Global sourcing Pol Antràs – Elhanan Helpman (2004)

Introduction

Vertical integration FDI or intra-firm trade Domestic outsourcing Foreign outsourcing or arm’s-length trade To set the ground, Some definitions

How important is intra-firm relative to arm’s length trade in intermediate inputs? Some intuitions : Foreign outsourcing > foreign intrafirm sourcing Decline in vertical integration => firms are more specialized What are we going to study? -Impact of variations in productivity within sectors - Impact of differences in technological and organizational characteristics across sectors concerning trade, FDI, choices of firms.

1. Literature

FRAMEWORK IN WHICH COMPANIES MAKE ENDOGENOUS ORGANIZATIONAL CHOICES Melitz and Helpman (2003), Melitz and Yeaple (2004) Introduction of different productivity levels between firm, of FDI Grossman and Helpman (2002) Choice between outsourcing and integration in a one-input general equilibrium Antras (2003) 2 new features : incomplete contracts exist within integrated firms AND 2 inputs exist

2. Model

Inverted demand To produce a variety i in sector j Pay a fixed cost of entry Firm exits or stays stays cost of organization Establish productivity level

Fixed cost 2 types of producers H : final-good producer ( HQ services) M : operator of manufacturing plants (intermediate inputs).

Fixed organizational cost with k € {V,O} and l € {N,S} Setting of incomplete contract Fee : incentive so that M participates

Quick summary We show how prevalence depends on the wage gap between N/S the trading cost of intermediate inputs the degree of productivity dispersion within a sector the bargaining power the size of the ownership advantage the intensity of HQ services

3. Equilibrium

Potential revenue from the sale of the final goods in the case of agreement

Fraction of revenue in the case of fail when H: Outsources Profit for H and M respectively Integrates Profit for H and M respectively (case of bargaining)

Payoffs in the bargaining game are proportional to the revenue Bargaining power for H is higher under integration (Grossman and Hart)

H maximises providing h The delivery of the inputs and is not contractible ex-ante h(i) m(i) M maximizes providing m

Total value of the relationship (combining FO condition with R):

Assumptions Maximization of final-good producer profit function choosing the orga form H offers a contract designed to attract an M agent ( which ex-ante outside option 0): H raise t till participation constraint: Equilibrium: Subgame-perfect equilibrium:

Threshold (upon observing productivity level): (If below firm will exit and pay )

Triplet Tools of maximization for final-good producer profit profit decreases in and southern manufacturing minimizes variable costs regardless of ownership structure ranking of profit levels is the reverse of the ranking of fixed-costs levels H chooses that maximizes Fraction Higher β gives H a larger fraction of revenue and induces M to produce fewer components

Importance of β

In the ex post bargaining neither H nor M appropriates the full marginal returns to its I in supply h and m (underinvestment related to the fraction of surplus) Larger share of R to important investor A free ex ante choice of the division rule of the surplus isn`t allowed So the ownership structure and the location of M are the only instruments The profit-maximizing choice depends on a firm’s productivity level FE condition:

4. Organizational forms

Tensions in terms of choice of organizational forms Location decision variable costs are lower in the S Integration decision insourcing entails higher fc in the S and gives H a larger β ( but doesn`t necessarily benefit H cause can reduce M`s incentive to supply m)

To simplify we examine 2 types of sectors First, consider a sector with low Secondly, with high

To simplify we examine 2 types of sectors First, consider a sector with low Than, with high

Cross-country difference Wage rate Wage differential is small Outsources in N and S Fixed organizational costs FC organizational costs differential is small Outsources in the S

Sector with low

Cutoffs

FE condition (together with TOP and max π)

Sector with high

Also two situations Wage differential is high Wage differential is small or

Also two situations wage differential is high relative to All 4 organizational forms exist in equilibrium Existence of profit line of V in S wage differential is small 3 organizational forms exist in equilibrium, 2 organizational forms in equilibrium No international trade

Prevalence of different organizational forms (cutoffs)

5. Prevalence of organizational forms How does the prevalence of organizational forms vary across industries ?

Assumptions The selection of firms and the measure of prevalence. Benchmark cases in component-intensive sector and in headquarter-intensive sector.

Component-intensive sector More freedom from headquarter, but there is no intregration of firms here The relevance of productivity 3 causes of foreign outsourcing : o Wages o Transport costs cut ( cf Melitz 2003) and a decrease of z o Headquarter intensity A decline in H’s bargaining power  foreign outsourcing more prevalent

Headquarter-intensive sector 4 organizational forms in the benchmark case Productivity effects Foreign outsourcing vs FDI Foreign outsourcing takes advantage over integration when… Integration takes advantage over foreign outsourcing when… An increase in bargaining power ?

Decision of a MNs firms to carry out FDI or outsourcing Contracts theory (Grossman & Helpman) Financial institutions in the host country Quality of institutions and property rights in the host country Labor market institutions in the host country

6. Conclusion and Outlook

A. Conclusion « Theoritical study of global sourcing strategies » The trade-off of heterogeneous firms The intensity of headquarter The effect of productivity dispersion on the organizational forms Widening: o Difference of wage

B. Outlook Impact of endogenous choice strategy on trading system ? What will happen if the wage gap between the N and S decrease ? … …With homogeneous firms ? …

Thank you ! Now, Questions ?