Foreign versus Domestic Survival in a Changing Environment

Abstract

This paper explores whether and how environmental dynamics can affect foreign and domestic survival. Utilizing a unique longitudinal data set with 420 manufacturing plants created in the protected developing Greek economy (1960–1980), we test these plants’ ability to survive in the new, integrated environment (1981–2001), when Greece became a member of the European Union (EU). After controlling for time and age effects, we find that environmental dynamics in terms of integration and economic development negatively influence the survival of all tariff-jumping and unskilled labor-intensive plants, regardless of their ownership. However, survival evolution of foreign-owned and domestic plants differs over time depending on the country’s degree of economic integration. Specifically, during the shallow integration period (1981–1990), foreign-controlled plants tend to retain a survival premium, which they appear to have acquired in the protectionism era. This means that foreign-owned plants benefited more from external environmental dynamics in terms of tariff protection compared to domestic ones. Nevertheless, in the deep integration period (1991–2001), the declining survival rates tend to converge, and the foreign survival premium completely disappears. Consequently, in the long run, environmental change similarly affects foreign and domestic survival.

Key Words:

• Longitudinal Data
• Economic Integration
• External Environment
• Foreign Survival
• Domestic Survival.

JEL classifications:

• C23
• F15
• F18
• F23.

The paper expresses the personal views of the authors and does not reflect the views of the European Parliament, the European Commission, or any other formal institution. Furthermore, no confidential information was used for the preparation or writing of this paper.

We are grateful to the Editor, Eleanor Morgan, and two anonymous reviewers for their helpful comments. We also thank Vasilios Sogiakas, Department of Economics, University of Glasgow, for his valuable econometric support.

Notes

1. In particular, Li and Guisinger (1991) find that domestic entrants are more likely to fail than foreign ones. Also, Baldwin and Yan (2011) conclude that foreign-owned plants have much lower failure rates than domestic ones, but their survival rates are more sensitive to changes in tariffs. Kronborg and Thomsen (2009) find that foreign-owned units have a survival premium compared to domestic ones, but this declines in the long term as a result of globalization and new foreign entry.

2. The “footloose” character of MNEs is expressed in the enhanced ability to shift production to other locations when the conditions in the host country deteriorate (e.g., external shocks in terms of a drop in domestic demand, economic crisis, etc.). Nevertheless, some relevant concerns to this argument are also mentioned by corresponding studies. Specifically, the high heterogeneity of firms indicates that not all MNEs may be “footloose,” and not all plants have the same ability to absorb adverse economic conditions and survive. Moreover, barriers to exit may differ. Foreign-owned plants may be on average more skill- and capital-intensive than domestic ones. Thus, they might face higher sunk costs due to a major commitment (e.g., Bandick 2010; Van Beveren 2007). Furthermore, if the shock is only temporary and concerns a few of their products, foreign MNEs could reduce production, shifting production excess within their transnational production system, without necessarily exiting the market (downsizing instead of closure; e.g., Alvarez and Görg 2005; Bernard and Jensen 2007).

3. Many of them exclusively investigate how regional integration reformulates the roles of foreign affiliates in the single market in form of restructuring, downgrading or upgrading, and relocation of activities and product lines within the multinational production system (Benito, Grøgaard, and Narula 2003; Feils and Rahman 2008; Morgan and Wakelin 1999; Pearce and Papanastassiou 1997).

4. In 2007, Greece had a population of 11 million residents, while its GDP per capita in constant 2000 prices was 23,318 USD (OECD statistics database).

5. Tariffs were the most important instrument for the protection of the domestic infant industry. Due to their removal in the integration period, the share of imports in the domestic consumption more than doubled from 23% in 1980 to 51% in 2000 (Bank of Greece).

6. We consider liberalization and the integration period synonymous throughout this paper. Especially in the case of Greece, liberalization of the national economy is strongly connected with its gradual incorporation into the regional and global markets.

7. We argue that during the protectionism period, foreign-owned plants outperformed corresponding domestic plants because of the possession of plant-specific characteristics derived from efficiency advantages of their MNE. Additionally, the protected national environment isolated domestic plants from information on international standard practice. As a result, learning effects remained limited, and the initially low levels of productivity and innovation prevented convergence in the competitive advantages of both groups of plants.

8. We weight unit labor costs according to their share in the total operation costs. This share varies considerably across industries, showing decreasing importance from labor- to capital-intensive industries. In this way, we can exactly capture the impact of labor costs on survival in each industry.

9. As far as the dummy variable TECH is concerned, it is important to underline that despite substantial trade liberalization in Greece, there were no significant re-classifications in the postwar era as regards the distinction in, on average, high- and low-tech industries. Its creation is based on evidence concerning the European industry included Greek manufacturing (Hallet 2000; Midelfart-Knarvik et al. 2000).

10. In these periods, we capture calendar effects. Each calendar period includes the plants in operation at the beginning of that period, censored for those that managed to survive until the end of the period.

11. A minimum labor force excludes statistical bias induced by a “liability of smallness.” Stable participation in share capital and low dispersion of it indicates that as time goes by the main foreign shareholder remains the same, retains management control, and nullifies internal management conflict. Thus, we exclude marginal, controversial, or unknown cases as regards the foreign identity of plants, as well as minimizing the possibility of closures caused by internal business reasons and not by external environmental change.

12. We also calculated the empirical survival rates between industries for the tenth year of plant operation. We found that the survival function did not substantially differ between industries, since its values range from 96% for food to 80% for paper. Hence, the effects of industrial dynamics on survival were limited. The results are available upon request.

13. Thus, if increased competition leads plants to shut down local production and concentrate on sales to the local market, these plants would not exist in the Icap Hellas directory for manufacturing units anymore but in the directory for trade companies.

14. Given that the model is not linear, the first derivative with respect to the multiplicative term is not the impact of the interaction effect. According to Buis (2010), the interpretation of interactions can be made easily using hazard ratios (i.e., multiplicative terms). The procedure is the following. First, the baseline is define, which is common for all plants. Next, the interaction term is translated into hazard differences, and then the net effect for the corresponding variable of interest is calculated.

15. The literature (e.g., Baldwin and Yan 2011) suggests that foreign survival is more sensitive to changes in tariffs compared to domestic survival.

16. Our finding is in line with those of the few comparative studies that, under crisis conditions, either exclusively explore survival (Alvarez and Görg 2005; Godart, Görg, and Hanley 2011) or examine the economic behavior of domestic and foreign enterprises without extension to survival investigation (Varum and Rocha 2011).