Discussion of: Do Multinational Enterprises Contribute to Convergence or Divergence? By Mayer-Foulkes and Nunnenkamp Giorgia Giovannetti University of Firenze and Head of Research Department ICE – Rome Barcelona June 10 R&D and Innovation in the Development Process

Outline Questions/ answers The model and its empirical counterpart: the different transmission channels Data-set and econometric specification Summary of main results Concluding comments (a Dutch disease?)

Questions 1.Does FDI enhance growth? Yes, but…. –Differences between developed and developing countries –[M&A versus Greenfield: Relevant because stylized facts show that M&A are well over 50% of FDI, recently also in developing (emerging) countries.]

Questions 2.Does FDI lead to convergence? Yes, but…. receiving country must have reached a minimum level of development. Relative growth diminishes with relatively low per capita income. Different aspects of FDI have different convergence effects (employments in affiliates vs mere presence)

Questions 3.Does Sectoral/industry Composition of FDI matter to evaluate the effects on growth and convergence of host country? (Stylized fact) –Yes. Transmission channels work differently depending on sector/industry (because of different amount of R&D, share of skilled vs unskilled workers, possibility to extract rents etc). –Services seem to enhance convergence more. Good Idea to use BEA data set. Very detailed: large n. of dimensions: stocks, flows, imports and exports from affiliates, R&D etc

Questions 4.How much does the quality of institutions matter for FDI? [Problems of measurement] Substantially. Can be changed by economic policy (are endogenous and not exogenous). [Corruption (rises costs of doing business) can be relevant].

The model In the original model (Aghion et al 2005): –Growth occurs through transfer of ideas. –There is convergence when a lagging behind economy absorbs knowledge (can do it from different sources) –The rate of absorption can be too low due to local condition (history matters, HK is crucial, financial constraints) multiple equilibria, depending on financial development The effect of financial development on convergence is in any case positive (QJE). FDI is a different story Lets see the channels through which FDI affects convergence

Background: channels FDI-Growth Direct: FDI adds to existing capital stock –Also, allow transfer of technology (can take time to be able to produce independently the imported technology) Indirect: through impact on human capital. Spillover due to training can be even more important than direct effect. The effect on growth should be positive

Channels FDI- convergence In principle FDI should induce convergence through : –Capital Accumulation –Knowledge transfer –Positive externalities of various type: e.g. competitive pressure But we can have also negative externalities: FDI may increase demand for scarce resources (skilled labour and domestic credit), hence divergence Account for (all) these channels by interacting independent variables with relative income

From model to empirics: Is it correct to interpret the extension of Aghion et al. to the case of FDI as implying that FDI increase the probability of innovation? If so, how can this be consistent with negative effects of FDI on convergence? Not clear how is the estimated equation derived (what about multiplicity of equilibria)? Relative growth in pc income is f(US FDI, HK, financial development and trade). Independent variables are interacted with relative per capita income to measure impact on convergence. Coefficient is positive (no convergence)

On the econometric exercise Panel data regressions (dynamic, why static instruments? Could include also a time trend and interact it) Results not always presented clearly (lack of goodness of fit measures, F test in first stage regression, Sargan test etc.) Set of developing countries very heterogeneous The right proxy for Human capital? (not life expectancy)….even years of schooling may not be good… I buy Manuelli story! Instruments could be “better” (e.g. openness of trade – could use gravity model, only instruments for FDI seem ok) With IV variables affecting convergence insignificant (bad instruments?)

Summary of main results FDI does not (necessarily) imply convergence in rate of growth (coefficients in regressions). –Important to distinguish between sectors (manufacturing vs services) and within manufacturing. Policy makers should improve local conditions required to benefit from advantages of FDI

The Results: a “Dutch Disease”? Why a negative effect of FDI on convergence (at least for low income countries)? Is it a Dutch disease (common to every industry)? Or rather it depends on the artifact of imposing a simple multiplicative interaction that does not allow for decreasing effects asymptotically going to zero? Does the shift in resources away from domestic sectors jeopardize a country long term growth potential by chocking off an important source of HK development?

Concluding remarks Claim :“the central challenge facing policy makers in developing countries is not to attract FDI, but to improve the local conditions required to benefit from the widely perceived unique advantages of FDI”. At the end of the story it seems that the analysis only says that a country needs to “be rich” to benefit from FDI. Policy implications: needs for retraining, restructuring, export diversification, use of exchange rate, foreign exchange reserves..)

Comments on first stage regression Some coefficient (in Table 3) have signs difficult to interpret: why landlocked countries have higher FDI? Is it because exporting is more expensive? Does this goes through also considering exports to and imports from affiliates? Why larger countries have lower FDI, considering that they should have a larger local market? What is the F test? Why is it not reported? Royalties and license fees probably include technology transfers as well as brand value

More on the econometrics How are insignificant interacted terms included in the derivation of figures 4 and 5? How are interaction terms instrumented (as in Aghion et al)? Why 5 years averages are used? Are the results robust to a cross section specification such as Aghion et al?