The Productivity Effects of Joining Multinational Supply Chains

Policy Context

A long-standing debate has focused on the extent to which attracting foreign capital and know-how to a country — typically in the form of affiliates of multinational corporations (MNCs hereafter) — can induce productivity catch-up throughout the economy. While this debate remains open, most governments continue to compete for MNCs. Their expectation is that MNCs are not only high-performers themselves, but they will also raise the performance of domestic firms. The latter is particularly appealing for developing countries, where most firms remain small and low-performing. Although supplying MNCs is not the only way domestic firms can benefit from the entry of MNCs, it is perceived as the most promising one.  

Critical to this debate is the answer to one question: what happens to domestic firms upon becoming suppliers to MNCs?

Study Design

Isabela and Jose bring together a rich collection of microdata from Costa Rica that includes the universe of firm-to-firm transactions in the country. This makes it possible to observe actual linkages between MNCs and domestic suppliers. They begin with standard proxies of firm performance measured with balance sheet data and then leverage firm-to-firm transaction data to infer changes in firm-level parameters from changes in sales to other buyers. Last, theyimplement a new survey of managers in a representative sample of 164 domestic firms and MNCs. These surveys reveal key mechanisms by which first-time suppliers to MNCs improve firm performance.

Results and Policy Lessons

Event study estimates reveal that domestic firms experience strong and persistent gains in performance after supplying to a first MNC buyer. Four years after, domestic firms employ 26% more workers and have a 4% to 9% higher total factor productivity (TFP). These effects are unlikely to be explained by demand effects or changes in tax compliance.

This work was published in the Quarterly Journal of Economics and has fostered wide interest from other developing countries. The researchers currently have a follow-up project that looks into the aggregate effects of knowledge spillovers from multinationals in the setting of four economies.