balance sheets and income statements collected by Romanias Chamber of Commerce
and Finance Ministry for the years 1994 through 1997. The panel data set includes all
manufacturing firms with twenty or more employees and, in addition, all those with at
least twenty employees in 1996 but less than twenty employees in the other years and that
were active during the whole 1994 -1997 period. Firm identification codes for each
observation allow me to merge files into a single panel database sorted by firm and year.
The inter-temporal patterns of missing values for each firm can thus be used to identify
entering, exiting, and surviving firms. Firm entry is the appearance of a firm in the
database, either because it has just started up or because it has crossed the twenty-worker
threshold. Similarly, exiting firms drop out of the database, either because they adjust the
labor force below the threshold or because they have shut down. Compared to other
papers dealing with firm turnover, this study considerably reduces the likelihood of exit
reflecting labor adjustment below the threshold by including all the firms with at least 2 0
employees in 1996 and that were also found in each of the other three years regardless of
their workforce size. To further alleviate this problem, firms which entered and exited
repeatedly during the sample period were excluded from the analysis. The definitions and
construction of capital, intermediate materials, labor, output, value-added and sectoral
FDI are described in Voicu (1999). To these variables, I also added data on investment
which were recently provided by the Chamber of Commerce. Investment is computed as
88
the PPI deflated value of newly added plant, property, or equipment during a given year.
Basic descriptive statistics for the sample are given in tables 3.1 and 3.2.
Table 3.1. Panel Information
Year Number of
firms
Number of
domestic firms
1994 2,827 2,439
1995 3,313 2,724
1996 3,130 2,531
1997 3,984 3,181
Table 3.1 shows for each year the number of active firms with at least 20
employees. 2,202 firms - out of which 1,908 domestic firms - stay in the sample
throughout the period.
Table 3.2. Exit in the Manufacturing Sector in Romania, 1994 - 1996
Exit Statistic 1994 1995 1996
Number of firms exiting next year 321 369 256
- percent domestic firms 88.5 84.0 64.8
Exit Rates
All Firms
- Number of firms exiting dataset (percent) 2 2 . 1 17.3 8 . 2
- Number of firms exiting next year (percent) 11.4 1 1 . 1 8 . 2
Domestic Firms
- Number of firms exiting dataset (percent) 2 1 . 8 16.2 6 . 6
- Number of firms exiting next year (percent) 1 1 . 6 11.4 6 . 6
Exit rates weighted bv output
All Firms
- Number of firms exiting dataset (percent) 12.5 5.4 3.1
- Number of firms exiting next year (percent) 8 . 6 3.4 2.9
Domestic Firms
- Number of firms exiting dataset (percent) 14.2 5.6 2.4
- Number of firms exiting next year (percent) 9.5 3.6 2.3
89
Glancing through table 3.2, one can notice that out of 2,827 firms active in 1994,
22% are no longer active in 1997, with approximately 10% of the existent firms exiting
each year. The exit rates are similar when looking at domestic firms only. The exiting
firms accounted for 12.5% of the 1994 manufacturing output, and for 14.2% when
considering domestic firms only. 946 firms, out of which 760 domestic firms, exits the
sample between 1994 and 1997. Overall, this evidence suggests that firm exit is non-
negligible during the period under study, and, therefore, one would expect significant
downward bias of the capital coefficient in estimation procedures that ignore self
selection induced by firm closings.
90
3.4 Estimation results
3.4.1 Estimation of the Production Function Coefficients
Table 3.3 presents estimates of the input coefficients for the Cobb-Douglas
production function specified in (3.1). The production function is estimated on a two-
digit iSIC industry level. For comparison purposes, the results o f the three step
semiparametric estimation procedure are presented together with estimates based on the
fixed effects estimation.
It is apparent from table 3.3 that the coefficient estimates based on semiparametric
estimation are significantly different from the fixed effects estimates. They generally
move in a direction that indicates successful elimination of simultaneity and selection
bias. Endogeneity of input choices should lead to a positive correlation between the
inputs and the unobserved productivity term - a problem which is likely to be more severe
the easier it is to adjust the input to current productivity realizations. The fixed effects
estimation will only account for the bias if the plants productivity is constant over time -
and there were significant structural adjustments during the period under study. For this
reason, one would expect a positive bias in the fixed effects estimates o f the variable
input coefficients. In line with this expectation, table 3.3 indicates that the labor
coefficient from semiparametric estimation is lower than the fixed effects estimate in 9
out of the 14 industries included in the study. The expected bias is, however, less obvious
for the coefficient on materials. 25
25 The semiparametric estimation lowers the materials coefficient relative to fixed effects in only 3
industries.
91
Table 3.3. Alternative Estimates of Production Function Parameters
m
Fixed Effects Semiparametric
Sector Coef. Std. Er. Coef. Std. Er.
food & beveraces Labor 0.387 0.016 0.289 0.013
Materials 0.470 0 . 0 1 2 0.624 0 . 0 1 0
Capital 0.024 0 . 0 1 1 0.077 0.013
N 2767 1988
textile Labor 0.271 0 . 0 2 0 0.438 0.019
Materials 0.466 0.018 0.514 0.013
Capital 0.059 0.013 0.041 0.027
N 970 707
clothing Labor 0.576 0.019 0.528 0.014
Materials 0.290 0.016 0.358 0 . 0 1 0
Capital 0.075 0.015 0.137 0.018
N 1546 1106
leather & shoes Labor 0.366 0.024 0.466 0.023
Materials 0.389 0 . 0 2 1 0.341 0.016
Capital 0.023 0.018 0.161 0.025
N 613 433
wood Labor 0.340 0.026 0.269 0 . 0 2 0
Materials 0.572 0.023 0.645 0.018
Capital 0 . 0 1 0 0.016 0.092 0.014
N 1253 896
pulp & paper Labor 0.123 0.060 0 . 1 1 0 0.045
Materials 0.681 0.066 0.877 0.041
Capital 0.015 0.033 0.119 0.014
N 141 1 0 2
chemicals Labor 0.072 0 . 0 2 2 0.208 0.025
Materials 0.873 0 . 0 2 1 0.687 0.019
Capital 0.007 0.013 0.090 0.029
N 510 375
rubber & plastics Labor 0.298 0.031 0 . 2 0 2 0.029
Materials 0.536 0.031 0.620 0.023
Capital 0.066 0.024 0.148 0.031
N 380 275
nonmetallic Labor 0.468 0.040 0.291 0.025
minerals Materials 0.335 0.040 0.641 0 . 0 2 0
Capital 0.031 0.017 0.082 0.031
N 443 314
92
Table 3.3. Alternative Estimates of Production Function Parameters (continued)
( 1 ) (2 )
Coef. Std. Er. Coef. Std. Er.
metallurev Labor
Materials
Capital
N
0.397
0.555
0 . 0 1 0
258
0.031
0.035
0.018
0.376
0.611
0.108
190
0.036
0.025
0.024
metal products Labor 0.325 0.019 0.289 0.015
Materials 0.522 0.016 0.608 0 . 0 1 2
Capital 0.040 0 . 0 1 0 0.086 0.018
N 1301 943
machinery & Labor 0.303 0.030 0.384 0.027
& equipment Materials 0.361 0.024 0.448 0.019
Capital 0.079 0.015 0.131 0.025
N 557 412
electronics & Labor 0.358 0.033 0.378 0.039
electric apparatus Materials 0.585 0.030 0.569 0.023
Capital 0 . 0 2 0 0 . 0 2 2 0.137 0.034
N 355 255
transportation Labor 0.676 0.082 0.359 0.051
equipment Materials 0.234 0.066 0.503 0.040
Capital 0.133 0.037 0.183 0.046
N 2 1 2 156
A larger capital stock in a given period allows a firm to survive at a lower productivity
realization. Since the fixed effects estimation uses only changes over time and has to
discard those firm-year changes in productivity that induce the firm to close down, one
might expect a large negative bias in the capital coefficient generated by selection. If the
endogeneity of input choices is also taken into account, one would expect the direction of
the bias of the capital coefficient to be ambiguous - upward if the simultaneity problem is
more severe and downward if the selection bias is more important. By going from fixed
93
effects to the semiparametric procedure the estimates of the capital coefficient in table 3 . 3
increase considerably for all industries but one (textile). By accounting for firm exit,
semiparametric estimation produces estimates that are 338% higher on average than those
obtained with fixed effects. 2 6 This finding stresses the severity of the selection problem
induced by the exiting firms, reconfirming the necessity of adjusting the estimation
procedure to account for this problem, especially in countries undergoing important
structural adjustments like Romania during the current transition period.
3.4.2 Productivity Measure
The input coefficients based on semiparametric estimation from column (2) of
table 3.3 can be used to construct a measure of firm-level total factor productivity. The
level of productivity is often examined relative to the level attained by the most efficient
firm in each industry j . In every industry, the productivity index is obtained by subtracting
firm f s predicted output from its actual output at time t and then comparing it to the
productivity of the most efficient firm in that industry at time /. This methodology has
been used in Haddad and Harrison (1993) with time-invariant productivity and in
Cornwell et al. (1990) with time-variant productivity.
The productivity of the t h firm in period t is computed as27
W, = y,t - fix,, - fa ki (3.18)
26Relative increases in the capital coefficient estimate by more than 100% were also found in Olley and
Pakes (1996) - 137% - and Pavcnik (1998) - 382%.
27For simplicity, the industry subscript j is omitted from the notation.
94
At time t, the productivity of the most efficient firm in industry, that is, the best efficiency
frontier, is
a, = Max, (to,,), (3.19)
The productivity index for firm / at time t is given by the deviation of its productivity
from the efficiency frontier,
du = 4 - 4 (3.20)
A large value for d (in absolute value) indicates that firm / is very inefficient relative to
the most efficient firm in industry.
Table 3.4 shows the ownership of the most efficient firms in each sector for each
of the four panel years. It is worth remarking that foreign ownership is associated with the
best industry practice for 21 out of the 56 industry-year combinations. Moreover, for 42
industry-year combinations, at least one of the 5 most efficient firms is foreign-owned,
and for almost half of the industry-year combinations, at least two of the 5 top performers
are foreign firms.
95
Table 3.4. Ownership of the Most Efficient Firms
Sector Year
Ownership o f the
firm with the
highest productivity
Number o f foreign
firms with productivity
in the top 5
food & beverages 1994 Domestic
2
1995 Domestic 3
1996 Domestic 1
1997 Domestic 2
textile 1994 Domestic 1
1995 Foreign 3
1996 Domestic
2
1997 Domestic
-
clothing 1994 Foreign 2
1995 Foreign 2
1996 Domestic I
1997 Foreign 3
leather & shoes 1994 Foreign 2
1995 Foreign 4
1996 Foreign 4
1997 Domestic 2
wood 1994 Domestic
-
1995 Foreign 1
1996 Domestic
2
1997 Foreign 2
pulp & paper 1994 Foreign 1
1995 Domestic 3
1996 Domestic 1
1997 Domestic
2
chemicals 1994 Foreign I
1995 Domestic 1
1996 Foreign 2
1997 Foreign
2
rubber & plastics 1994 Domestic
-
1995 Domestic 1
1996 Foreign 2
1997 Foreign 3
nonmetallic minerals 1994 Domestic
-
1995 Foreign
1
1996 Domestic 1
1997 Domestic 2
96
Table 3.4. Ownership of the Most Efficient Finns (continued)
Ownership o f the Number o f foreign
Sector Year firm with the firms with productivity
highest productivity in the top 5
metallurgy 1994 Domestic 1
1995 Domestic -
1996 Domestic -
1997 Domestic
-
metal products 1994 Foreign 1
1995 Foreign 3
1996 Foreign 1
1997 Domestic 1
machinery & equipment 1994 Domestic
-
1995 Domestic 2
1996 Domestic 2
1997 Domestic -
electronics & electric apparatus 1994 Domestic
_
1995 Domestic -
1996 Domestic I
1997 Foreign 2
transportation equipment 1994 Domestic
_
1995 Domestic -
1996 Domestic -
1997 Foreign 1
3.4.3 Productivity Spillovers
The comparisons presented in chapter 2 suggest that in Romania firms with foreign
ownership exhibit a technological edge in most manufacturing sectors. This section
examines whether any of this technological advantage spills over to domestic firms and
whether the incidence of spillovers is related to the size of the technology gap between
domestic and foreign firms. If the new technology embodied in foreign firms is transmitted
to domestic firms, then an increase in sectoral FDI should bring domestic firms closer to the
97
best efficiency frontier. If technology spills over to domestic firms located in the proximity
of foreign firms, then higher sectoral FDI levels in a given region should be associated with
lower deviations of productivity from the efficiency frontier for the domestic firms in that
region. If spillovers take place mainly when local firms are initially not too far (technology-
wise) behind foreign firms, the impact of sectoral FDI on domestic productivity should be
stronger for relatively small technology (productivity) gaps between foreign and domestic
firms. In order to test these hypotheses, I use the following regression framework:
d(r),ji = Constant + fi\ FDI_Sectorjt.x + fi,g ( FDI_SectorJt., * TGAP,j,.x) +
+ f}2FDI_Regional(r)jt.t + R$r),.x + R2(r) + Cy + T, + rj,Jh , (3.21)
where dij, is the deviation of firm-level productivity from the sectors best practice frontier;
FDI Sect or j,., is the one-period lag of the share of foreign firms (as measured by firm-level
assets) in the sector; (FDI Sector^ * TGAPIJt.$ is the interaction between sectoral FDI
and a technology gap dummy variable, TGAP, that takes on value 1 if the previous
period ratio of average foreign productivity in the sector to the domestic firm's
productivity is between 1 and 2.18, and 0 otherwise; 28 FDI_Regional(r)j,.x is the one-
period lag of the share of foreign firms in the firm f s sector and region of location; Ri (r)t.x
is a location-specific productivity term that varies across regions and over time;29 R2 (r)
is a location-specific, time-invariant productivity term; Cy is an industry-specific
productivity term; and T, is a time-specific productivity term reflecting shocks to
28The cut-off value was chosen to be equal to the 1994 median of the ratio of average foreign productivity
in the sector to the domestic firms productivity. The results are not sensitive to small changes in the cut-off
value.
29 In this analysis, the regions are the 39 counties o f Romania.
98
productivity that are common to all firms (such as those due to changes in
macroeconomic conditions) . 3 0
The estimations that omit industry-specific effects essentially replicate earlier
work on testing the spillover hypothesis (Caves, 1974; Globerman, 1979; Blomstrom and
Persson, 1983). These studies estimate the impact of FDI using cross-sectional data,
relying on differences across industries to identify the effects of FDI. The estimation of
the FDI impact on productivity dispersion in Harrison and Haddad (1993) employs a
time-invariant productivity measure and, therefore, is in fact a cross-section analysis,
even though the authors use panel data. It has been argued in the recent literature that
simultaneous effects of local productivity on foreign presence may be important
(Chesnais, 1988; Cantwell, 1989; Kokko et al., 1996a; Kokko, 1996b). For example, the
opportunity to benefit from spillovers of local technology may be a reason to locate a
foreign affiliate in a market where existing firms are highly competitive. But if foreign
firms tend to locate in the more productive sectors, estimates of the impact of foreign
share will be biased upward. It has also been suggested that foreign firms might be
attracted to highly protected domestic sectors, seeking to exploit rents from protection
(Horst, 1971; Reuber et al. (1973); Haddad and Harrison (1993); Gangopadhyay and
Gang (1994); Harrison (1996)). If domestic firms in protected sectors are less productive
due to weaker competition, say, then the estimates of the FDI effect will be biased
downward.
If R(r),./ is positively correlated with FDI_Regional(r)Jt., and we do not explicitly
control it, the coefficient on FDIRegional overestimates the impact of location-specific
30 I use lagged rather than current values of the FDI variables since it probably takes time for spillovers
99
foreign investment on productivity. For example, if foreign firms are more attracted to
regions that benefit from agglomeration economies, the estimate of will show a
positive relationship between domestic productivity and foreign share in a particular
region even in the absence of spillovers. I use following Aitken and Harrison (1994)
the log of the real wage logWage(r),.x in the regional manufacturing sector to capture
variations in productivity due to agglomeration economies or other region-specific
effects. Rauch (1993) makes the argument that the average level of human capital is a
local public good which, via the sharing of knowledge and skills between workers, has
external effects on total factor productivity. The higher the average level of human capital
the more rapid will be the diffusion and growth of knowledge, and the stronger the
external effects on productivity. Given the existence of human capital externalities, cities
with higher levels of human capital accumulation should have higher wages for
individuals. This prediction is supported in Rauch (1993) by empirical evidence for U.S.
cities. Because foreign investment in any one two-digit industry is unlikely to affect
significantly the wage for the whole manufacturing sector in the region, log Wage (r),.x and
FDI_Regional(r)jt.x are independent. However, if logWage(r),.x can capture only
imperfectly regional agglomeration economies that are fixed over time - represented in
equation (3.21) by the productivity term R(r) -, estimates for coefficients on regional FDI
could still be inconsistent.
The availability of panel data allows me to sort out simultaneous effects of domestic
productivity on foreign presence and control for omitted variable biases when testing for
from FDI to materialize.
100
spillovers. I can correct for these biases by using a first difference framework that removes
all the time-invariant productivity effects. The estimating equation is:
d(r),j, - d(r),jM= Constant + /?/(FDI_SectorJt., - FDI_SectorJt-2) +
+ f}tg(FDI_Sectorj,.x*TGAPij,.x - FDI_Sectorj,. 2 *TGAPijt.2) +
+ P2[FDI_Regional(r)jt - FDI_Regional(r)jt _?/ +
+ b[logWage(r)t.x - logWage(r),.xJ + (T,-T,.0 + - n<jt -0 (3.21')
where changes in omitted macroeconomic variables (T, -Tt.x) are captured by time
dummies. If is an i.i.d (independently and identically distributed, i.e., pure white
noise) error term, and, in addition, FDI_Sectorjt is a function of the sector average
domestic productivity at time M (i.e., d(r)Jt.x), rather than at time /, the OLS estimation
of (3.21) yields consistent coefficient estimates. 31 If, however, e is (first-order) serially
correlated, a difference-in-difference framework should be used in order to obtain
consistent estimates. A more detailed discussion on the appropriate estimation method is
presented in Appendix D. Nonetheless, given the short panel available, the difference-in-
difference estimation is not feasible and first differences are used instead.
The results from the OLS estimation of equation (3.21) are presented in table 3.5.
The positive and statistically significant coefficients on the FDI Sector and (FDI Sector *
TGAP) suggest that, across all manufacturing industries, an increase in the foreign firms
share in the sector is associated with a decrease in deviation from the sectors best-practice
productivity among domestic firms. That is, the firms in our sample become more efficient
as the foreign presence in a sector increases. Such efficiency improvements can be
interpreted as positive FDI spillovers. The positive and relatively large coefficient on
31 Kokko (1996) suggests that the FDI level is a function of past rather than current productivities.
101
(FDI Sector * TGAP) Indicates that these spillovers are mainly concentrated in domestic
firms facing small technology gaps, that is, domestic firms that are not too far behind or
too far ahead of the average foreign firm in their industry. The magnitudes of the
coefficients on FDI Sector and (FDI Sector * TGAP) indicate that if the share of capital
employed by foreign-owned firms increases from 0 to 1 0 % of the manufacturing sector,
domestic firms would move, on average, 0.55% closer to the efficiency frontier if the
initial technology gap is not too big, but only 0.17% if the technology gap is initially
large. In the light of these results, small or
Table 3.5. Impact of foreign ownership on the domestic firms' deviation
Independent Variable Coef. Std. Er.
FDI Sector 0.017 0.007
FDI Sector* TGAP 0.038 0 . 0 0 2
FDI_Regional -0.003 0 . 0 0 2
Log(Wage) -1.892 0.471
N 4,298
R2 0.127
F-statistics 124.910
Note-. The dependent variable is the deviation o f firm-level productivity from
sector-level best practices. TGAP is defined as a dummy variable that takes on value
1 if the ratio of average foreign productivity in the sector to the domestic productivity
is between 1 and 2.18, and 0 otherwise. The dependent and independent variables are
expressed as first differences. Regression includes an annual time dummy variable.
*** denotes 1% significance level.
medium technology gaps appear to identify situations in which foreign technologies are
useful for the domestic firms, and in which the domestic firms posses the level of skills
needed to adopt the foreign technologies. Meanwhile, large technology gaps may identify
cases where domestic technology capability is so weak that foreign technologies cannot
102
be used in domestic firms, where domestic firms have nothing to learn from their foreign
counterparts, or where foreign technology is not relevant, possibly because foreign firms
manufacture products that are very different from those produced domestically. The
coefficient estimate on FDIRegional is negative and not statistically significant
indicating that at the local level sectoral foreign investment has no positive spillover on
domestic firms.
To test the sensitivity of the results on the incidence of technology gap on
spillovers to alternative specifications, and to check the consistency of the finding of no
local spillovers across industries, I adjust equation (3.21) to allow for differential
impacts of FDIJSector and FDI_Regional by industry. More specifically, I introduce
interaction terms between industry dummies and each of the two FDI share variables, and
eliminate the interaction term (FDISector * TGAP). Table 3.6 presents the estimation
results for the alternative specification.
The industry estimates of the FDI Sector coefficient show that FDI related
reductions in productivity dispersion generally occur in low-technology sectors such as
food & beverages, leather & shoes, clothing, textiles, and wood products - sectors in
which the foreign-domestic technology gap is, as the productivity comparisons in Chapter
2 show, rather small. By contrast, high technology sectors - in which the foreign-
domestic technology gap is significant - experience increases in productivity dispersion as
the FDI share rises (electronics, metal products, chemicals, and rubber & plastics) or no
statistically significant change (machinery and equipment). These results reinforce the
previous finding of a differential FDI impact on the domestic firms with large and small
technology gaps, respectively. The results in table 3.6 show that the finding of no positive
103
spillovers for the manufacturing sector as a whole is consistent across subsectors. The
coefficient of FDI_Regional by industry is, in general, not statistically significant or
negative and significant.
Table 3.6. Impact of foreign ownership on the domestic firms' deviation from sector
Sector FDI Sector FDI Regional
Coef. Std. Er. Coef. Std. Er.
food & beverages 0.574 0.009 -0.018 0.004
textile 1.841

0.107 -0 . 0 0 1 0.018
clothing 0.056

0.006 -0.005 0.003
leather & shoes 0.082 0 . 0 2 0 0.009 0 . 0 1 1
wood 0.261 0 . 0 1 2 -0.007 * 0.004
pulp & paper 0.077 0.068 -0.004 0 . 0 1 2
chemicals -0.254 0.047 -0.005 0.016
rubber & plastics -0.329

0.031 0.032 * 0 . 0 2 0
nonmetallic minerals -0.432
**
0.024 0 . 0 0 1 0.004
metallurgy 0.006 0.158 -0.216 * 0.108
metal products -0.551 0.016 0 . 0 0 2 0.005
machinery & equipment 0.014 0.015 0 . 0 0 1 0.007
electronics & electrical apparatus -0.087

0.045 -0 . 0 0 1 0.008
transportation equipment 0.134 0 . 0 1 2 -0 . 0 1 0 0 . 0 1 1
N
R2
F-statistics
4,298
0.646
259.398
Note- The dependent variable is the deviation of firm-level productivity from sector-level best
practices. The impact of sectoral / regional foreign share in each sector is estimated as the
coefficient of an interaction term between the foreign share variable and an industry dummy
variable. Regression includes the log of the average manufacturing wage in the region, and an
annual time dummy variable. The dependent and independent variables are expressed as first
differences. *** denotes 1% significance level; ** denotes 5% significance level; * denotes
10% significance level.
According to Harrison (1996), the finding of negative spillovers in some sectors is
consistent with several alternative models of foreign entry. In one such model - presented
in Aitken and Harrison (1994) - foreign entry reduces the demand for domestic
104
production, driving up the average costs of domestic firms. Another possibility - as
suggested by Harrison (1996) - is that foreign firms draw away the best workers or locate
in areas with the best infrastructure, restricting access to domestic competitors and
thereby reducing their productivity.
The results on sectoral FDI effects in tables 3.5 and 3.6 differ considerably from
those in previous studies using panel data, which found no convincing evidence of
positive productivity spillovers from FDI. The only result consistent with previous
findings is the absence of positive spillovers from FDI at the local level. To check
whether my findings differ because of the more comprehensive method used for
productivity estimation or because the country experiences differ, I replicate the approach
used in Aitken and Harrison (1994) for Venezuela, to which this study is most closely
related. Following Aitken and Harrison (1994), I estimate productivity as a firm specific
time variant residual in an OLS estimation of a Cobb-Douglass production function that
is common across sectors (up to the intercept). To facilitate comparison with the present
study, I then express productivity in terms of deviation from the best practice frontier and
use this deviation as the dependent variable when testing for spillovers. In addition, I
employ the productivity measure computed in this study to re-estimate equation (3.21)
using just the balanced panel and without the interaction term (FDI Sector * TGAP) - as
Aitken and Harrison do. The results are presented in table 3.7 for manufacturing as a
whole, and in table 3.8 by two-digit sector. Column (I) in table 3.7 and columns (1) and
(2) in table 3.8 replicate Aitken and Harrison (1994); the other columns show the results
based on the productivity measure estimated in this study (and on equation (3.21)
adjusted as described above).
105
Glancing through table 3.7, one can notice that while the impact of FDI Sector on
domestic productivity for all manufacturing is positive and significant in both approaches,
the difference in magnitude is striking: the coefficient estimate in column (2) is almost 4
Table 3.7. Replicating Aitken and Harrisons (1994) study: results for all
manufacturing
Variable Name
(1 ) (2 )
Methodology of
Aitken and Harrison (1994)
Coef. Std. Er.
Methodology of
Voicu (1999)
Coef. Std. Er.
FDI Sector 0 . 0 1 2 0 . 0 0 2 0.041 0.007
FDI_Regional 0 . 0 0 0 0 . 0 0 1 -0.004 0.003
N 5,727 3,818
R2 0.039 0.046
F-stati sties 45.826 45.786
Note: The dependent variable is the deviation of firm-level productivity from sector-level
best practices. FDI Sector and FDI Regional are one-year lagged variables. The
regression in column ( I) is estimated using a within transformation of the data at the
regional level. The regression in column (2) is estimated in first differences. Both
regressions include the log of the average manufacturing wage in the region and annual
time dummy variables. *** denotes 1% significance level.
times larger than the one in column (1). The FDI Sector coefficient estimates by two-digit
sector not only differ in magnitude but also in sign (see table 3.8). On the one hand, the
estimation based on the productivity measure in Aitken and Harrison (1994) yields, with
few exceptions, negative and, in general, significant coefficient estimates. On the other
hand, the estimates of the present study are predominantly positive and significant, or
significant negative FDI effect occurs in a few high technology sectors. These findings
106
suggest that different approaches to productivity estimation may lead to different results
regarding spillovers from FDI. 32 By contrast, differences in country experiences do not
Table 3.8. Replicating Aitken and Harrisons (1994) study: results by sector________
Methodology of Methodology o f Voicu (1999)
Aitken and Harrison (1994)
(1) (2) (3) (4)
FDI Sector FDI Regional FDI Sector FDI Regional
Coef. Std. Er. Coef. Std. Er. Coef. Std. Er. Coef. Std. Er.
food & beverages -0.004 0.005 -0.000 0.002 0.544 0.009 -0.016 * 0.004
textile -0.368
0.057 -0.004 0.010 1.812
0.109 -0.009 0.018

clothing -0.036

0.003 -0.002 0.002 0.059 0.006 -0.008 * 0.003
leather & shoes -0.289

0.011 0.005 0.006 0.095
0.022 0.015 0.012

wood -0.014

0.006 -0.002 0.002 0.240

0.012 -0.007 * 0.004
pulp & paper -0.084
0.035 0.012 * 0.007 0.068 0.073 -0.004 0.012

chemicals -0.100

0.028 0.003 0.010 -0.263
0.047 -0.007 0.017

rubber & plastics -0.004 0.017 0.001 0.010 -0.337
0.033 0.032 0.020

nonmetallic -0.245
0.019 -0.000 0.003 -0.433
0.025 0.001 0.004

metallurgy -0.838
0.077 -0.074 0.052 0.001 0.159 -0.234 '* 0.106

metal products 0.224

0.011 0.002 0.003 -0.543
0.016 0.001 0.005

machinery & equip. 0.130

0.012 0.001 0.006 0.011 0.015 0.001 0.007
electronics & el. ap. -0.036
0.022 -0.006 0.006 -0.097

0.046 -0.001 0.008
transportation equip -0.037

0.007 -0.002 0.005 0.132
0.012 -0.010 0.011

N 5,727 3,818
R2 0.256 0.629
F-statistics 63.286 214.290
Note: The results in columns (1) and (2) are obtained from a regression estimated using a within
transformation of the data at the regional level. The regression used to obtain the results in columns (3) and
(4) is estimated_in first differences. The dependent variable is the deviation of firm-level productivity from
sector-level best practices. The impact of sectoral / regional foreign share in each sector is estimated as the
coefficient of an interaction term between the foreign share variable and an industry dummy. FDI_Sector
and FDIRegional are one-year lagged variables. Both regressions include the log of the average
manufacturing wage in the region and annual time dummy variables. ** denotes 1% significance level; **
denotes 5% significance level; ** denotes 10% significance level.
seem to represent a significant source of contradictory findings, at least for the two countries
involved in this comparison. Two results in tables 3.7 and 3.8 seem to warrant this
32A more comprehensive assessment could be made if the productivity measure developed in this paper
were used to test for spillovers in Venezuelan manufacturing. The lack of data on Venezuela prevented me
107
remark. 33 First, regardless of the productivity measure used, the coefficient estimate on
FDI Regional is not statistically significant. Second, the effect of FDI Sector on
productivity by sector is negative (and generally significant) when replicating Aitken and
Harrisons approach. Both these results match very closely those obtained in Aitken and
Harrison (1994) for Venezuela
to do so.
33See footnote 32.
108
3.5 Conclusions
One major benefit often attributed to FDI is the knowledge transferred from
foreign to domestic firms. Using a comprehensive firm-level panel drawn from the
Romanian manufacturing sector, I examine whether any of the technological advantage of
foreign firms doing business in Romania spills over to domestic firms in the form of
higher efficiency. In the analysis, I pay special attention to the methodological problems
that plagued most of the previous empirical studies: construction of a productivity
measure based on consistent estimates of the production function coefficients, and the
simultaneous effect of domestic productivity on foreign presence.
The econometric specification of the production function allows for firm-level
heterogeneity within industries. As an improvement over previous literature, I construct a
firm specific, time-varying productivity measure based on semiparametric estimation of a
production function. The estimation algorithm explicitly controls for simultaneity and
selection biases in the input coefficients. This methodological aspect turns out to be
important. After accounting for self selection induced by firm exit, the capital coefficient
increases on average by 338% relative to the fixed-effects estimate. This result reconfirms
Olley and Pakes (1996) finding that selection biases cannot be ignored in the estimation
of a production function, especially in countries undergoing important structural
adjustments, and that semiparametric estimation of a production function provides a
useful alternative to methods used in previous work.
I then analyze the impact of FDI on domestic firms productivity in a regression
framework. The panel nature of the data allows me to account for simultaneous effects of
109
domestic productivity on foreign presence and for omitted variable (such as level of
protection or agglomeration economies) biases. Unlike previous literature using panel
data, this study provides some support for the spillover hypothesis. For all manufacturing,
an increase over time in foreign presence in a sector tends to push the productivity of
domestic firms closer to the best practice frontier. Productivity spillovers are particularly
strong where the technology gap between foreign and domestic firms is not too big.
Replication of previous work indicates that the findings on spillovers from sectoral FDI
in this study differ from those in earlier studies using panel data due to the new method of
productivity estimation employed here, rather than due to different country experiences.
Similar to previous studies, however, I find no support for spillovers from proximity to
foreign firms.
In the same vein with Kokko (1994) and Kokko et al. (1996a), the evidence in this
study suggests that in the case of Romania - as in the case of other developing countries
dealt with in recent literature - it is difficult to design general policies to maximize the
spillover benefits from FDI. Large foreign-domestic technology gaps may signal that
foreign technology is not relevant (because the product varieties manufactured by foreign
firms are very different from domestic varieties), that domestic firms have nothing to learn
from the foreign firms, or that domestic technology capability is so weak that foreign
technologies cannot be used by domestic firms. Therefore, general subsidies to actively
promote FDI may not be very effective in generating spillovers if the technological gap
between domestic and foreign firms is too large. Instead, FDI promotion should focus on
sectors where the domestic firms are relatively strong, though not stronger than foreign
firms. For the same reason, selective support to domestic firms, aiming to enhance their
no
capability to identify and employ modem technologies, seems also to be necessary in a
policy formula to maximize the FDI spillover.
I l l
Appendix D. Methods for Consistent Estimation of FDI Spillovers in the Presence of
Simultaneous Effects of Domestic Productivity on Foreign Presence
Consider a simplified version of equation (3.21) , 34
d,j, = Constant + f}\ FDl_Sectorj,.x+ e,j, , (3.21 A)
and the following specification for the foreign presence variable,
FDI_SectorJt = adJt. x+ XJtb + uJt, (3.22)
^ dkn = Constant + f}\ FD/ Sectorj where d ekJt is the average
deviation of productivity from best practice frontier in industry j at time /, a is the
coefficient on dJt, Xjt is a vector of exogenous variables (that may or may not be lagged), b
is the coefficient vector associated with XJt, and uJt is an error term that may or may not
Now consider how the spillover effect parameter fly might be estimated,
depending on the behavior of eiJt. A relatively simple setup that nevertheless highlights
the key ideas is that of first order serial correlation:
iji C) + 7/ + gy + rjjj,.
where etJis a firm-specific fixed effect, p is the serial correlation coefficient, viJt is an i.i.d.
34 In the simplified version of (3.21), I eliminate ('FDl_SectorJtA* TGAP,Jt_y), FDI_Regional(r)Jt Rt(r),
and R2(r) because the presence of these variables does not affect the alternative estimation methods
discussed in this section.
35In equation (3.22), I use dltA (rather than dJt) following Kokkos (1996b) suggestion that foreign presence
is a function of past rather than current productivities.
include industry-specific and time-specific effects. 35
(3.23)
112
(independently and identically distributed, i.e., pure white noise) error term, Cyis an
industry fixed effect, and T, is a time-specific effect.
First, note that, even if p = 0, the OLS estimation of will be inconsistent since,
from (3.22) and (3.23), FDl Sector^ is affected by dJ t . 2 and, therefore, is correlated with
e,Jt through Cj, T,. and etJ.
First differencing (3.22) and using (3.23), we obtain:
d0, - d,j,., = /?i (FDf Sectorj,., - FDI_SectorJt.2) + (e,Jt - e,yM)
= P\(FDI Sectorjt.x -FDl Sectorju2) + (T,~ T,.x) + - 7 ^ - 2 ) + (viJt - (3.24)
where, from (3.22),
FDI Sectorj,.x- FDI_Sectorj t . 2 a(dJ t . 2 - dJt.3 ) -f- (XJt.x -Xjt-2)b + ( y/., - uy,.j)
= afi\(FDI_Sectorjt . 2 - FDI_Sectorjt.3 ) + a {elJt_2 eIJt_3) +
Nj
a
N.
+ - XJ>-2)b + (//-. - tdjt-2)
j \ k * t k * t J
afi\(FDI Sectorj,.2 - F D l S e c t o r ^ ) + a(T,.2 - T,.3) + 7 , , , - 2 ~ 7 /-3 ) +
1 ( N
+ai r
w j \ k * 1 * * /
+ (X7-1 -Xj,.2)b + ( u,,.x - u,,.2 ) (3.25)
It is apparent from (3.25) that if p = 0 (and uJt is not correlated with vrj, ), the term
(FDI_SectorJt. 1 - FDI_SectorJt.2) will not be correlated with (v,Jt - v,yM). Therefore, upon
controlling for (T, - T,.J with time dummy variables, the OLS estimation of (3.24) will
yield a consistent estimate off}\.
If, however, p *0, first differencing will not achieve consistent estimation of /?/
due to the correlation between ( F D l S e c t o r - FDl Sector,t-2) and 7 ,yf -2 . A difference in
113
difference estimation should be used instead. One can obtain the estimating equation by
subtracting from (3.24) the following equation:
pfdiJt.x- dljt.2) = pfi,(FDI Sector j , . 2 - FDI_Sectorj(.3) + p(e,Jt.x- eljr.2)
= pp\(FDl Sectorj,.2 - FDl Sectorjt.3) +p(Tr. , - T,-2) + fyjt-2) (3.26)
The resulting estimating equation is
d,Jt - dv,.x= [}\{(FDI Sectorjt-x - FDlRectorjt.2) -p(FDI_Sectorj t . 2 - FDl_SectorJt_3)} +
p(diji-\ - dyt-2) {(T[ T(-i) - p(T[.xT1.2)} (vyt - vtj 1-0 (J -27)
Note that both the term containing FDI Sector differences and the term (djj,.x- dijt.2) are
uncorrelated with ( vIJt - Consequently, provided that the time effect {(T, - T,.0 -
p(Tt.x- T 1.2)} is controlled for with time dummy variables, the OLS estimation of (3.27)
yields a consistent estimate of f}\.
Estimation of (3.27) requires a panel with at least 5 time periods. Given the short
panel available (i.e., only 4 time periods), the difference in difference estimation cannot
be pursued in this study and the first difference framework is used instead.
114
Chapter 4
AN EXPLORATORY ANALYSIS OF THE INTERNATIONAL
JOINT-VENTURES PERFORMANCE IN ROMANIA
4.1 Introduction
"Incredible as it may seem today, Romania was the second East European country to
permit foreign investment" (Dobosiewicz (1992), p.48); it opened the door to foreign
investment as early as 1971. However, the effective results of this policy were very meager
at that time for a variety of reasons including: Western companies' natural suspicion of
communist governments and fears of new changes in the political situation, bad regulations,
and bureaucratic inefficiency. Following the events of December 1989, comprehensive
reforms to bring about transition to a market economy have been initiated.
The most important economic challenges facing Romania at present are
restructuring large state enterprises and promoting stable, sustainable economic growth. The
need for an accelerated pace of privatization and improved economic performance is
recognized and accepted (KPMG, 1994). Foreign investment, in particular in joint ventures,
is assigned a key role in the reform process, as such investments can supplement the
domestic capital pool and introduce Western management, technology and market behavior.
Foreign enterprises have ceased to be considered - as Dobosiewicz (1992) puts it - "alien
enclaves supplying a little hard currency and offering a remedy for minor, if troublesome,
115
ailments". They are now seen as one of the future driving forces of economic
development. 3 6
In this chapter I study how changes in certain firm and industry related variables
affect the size of foreign direct investment (FDl), net profits, and profitability of FDl in joint
ventures. For this purpose, I estimate equations for FDl, profits, and profitability of FDl for
representative joint ventures in Romania. The explanatory variables include market share of
the firm, labor intensity, import competition, and the participation of the state as a partner in
the joint venture.
The subsequent section introduces the hypotheses that will be tested and discusses
the regression models that are used in the analysis. The first part of section 4.3 presents the
data sources and introduces the variable definitions, while the second part deals with the
problem of missing observations in the available data set. Empirical results are presented in
section 4.4. Section 4.5 contains concluding remarks.
j6 More formally, a joint venture is an entity with independent legal status that has been created, and is operated and jointly
controlled by two or more parents for their mutual benefit (Dairough and Stoughton. 1989).
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4.2 Hypotheses and Models
In this section I estimate the influence of a set of firm and industry characteristics on
the firms level of FDl attracted, profits, and FDl profitability. The hypotheses to be tested
are introduced first and then the regression models used in the analysis are discussed.
4.2.1 Hypotheses
A large market share would enable foreign investors to sell their products with
greater profits through better distribution networks. Therefore, the first hypothesis to be
tested is:
HI: The larger the market share o f firm i, the higher the values o f foreign investment,
profit, and profitability o f FDL
It is likely that a high degree of import competition in an industry squeezes out
firms' profits and consequently makes that branch less attractive for foreign investors.
Therefore,
H2: An increase in import competition is likely to cause, on average, a decrease in the
levels offoreign investment, profit and profitability o f FDl.
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In Romania - like in almost all the Eastern European countries - labor costs are
much lower than those in the Western Europe. Therefore, it would be reasonable to expect
that labor intensive foreign firms would invest more actively in such countries with a
comparative advantage in labor intensive products as a strategic option to increase their
competitiveness. This behavior could then justify the finding of a positive relationship
between the labor intensity variable and the level of FDl. On the other hand, a higher labor
intensity implies - ceteris paribus - higher production costs per $ 1 worth of revenues and
thus, lower profits and profitability of FDl. However, one should not infer from this that
foreign firms with labor-intensive processes make inefficient investment decisions; they
establish joint ventures with domestic companies which produce the same type of labor
intensive products as their own because they will incur lower labor costs and thus make
higher profits than if they did not invest The hypothesis is then:
H3: The greater the labor intensity offirm i's activity, the higher the levels o f FDl, but the
lower the profits and profitability o f FDL
Finally, in an economy in which the private sector is just emerging, state enterprises
- as partners in joint ventures - are likely to attract a larger volume of FDL There are several
factors which support this view. First, state enterprises are much larger on average than the
private ones; therefore, more capital needs to be injected in order to raise their efficiency
and competitiveness to the Western standards which are presumably targeted by the foreign
investors. Second, state owned firms are likely to be considered more reliable partners than
the newly emerged private ones in terms of the experience accumulated in their area of
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activity, of a better access to the input and output distribution networks, and of dealing with
the bureaucratic procedures related to firm's activity. These are also reasons to believe that
profits and profitability of FDl are positively influenced by state participation, at least for
this stage of the reform process. Third, the Romanian Government plays an active role in
the establishment of large joint ventures with state enterprises participation through its
direct negotiations with important foreign investors. As a result,
H4: For the early stages o f transition to market economy, state participation is expected to
be positively related to foreign investment, profits, and profitability o f FDl.
4.2.2 The Models
Three different models are used in the analysis: the FDl model, the profits model, and the
FDl profitability model. Each model is presented in more detail below.
The FDl Model
The FDl model has the firms FDl level as the dependent variable, and market share, labor
intensity, import competition, and state participation as the independent variables. All
variables, except for state participation, are expressed in logarithms. Since the sample data
pertain to joint ventures with more than $ 486,000 worth of FDl (see data description in
section 4.3), a truncated regression (with truncation from below) is used. The model can be
written as
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Y*=A' X+e, e~./v[0,<T2] (4.1)
Y = Y* i/Y* > I
= unobserved otherwise, (4.2)
where equation (4.1) is the underlying continuous version of the model and:
Y is the observed dependent variable which is truncated from below with respect to Y ;
/ = ln(486,000) is the truncation point;
A is the vector of parameters to be estimated;
X is the matrix of independent variables (including a vector of ones for the constant term).
The estimator that is used here is maximum likelihood. The log likelihood is given
by
lL = j - 1 [ln(2*-) + In<r! ] - ^ - At.X, f V- , In
1 - <D
l - A ' X ,
(4.3)
where 0 ( ) is the normal cdf, and n is the number of observations in the sample.
The Profits ModeI
The profits model relates firms profits to the same independent variables as in the
FDl model. All variables, except for state participation, are expressed in logarithms. Since
the profits of the firms that made zero or negative profits were recorded as equal to zero by
the data collector (see data description in section 4.3), a censored (Tobit) regression (with
censoring from below) is used. Similarly to a truncated model, the Tobit model for profits
derives from an underlying classical normal linear regression,
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Y' = B' X+u, h - A ^ c t 2] (4.4)
in which B is the vector of parameters to be estimated, X is the matrix of independent
variables, and F* is not directly observed. The observed counterpart is a variable Y which is
censored from below with respect to Y\ A s a result, the observed dependent variable is
given by
Y= Y* for Y' >0 (4.5)
Y = 0 forY* <0
Estimation of this model is similar to that of the truncated regression model. The log
likelihood for the censored regression model is:
The two parts of the log likelihood function correspond to the classical regression for the
non-limit observations and the relevant probabilities for the limit observations.
The FDl Profitability Mode/
The FDl profitability model is an ordinary least squares regression in which FDl
profitability is the dependent variable and the independent variables are the same as in the
previous two models.
ln(2 ;r) + ln<r2 + (4.6)
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4 3 Data
4.3.1 Data Sources and Variable Definition
This study uses firm level data - total revenues, net profits, number of employees,
amount of FDl - provided by the Chamber of Commerce of Romania, Bucharest and
industry level data -import volume and total output - presented in the Romanian Statistical
Yearbook -1994. The data pertain to 107 companies with foreign participation established
in Romania between 1990 and 1993. These companies were selected from those with
foreign capital greater than $486,000. Nineteen of the selected companies have food
industry as the main field of activity, seventeen - light industry, twelve - electronics and
electrotechnics, twelve - machine building, twenty-eight - trade, eleven - agriculture, three -
extractive industry and five - transportation equipment.
Based on the above data I calculate the natural logarithms of three independent
variables to be used in the subsequent regression models: the i* firm's market share (MS),
the degree of import competition (IC), and the labor intensity of firm's activity (LI). The /***
firm's market share is defined as the ratio between the total revenue of the firm and the
market volume of the respective industry; total market volume is calculated as the sum of
the total industry output and the industry-specific imports. As a proxy for the degree of
import competition I compute the market share of imports. The labor intensity of firms
activity is defined as the ratio between the number of employees and the /th firm's total
revenue in US $. In addition, I also use a dummy variable (SO) that takes on value 1 i f the
joint venture includes at least one state owned Romanian firm, and zero otherwise. The
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dependent variables are the natural logarithms of the value of FDl (in US $), net profits (in
US $) and profitability of FDl (calculated as the ratio between net profits and FDl) for firm
i.37 The official exchange rate by the Romanian National Bank used for the transformation
into US $ is 771.84 Lei/$ (1993).
4.3.2 Solutions for the Missing Data Problem
The empirical analysis carried out in the subsequent sections is complicated by the
fact that 26 observations regarding the number of employees - and therefore, the labor
intensity variable - are missing. These missing values may cause a loss of efficiency because
of the reduced size of the data set Moreover, possible biases may exist when the
respondents are systematically different from the nonrespondents (Rubin, 1987). However,
it is unlikely that such a situation occurs for the available data set meaning that the
observations can be assumed as missing at random.
A straightforward solution to the missing-observations problem is simply to drop the
incomplete cases. Since the observations are missing at random, the least square estimators
will be unbiased and consistent, and the only effect of dropping the observations is a loss of
efficiency.
The most common method for handling item nonresponse uses a single imputation
procedure which implies filling in a value for each missing value. The literature suggests
several schemes for filling in the blanks. One of them is the zero-order method which
37 We use ln(Profits+1) rather than In(Profits), and ln[(Profits+l )/FDI] rather than In(Profits/FDI) in order to avoid In(O)
corresponding to zero profit observations. The dependent variable ln(Profits+l) will then be censored from below zero.
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implies replacing each missing value of the independent variable x with the sample mean xa
of the available observations; this is equivalent to dropping the incomplete data. The
simplest way to prove this similarity is to observe that each of the missing observations is
equal to xa and, therefore, each term in Z(x - x ) 2 and L(x - x )(y - y ) (where y and y are
the dependent variable and its sample mean, respectively) that corresponds to one of the
newly constructed observations is a zero. As a result, the sample moments upon which the
regression is computed are unchanged (Greene, 1993). A worthwhile improvement is the
"first-order approach" which allows for exploiting some useful information from the
incomplete observations. This method involves replacing missing observations with proxy
observations obtained by regressing the known values of x on the other independent
variables and replacing the missing observations by the fitted values of the regression
(Gourieroux and Monfort, 1981).
There is one obvious problem with the single imputation method: the missing values
are not known, and yet the application of complete-data methods to imputed data sets treats
missing values as if they were known. In other words, the extra variability due to the
unknown missing values is not taken into account and therefore, the inferences based on the
imputed data set are too sharp (Rubin, 1987). Rubin (1978, 1987) proposed multiple
imputation as a solution to this problem. With multiple imputation, each missing or
deficient data value is filled in by m plausible values and then complete-data analyses are
repeated m times, once with each imputation substituted. The results of these m analyses are
then combined to produce a single inference, accounting for the uncertainty in the
imputation process (Rubin and Schafer, 1990). Besides rectifying the main disadvantage of
the single imputation procedure, multiple imputation also shares its two advantages already
124
mentioned (i.e., the ability to use complete-data methods of analysis and the ability to
incorporate the data collector's knowledge). The only disadvantage of multiple imputation
over single imputation is that it is more time consuming; however, this is not a real problem
with todays computing facilities. Given its advantages, I choose multiple imputation as a
solution to the missing data problem. The next section describes the imputation techniques
used in this chapter. Section 4.3.2.2 presents inference results following multiple
imputation.
4.3.2.1 Multiple Imputation under Explicit Bayesian Models
Multiple imputation is most directly motivated from the Bayesian perspective,
"which not only provides a simple and general theoretical rationale but also provides
prescriptions for how to create multiple imputations and analyze the resultant data in
specific cases" (Rubin (1987), p.75). This was also the original justification presented in
Rubin (1977, 1978, 1979, 1980) and Herzog and Rubin (1983) and developed further in
Rubin (1986, 1987). In this view, multiple imputations are simulated draws from the
posterior predictive distribution of the missing values (i.e., their conditional distribution
given the observed data) under a specified model. Appropriately combining analyses of
each imputed data set produces an approximately valid Bayesian inference under that
model. Moreover, as shown in Rubin and Schenker (1986), the resultant inferences possess
good sampling properties, too.
To simulate draws from the posterior distribution of missing data, I use two
procedures: procedure A - a noniterative method that follows Rubin (1987), and procedure
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B that is based on Gibbs sampling and closely resembles Li (1988) and Rubin and Schafer
(1990).
The general notation that we use in the subsequent analysis is:
x = ln(7) = (x0bs, xmis), where obs is the set of indices of observed values of x and mis is the
set of indices of the missing values of x;
z= [ONES SO ln(MS) ln(/C)] is the matrix of independent variables (including a vector of
ones).
Procedure A
Following Rubin (1987), three formal tasks can be defined that are needed to create
imputed values that simulate the posterior distribution of the missing data under an explicit
Bayesian model: the modeling task, the estimation task and the imputation task. The
modeling task specifies the model for the data. The estimation task computes the posterior
distribution of the parameters of that model so that a random draw from it can be made. The
imputation task takes one random draw from the posterior distribution of the missing data
by first drawing a value of the parameter from its posterior distribution, and then drawing a
missing data value from its conditional posterior distribution given the drawn value of the
parameter; the imputation task is repeated m times to create m imputations for each missing
value under the elected model.
I perform the modeling task by assuming that, given some parameter vector d =(y,
log{p)) - where y is a vector of four components and a a scalar - and the data matrix z, the
rows of x are independently and identically distributed (i.i.d.) with common density f ixt \ z
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8) given by N(z,y, <?). In addition, a prior distribution for the parameter 6 has to be specified.
For convenience, I choose the improper prior Pr(0 ) ~ const.
The estimation task is fulfilled by formulating the posterior distribution of 6. Under
the missing-at-random-data assumption, the data's evidence about 6 can be summarized by
the likelihood function L(& \ z, x0bs) involving only the units with x, observed (Rubin and
Schafer, 1990). L(6 \ z, x ^ ) can be defined as
L{Q | Z, Xobs) = Il/eofe fix, | z,,0). (4.7)
The posterior distribution of 6 can then be expressed as:
Pr(6 | z, X o b s ) ~ Pfifi ) L ( 6 1z, xobs), (4.8)
where the proportionality constant is {J( 6 \ z, xObS)Pr(0)d 6 }"'. Standard Bayesian
calculations with the normal linear regression model, which are described, among others, in
Box and Tiao (1973), show that the posterior distribution of 6 is normal-inverse chi-square,
i.e.,
y | ( f ~N(ya, (TV),
<r ~ ofi{n0 fiY/C'no-q (4.9)
where: y0 = [(z'z)'lz'x\0bSis the usual OLS estimate of y based on the units with observed x,
only;
V= [(zz)-'Us\
obs (x,-z, y0)~/ (n0-<j)i
na is the number of complete cases;
q = 4 is the number of vectors in z.
Since the posterior distribution of 0 is described in terms of standard distributions from
which we can easily draw, the estimation task is complete.
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The posterior predictive distribution of the missing data is given by
Pr(xmis | z. Xobs) = / Pr(xmts | z, xobs. ff)Pr(0 | z, xob,)d 0, (4.10)
where Pr(xmis | z, Xobs) = fix, \ zit 0). Equation (4.10) suggests that the imputation task
can be performed in the following manner
1). Draw a value, say d' , from the posterior distribution Pr(0 \ z, x0bs)- For the specified
model, this step is carried out as follows.
a). Draw a x 2no-q random variable, say s, and let
a'2 = Oo{n0-q) / s (4.11)
b). Draw q independent N(0,1) variates to create a ^-component vector S and let
/ = 7o + a[V\I/2S (4.12)
where \y\ia is a triangular square root of Vobtained by Cholesla factorization.
2). Draw a value of xmis, say xmis*, from its conditional posterior distribution given the
drawn value of 0, Pr(xmis | z, x0bS, 0 = 0*). This fact is computationally straightforward for
the i.i.d. univariate x,. In this case, each missing x, is imputed independently according to/fo
| z 0'). Under the normality assumption of our model, x ~ N(z, y, a2), the nmvalues of xmis
are drawn as
x* =z,y' + r, a 2 (4.13)
where the nmnormal deviates r, are drawn independently.
A new set of imputations is created by drawing a new value of 0. Repeating this
process m times creates m draws from the joint posterior distribution of (xmis , 0). By
ignoring the drawn values of 0, we have m draws from (4.10).
Since the normality assumption may be questionable, I also accomplish the
imputation task by using an alternative approach proposed in Rubin (1986). This method
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allows the observed data Xobs to influence the shape of the distribution of values imputed for
xmis. It consists of replacing step (2) with the following step:
a). Compute the nmpredicted values in xmis as
x,' = z , y ' , where i e mis (4.14)
b). For each x* (/ e mis), find the unit j (j e obs) whose x} is closest to x*, and impute the
value of Xj for unit /.
This method creates between-imputation variability since it uses the normal linear
regression step (1) to draw y \ and uses a linear model for the choice of values to impute, yet
imputes only values already observed in x0bs (Rubin, 1987).
ProcedureB
The second procedure for creating multiple imputations is based on a computer
intensive algorithm known as stochastic relaxation or Gibbs sampling. The roots of this
method can be traced back to Metropolis, Rosenbluth, Rosenbluth, Teller, and Teller
(1953), with further development by Hastings (1970). Several years later, Ripley (1977,
1979) has used the technique to simulate spatial patterns. However, it was not until the
Geman and Geman's paper (1984) on Bayesian image reconstruction that the Gibbs sampler
became widely used. More recently, Gelfand and Smith applied it to hierarchical Bayesian
models. A slight variant is the data augmentation algorithm of Tanner and Wong (1987).
Our use of stochastic relaxation is based on the iterative imputation procedures proposed by
Li (1988) and Rubin and Schafer (1990). It also takes advantage of the simple and clear
explanation of how and why the Gibbs sampler works provided in Casella and George
(1992). The Gibbs sampling technique allows one to simulate a joint probability distribution
by repeatedly drawing from conditional distributions.
Let W = (U, V, 7) be a random variable with probability distribution Pr(W), where
U, V, T are each random variables. Stochastic relaxation simulates draws horn the usually
intractable Pr{W) by repeatedly drawing from the conditional distributions Pr(U | V, T),
Pr{V | U, T), and PriT \ U, V), distributions that are often known in statistical models. This
is done by generating a "Gibbs sequence" of random variables
Wo = (UQ, V0, To), W, = (Ui, V,, Tf), W2 = (U2. V2, T2),..., Wk = (Uk, Vk, Tk) (4.15)
The initial value UQ= ua is specified, and the rest of (4.15) is obtained iteratively by
alternately generating values from
T,~Pr(T\ Ui = Uj, V,=v,)
Ul ~Pr(U\ V, = v T,=ti)
VM~Pr{V| T, = t Uhx=u,.x) (4.16)
In other words, we draw from the conditional distributions of T, U, and V, conditioning
each time on the most recently drawn values of the other variables.
The sequence of variables Wa, Wi, W2,..., Wk satisfies the Markov property - that is,
for all / >1, the distribution of W, given Wa, Wi W,.\ is identical to the distribution of Wi
given Wi.i - and therefore form a Markov process. It turns out that, under rather general
conditions, this Markov process has stationary distribution equal to Pr(W); in other words,
Wk >W in distribution as k -> <x>. Implicitly, the distributions of Ub Vh Tk converge to the
true marginals, Pr(U), Pr{V), and Pr{T), respectively, as k ><x>. Thus, for k large enough,
the final observations in (15), namely Uk = uk, Vk = v*, and Tk = ik, are effectively points
from Pr(U), PtiV), and Pr(T), respectively (Casella and George, 1992). For this
i
130
convergence to occur, the conditional distributions in (4.16) must determine a unique joint
distribution and the Markov chain defined by (4.15) must be aperiodic and irreducible
(Rubin and Schafer, 1990).
The convergence in distribution of the Gibbs sequence (4.15) can be exploited in
various ways to obtain an approximate sample from PriT) (or Pr{U) or PHV)). We follow
Gelfand and Smith's suggestion (1990) - also mentioned by Rubin and Schaefer (1990) - of
generating m independent Gibbs sequences of length k, and then using the final value of 7*
from each sequence. If A: is chosen large enough, this yields an approximate i.i.d. sample
from Pr(T).
For the purposes of this study, I wish to simulate draws from the intractable
distribution Prixmis | x0bs, z). In the light of the above discussion, this is accomplished by
alternately drawing from the conditional distributions Pr{9 \ x0bs - xmu, z) and Pr{xma | x0bs.
6, z) k times. The k!h value of xmis can be taken as a draw from Pr{xmis | x0bs , z). More
rigorously, under the model specified for procedure A the algorithm consists of the
following steps:
1). Use procedure A to get an initial set (vector) of nmimputed values xmis and construct the
N x 1 vector x = ( x ^ , xmts) ', where N is the number of available units.
2). Draw a jCs-q random variable, say s, and let
a 2 = a \{N-q) / s (4.17)
where a 2 = .v>(xrz, y\)2 /{N-q), with y\ = (zz)~lz'x - the usual OLS estimate of y based
on all the N units.
3). Draw q independent N(0,1) variates to create a ^-component vector S and let
y = y \ + t r \ V \ l/2S (4.18)
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where V = (z'z)'1.
4). Proceed in the same way as in step 2 of procedure A in order to draw a set of nmvalues
of Xmis from PriXmis Iz,
Xobs* P )
5). Replace xmls with the new set obtained at step 4, call it x xmis, and create a new vector
X j, X mis)-
6). Repeat steps 2 to 5 A: times, replacing each time the previously drawn set of xmts with the
new one. Retain the k!h set of xmts as a draw from Pr(xma \ z, xabs) and consider it as the first
set of imputations.
A new set of imputations is created by repeating steps 1 to 6 starting from a new
initial set xmts. Thus, if m repeated imputations are desired, these 6 steps are repeated m
independent times.
Using the same reasoning as for procedure A, I also carry out a second alternative
for procedure B which allows the observed data x0/,s to influence the shape of the
distribution of the imputed values. This is accomplished by modifying step 4 in the same
way as for procedure A.
Choosing k usually turns out to be a delicate problem both because of computational
constraints and because of the lack of a unitary view on this issue. A general strategy for
choosing such k is to monitor the convergence of some aspect of the Gibbs sequence
(Casella and George, 1992). Unfortunately, such monitoring approaches are usually not
foolproof, as shown by Gelman and Rubin (1991). I choose k using a rather informal
approach; this consists of comparing the parameter estimates of the models of section 4.2
obtained for different values of k and choosing the k from an interval in which the estimates
appear to be stable. This analysis is carried out in better conditions under the normality
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assumption of the model than under the alternative approach (i.e., choosing xmis only from
x^s). The computation is much faster in the first case and thus much more choices of k can
be compared; I was able to estimate the models of section 4.2 by using k= 50, 100, 500,
1000, 5000, 10000, 15000, 20000. I chose =5000 because starting from this value, the
parameter estimates, (as well as their standard errors) show a remarkable stability.
Meanwhile, due to computational limitations, I was able to perform the analysis only with k
= 50, 100, 200, 300, 500 for the alternative method. The results turned out to be relatively
stable for the higher values and thus k = 500 was chosen.38
Choosing the number o f imputations m
In choosing m. several findings of earlier work by Rubin and Schenker (1986),
Rubin (1987), Rubin and Schafer (1990), and Tanner (1993) are taken into consideration.
First, as mentioned in Rubin and Schenker (1986), using m > 2 is clearly superior to
m = 1 in terms of the accuracy of frequentist coverage probabilities of the resulting interval
inferences.
Second, the benefits of using m larger than 2 decrease considerably as the response
rate increases (Rubin and Schenker, 1986); therefore, in many situations, especially when
the fractions of missing information are moderate (i.e., 30% or less), m = 3 is usually
sufficient to provide inferences that are practically valid (Rubin and Schafer, 1990).
Third, in smaller samples, when the approximate normality of L(6 \ x) is suspect, a
large number of imputations (m > 100) may be required in order to capture nonnormal
features of the posterior distribution for 0.
38 All the analysis was performed for m = 50
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Putting together all these results, I estimate the models of section 4.2 on the imputed
data with m = 50. 100. 200 for procedure A and m = 50 for procedure B. For the sake of
symmetry, since the results for procedure A were very similar for different choices of m, I
report only the estimates for m = 50.
4.3.2.2 Combined Estimates and Inference Results Following Multiple Imputation
Once the m imputed data sets are obtained, the models of section 4.2 are estimated
m times, once with each set of imputed values substituted.
Let
Y = A'X + e (4.19)
be the general form of the model to be estimated, where Y is the dependent variable, A'is the
matrix of covariates containing (among the other independent variables) the imputed lrt{LI)
variable, and A the vector of parameters to be estimated (including a constant term). Let also
at, v/, I = 1...., m be the m estimates and their associated variances for an estimated
parameter a/, calculated from m repeated imputations under one model. The final estimate
of ai is:
<*rn= Yjc (i. m) at/ m. (4.20)
The variability associated with this estimate has two components: the average within-
imputation variance,
vm= X/e(l.m) V / / m , (4.21)
and the between-imputation component,
wm= YX1 - am)2/(m- 1) (4.22)
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The total variability for amis
v = v + wjjn+ \)/m, (4.23)
where (m+l) / m is an adjustment for finite m. The reference distribution for interval
estimates and significance tests is a t distribution,
(a/ - am)v'l/2 1 (4.24)
with n = (m - 1){ 1 + [m/{m + 1)] vm/ wm}2 degrees of freedom (Little and Rubin, 1987).
The estimates an vI/2, vm,/2, wmI/2 are reported for each of the models of section 4.2
and for each multiple imputation procedure. The number of degrees of freedom n turns out
to be large (well above 100) for any procedure and any coefficient, and therefore is not
reported.
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4.4 Empirical Results
Tables 4.1, 4.2, and 4.3 present the estimates of the three models for the reduced
sample (i.e., with complete data) and for the whole sample in which the missing
observations were filled in by using each of the methods of section 4.2. It is worth noticing
that, regardless of the imputation method, filling in the missing values leads to an efficiency
improvement in the coefficient estimates for most variables, in spite of the extra variability
due to the unknown missing variables. Not surprisingly, the only exception occurs for the
variable with missing observations, ln(LI), for which the standard error generally increases
as a result of the imputation process. Since the multiple imputation procedures based on
Bayesian models use the available information more efficiently than the complete case
analysis, the discussion will be limited to the estimates based on the imputed samples. The
FDl model does not provide a good fit in terms of the average likelihood value. This is an
indicator that there are also other variables - especially at the macroeconomic level
(inflation. GDP growth, etc.) - that might have a strong influence on the FDl inflows and
that were not included in the model. However, controlling for such variables would require
longitudinal data which were not available at the time when this study was initiated. The
average likelihood and R2 values indicate a better fit of the models for profits and
profitability of FDl, respectively.
The regression results provide evidence that the market share of the firm plays a role
in determining profits and profitability of FDl, and, to a smaller extent, the volume of FDl.
The coefficients of the ln(MS) variable are positive and significant at the 10% level for the
FDl model but only when using the two multiple imputation techniques that relax the
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normality assumption, and at the 1% level for the other two models. Using, for example, the
whole sample obtained via procedure A with departure from normality, I find that a 1%
increase in the market share variable increases the FDI by 0.20%, net profits by 1.05% and
profitability of FDI by 0.79%.
The effect of import competition on FDI is negative, as expected, but statistically
insignificant, whereas in the profit and profitability of FDI models import competition has a
significant influence at the 5% or 10% level, depending on the multiple imputation method.
In contrast to our expectations, however, the signs of the coefficients turn out to be positive,
and thus higher profits and profitability of FDI are related to a higher degree of import
competition. The estimates corresponding to the samples imputed with procedure B under
normality assumption indicate, for example, that a 1% increase in the 1C variable
determines an increase of 1.53% in profits and of 1.25% in profitability of FDI.
I offer three explanations for this effect First suppose that imports have a large
market share in such goods categories where the domestic production capacities are far off
from covering domestic market demand. The new production capacity installed by a joint
venture may substitute some fraction of highly profitable imports by domestic supply
(import substitution effect). Second, foreign direct investment may especially be attracted
by branches with a high degree of import competition. Note that most of the foreign
investors in our sample are multinational companies. These multinational companies draw
on their local market experience gained during the market penetration phase when exporting
their goods to Romania. Since this experience helps assess country specific-risks, and pre
emptive strategies help secure high profitability, foreign direct investment is particularly -
and successfully - allocated to those sectors where import competition, to be understood as
137
Table 4.1. Empirical Results for the FDI Model3
Explanatory Complete-case Procedure A
Procedure B
Variables Analysis With Without With Without
Normality Normality Normality Normality
Assumption Assumption Assumption Assumption
Intercept 14.760*** 14.134*** 14.313*** 13.956*** 14.210***
(1.105) (1.142) (1.137) (1.163) (1-147)
(1.102) (1.112) (1.112) (1.111)
(0.298) (0.232) (0.336) (0.280)
SO 1.110** 1.094** 1.047** 1.146** 1.071**
(0.545) (0.541) (0.531) (0.554) (0.538)
(0.534) (0.527) (0.547) (0.533)
(0.084) (0.058) (0.085) (0.072)
ln(LI) 0.256* 0.170 0.215 0.121 0.193
(0.154) (0.146) (0.156) (0.135) (0.154)
(0.126) (0.144) (0.112) (0.138)
(0.07) (0.054) (0.075) (0.065)
In(MS) 0.225** 0.180 0200* 0.161 0.184*
(0.116) (0.112) (0.117) (0.110) (0.112)
(0.104) (0.109) (0.101) (0.105)
(0.041) (0.038) (0.042) (0.041)
In(IC) -0.204 -0.178 -0.158 -0.205 -0.170
(0.316) (0.316) (0.312) (0.320) (0.315)
(0.313) (0311) (0.317) (0.313)
(0.043) (0.030) (0.042) (0.036)
av.lik=.0041 av.lik=.0049 Av.lik=.0061 av.Iik=.0021 av.lik=.0046
a). The dependent variable is ln(FD7). The standard errors of the coefficient estimates are given in
parentheses. The numbers parentheses in the last 4 columns represent the standard error components
resulting from the imputation process: the total error (top), the average within-imputation standard error
(middle), and the average between-imputation standard error (bottom). The following notation is used for
significance levels: * for 10%, ** for 5%, and ** for 1%. The MLE estimates were obtained with the
GAUSS 30 statistical package (see the attached computer program).
an instrument to accumulate country-specific knowledge, is relatively high. Since Romania
is in a relatively early stage of market penetration, profit margins may not have been eroded
yet by a multitude of market entries (asymmetric information effect). Third, since the
presence of foreign competitors may cause positive externalities that overcompensate the
detrimental effect of higher competition to each joint venture, foreign investors may
138
Table 4.2. Empirical Results for the Profits Model8
Explanatory Complete-case Procedure A Procedure B
Variables Analysis With
Normality
Assumption
Without
Normality
Assumption
With
Normality
Assumption
Without
Normality
Assumption
Intercept 6.055**
(2.753)
7.284***
(2.714)
(2.494)
(1.059)
6.749**
(2.728)
(2.547)
(0.966)
7.705***
(2.666)
(2.470)
(0.993)
6.719**
(2.727)
(2.509)
(1.058)
SO 2.563**
(1.130)
1.864*
(1.066)
(1.031)
(0.266)
1.983*
(1.062)
(1.034)
(0.236)
1.779*
(1.053)
(1.031)
(0.213)
1.998*
(1.060)
(1.030)
(0245)
In(LI) -0.941***
(0.371)
-0.493
(0.424)
(0.284)
(0.311)
-0.651
(0.449)
(0.328)
(0.303)
-0363
(0.374)
(0.251)
(0.274)
-0.678
(0.457)
(0.318)
(0.324)
ln(MS) 1.143***
(0.272)
1.124***
(0.264)
(0.221)
(0.141)
1.051***
(0.262)
(0.232)
(0.114)
1.189***
(0.266)
(0.219)
(0.150)
1.075***
(0.259)
(0.222)
(0.131)
In(IC) 1.248
(0.802)
1.442*
(0.759)
(0.741)
(0.161)
1359*
(0.756)
(0.742)
(0.137)
1.526**
(0.757)
(0.742)
(0.149)
1.358*
(0.754)
(0.740)
(0.143)
av.lik=-1.815 av.Iik=-1.829 av.lik=-1.827 av.lik=-1.833 av.lik=-1.824
a). The dependent variable is l n ( P ) . The standard errors of the coefficient estimates are given in parentheses. The
numbers in parentheses in the last 4 columns represent the standard error components resulting from the imputation
process: the total standard error (top), the average within-imputation standard error (middle), and the average between-
imputation standard error (bottom). The following notation is used for significance levels: * for 10%, * for 5%. and ***
for 1%. The MLE estimates were obtained with the GAUSS 30 statistical package (see the attached computer program).
nevertheless behave in a competition-seeking manner. For example, high advertising
expenditures by import competitors may create a market potential that not only may be
profitably exploited by importers but, if taking into account cost advantages of local
sourcing, also may be beneficial to the profitability of foreign investments (shopping mall
effect).
139
Table 4.3. Empirical Results for the FDI Profitability Model8
Explanatory
Variable
Complete-
case Analysis
Procedure A Procedure B
With
Normality
Assumption
Without
Normality
Assumption
With
Normality
Assumption
Without
Normality
Assumption
Intercept
-7.644***
(2.371)
-6.205***
(2.181)
(2.038)
(0.768)
-6.643***
(2.194)
(2.083)
(0.679)
-5.854***
(2.142)
(2.018)
(0.709)
-6.584***
(2.198)
(2.051)
(0.782)
SO 1.766*
(0.967)
1.232
(0.866)
(0.843)
(0.198)
1330
(0.863)
(0.846)
(0.169)
1.158
(0.858)
(0.843)
(0.157)
1328
(0.863)
(0.843)
(0.181)
In(LI) -0.700**
(0.298)
-0.399
(0.307)
(0.225)
(0.206)
-0.519*
(0.320)
(0356)
(0.189)
-0.296
(0371)
(0.199)
(0.181)
-0.513
(0.324)
(0.245)
(0.210)
ln(MS) 0.789***
(0.228)
0.853***
(0.208)
(0.179)
(0.104)
0.792***
(0.210)
(0.189)
(0.090)
0.904***
(0306)
(0.174)
(0.108)
0.818***
(0.208)
(0.180)
(0.103)
In(IC) 1.160*
(0.688)
1.187**
(0.613)
(0.603)
(0.109)
1.127*
(0.610)
(0.604)
(0.084)
1.251**
(0.613)
(0.604)
(0.106)
1.138*
(0.610)
(0.603)
(0.092)
R ^ . 4 1 0 R2=0.406 R2=0.410 R2=0.401 R ^ . 4 1 2
a). The dependent variable is In (PRF). The standard errors o f the coefficient estimates are given in parentheses. The
numbers in parentheses in the last 4 columns represent the standard error components resulting from the imputation
process: the total standard error (top), the average within-imputation standard error (middle), and the average between -
imputation standard error (bottom). The following notation is used for significance levels: for 10%, ** for 5%, and **
for 1%. The MLE estimates were obtained with the GAUSS 30 statistical package (see the attached computer program).
The coefficient estimates of the In(LI) variable show the expected signs for all cases
but are statistically insignificant for all the samples imputed with multiple imputation
techniques; however, glancing across the model estimated for the compiete-case sample,
one can notice that the estimates are significant at the 10% level for the FDI model, and at
140
the 1% and 5% levels for the models of profits and profitability of FDI, respectively. This is
not very surprising, since LI is the variable with missing values and as such, the variance of
the In {LI) coefficient is likely to reflect the variability due to unknown missing values to the
largest extent. Further research using larger data sets would be enlightening with regard to
the significance (and maybe the sign) of the labor intensity variable.
The empirical results confirm the initial predictions about the positive influence of
state participation on the level of FDI and profits. The coefficient estimates are significant at
the 5% level for the In (FDI) model, at the 10% level for the Ln(/>) model, and not
statistically significant for the ln(PRF) model. The interpretation of the coefficient
magnitude for the SO dummy is somewhat different from that of a coefficient on a
continuous variable.
Following Halvorsen and Palmquist (1980), I will explain the relationship between
the coefficient of the dummy variable and its relative effect on the dependent variable
expressed in logarithmic form. The general form of the equations estimated in the above
three models can be expressed as
ln(Y) = a + LJ3,[n(Xt) + tD (4.25)
where X, is the vector of continuous variables and D represents the dummy variable. The
appropriate interpretation of t can then be shown by writing (4.25) as
ln(K|) =a + Zfiln(Xd + '
ln(F0) = a + S^,ln(X,) (4.26)
where F/ and Yqare the values of the dependent variable when D takes on value 1 and 0,
respectively. The relative effect of D on Y is Q = (F/ - Fo)/Fo, which, after further
manipulation of (4.26), can be rewritten as
141
0 = e x p ( / ) - l f (4.27)
or in percentage terms
1000 = 100[exp(0 - 1] (4.27)
Using this approach, and considering, for example, the estimates for the samples imputed
through procedure A under the normality assumption, one can infer that the state
participation in a joint venture increases the volume of FDI by 198.62%, and net profits by
544.95%.
142
4.5 Conclusions
This study suggests that, in Romania, foreign direct investment is favored by a large
market share and, at least during the early years of economic transition, by the participation
of state owned firms in joint ventures. It also provides empirical evidence that a higher
degree of import competition favors profits and profitability of FDI during this stage of the
reforms. The complete case analysis reveals that more labor intensive activity is conducive
to a larger commitment of the foreign investors in terms of invested capital. However, the
estimation on samples imputed through multiple imputation techniques yields insignificant
coefficient estimates for the labor intensity variable; therefore, further research using larger
data sets is needed in order to clarify the role of this variable in the FDI activity.
143
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Curriculum Vita
IOAN VOICU
Education
1983-1988 Polytechnic Institute. Bucharest, Romania
M.Sc. in Mechanical Engineering, June 1988
1993 -1994 Central European University. Prague, Czech Republic
M.A. in Economics, July 1994
1994 -2000 Rutgers, The State University of New Jersey. New Brunswick, NJ
Ph.D. in Economics, October 2000
M.A. in Economics, May 1996
Professional Experience
1988 - 1993 Engineer, Fine Mechanics Plant, Romania
1997, 1994 Visiting Researcher, Institute for Advanced Studies, Vienna, Austria
1996 - 2000 Research Assistant, Center for Urban Policy Research, Rutgers University
1999 - 2000 Economist, Moffatt and Nichol International, NewYork
9/2000 - Furman Research Fellow, Center for Real Estate and Urban Policy Research,
- present New York University School of Law
Publications
An Exploratory Analysis of Joint-Ventures' Performance in Romania, East European
Series no. 17, Institute of Advanced Studies, Vienna, 1994
Foreign Direct Investment in Romania - A Microeconometric Analysis, with Christian
Helmenstein; in Working Papers o f the Conference on Countries in Transition,
Bratislava, May 1997
Mortgage Affordability and Underserved Markets, with David Listokin, Elvin Wyly,
Brian Schmitt; under revision for the Journal o f Housing Research.
The Potential and Limitations of Mortgage Innovation in Fostering Homeownership in the
United States, with David Listokin, Elvin Wyly, and Brian Schmitt; Fannie Mae
Foundation Research Paper, December 1999

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