Segmentation and Spillovers in the Chinese Semi-conductor Industry

1. Segmentation and Spillovers in the Chinese Semi-conductor Industry Henry Chesbrough, Helen Liang Haas School of Business, UC Berkeley Aug 18, 2007

2. Outline • Motivation, Background and Previous Findings of China’s Semiconductor Industry • Research Questions • Existing Literature and Hypotheses • Data, Measurement, and Empirical Strategy • Empirical Results (To be finished) • Semiconductor industry • Other industries • Conclusion and Discussion

3. Background and Motivation • Globalization of semiconductor industry • Expansion of production and R&D to emerging market • MNCs compete and cooperate with local firms • Knowledge transfer • Channels and effects of knowledge transfer/spillovers • Changing landscape of intellectual property protection regime in developing countries

4. Previous Findings – A Divided Industry There are two very different industry segments operating in the Chinese semiconductor industry (Chesbrough 2005) • A Globally-oriented, globally competitive segment that employs advanced technologies and is gaining market share in world markets • A Domestically-oriented segment that employs backward technologies, lacks access to investment capital and management expertise, where the government is the largest shareholder of each firm

5. Knowledge spillovers between key segments of theChinese semiconductor industry

6. Research Objective • Identify the size and trend of development of the two domestic segments • Examine the effects of MNCs on the innovation and productivity of domestic segments • Examine the moderating factors of learning and knowledge spillovers

7. Research Question 1. Size and trend • How big are the two segments of the Chinese semiconductor industry, relative to each other? Is one growing faster than the other? How profitable are the two segments? • Is there a trend of converging of the two segments within the Chinese industry, or are they diverging? Are they increasingly targeting the same market/customer base (within China or internationally) or not? Is the domestic oriented segment improving its technology, productivity, and profitability, relative to the globally oriented segment? 2. Knowledge spillover • What are the comparative rates of spillover between the MNCs and the globally-oriented firms and the domestically-oriented firms? • Do the globally focused firms have higher absorptive capacity, and learn more from the MNCs? • How is semiconductor industry compared with other industries, tech-intensive vs labor-intensive, domestic-oriented vs exporters? Textile, machinery, food processing, etc. 3. R&D efforts and output • What determines the R&D intensity at firm level? • How does R&D input translate into output? • How does R&D activity influence firm productivity and profitability?

8. Outline • Motivation, Background and Previous Findings of China’s Semiconductor Industry • Research Questions • Existing Literature and Hypotheses • Data, Measurement, and Empirical Strategy • Empirical Results (To be finished) • Semiconductor industry • Other industries • Conclusion and Discussion

9. Existing Literature I • Channels of spillovers: the role of industrial linkage • Within industry (+/-) • Imitation/Tech transfer (+) • Personnel turnover and interaction (+/-) • Negative externalities not related to tech spillovers (-) : input, labor, land, etc • Empirical findings on intra-industry spillovers: • + in developed economies (U.S. and U.K.) • 0/- in developing economies (Aikton& Harrison99, Javorcik04) • Downstream  Upstream industries (buyer  supplier) (+) • Customers provide support to suppliers: technology, mgmt skills (Javorcik04) • Export (Blalock and Gertler 04 & 05) • Upstream  Downstream industries (supplier  buyer) (+) • Better inputs and equipment  higher productivity

10. Existing Literature II • Moderating factors of spillovers • Absorptive capacity • Firms’ previous investment/experience in R&D and personnel/skilled workers (Cohen&Levinthal, Blalock&Gertler) • Ownership structure of • knowledge source: wholly-owned MNC subsidiaries vs Joint ventures • knowledge recipient: incentive structure in state-owned vs private firms • Geographic distance to knowledge source • Knowledge transfer is more effective at local level • Jaffe et al. 93: patent citations in U.S. • Keller 02: productivity benefit from other countries’ R&D • Technology Gap between source and recipient

11. Existing Literature III • R&D intensity and output • R&D production function (Grilliches 1979) • Chinese firms’ R&D Performance (Jefferson et al, 2002) • A recursive 3-equation system: • R&D intensity = previous performance • R&D output = previous R&D intensity • Performance/productivity = R&D output + L + K + M

12. Hypotheses

13. Outline • Motivation, Background and Previous Findings of China’s Semiconductor Industry • Research Questions • Existing Literature and Hypotheses • Data, Measurement, and Empirical Strategy • Empirical Results (To be finished) • Semiconductor industry • Other industries • Conclusion and Discussion

14. Data • Firm level data: • Firms operating in China, Semiconductor industry and other industries, 1998-2005 • Source: Enterprise Survey, National Bureau of Statistics, China • Variables: • Input/output, R&D activities, patent applications, new products, etc

15. Descriptive Statistics • Size of the two segments vs. MNCs in semiconductor industry (csic=415, 2002 version) • Output (v207, current price), employment (v210) • Export Ratio (v213/v209) to identify domestic-oriented and global-oriented segments (ownership b10=110-190) • Global-oriented segment: export ratio >=50% • Domestic-oriented segment: export ratio <50% • Compare with MNCs (ownership b10=310-340) and overseas Chinese-invested enterprises (b10=210-240) • Compare with other industries • Trend of development: • Growth rate of output, export ratio, and innovation output and input • Are the two segments following the same trend? • 2-sample t-test on firm level average growth rate 1998-2005 • Graph: average growth rate of each segment

16. Measurement • Productivity and profitability • TFP and labor productivity • ROA • Innovation activity • Input of innovation: R&D funding (kj22), expenditure (kj28), personnel (kj43), scientist and engineer (kj46) • Output of innovation: # of patent application (kj77), patents granted (kj79), # of S&T projects (kj85), R&D projects (kj87), new product value (and as a proportion of output), new product value and export value • Other moderating factors: • Absorptive capacity: previous cumulated R&D investment and personnel? • Geographic distance to knowledge source • Same city/province MNCs/global-oriented/domestic-oriented share of output/labor in own industry sector and vertically related sectors

17. Model I: Productivity Spillovers • A Translog Productivity Function with firm fixed effects (Liang 2007) ln Yijrt = α+ß1*lnKijrt + ß2*lnLijrt + ß3*lnMijrt +ß4*Horizontal_FDIjrt +ß5*Downstream_FDIjrt + ß6* Upstream_FDIjrt + ß7*Controlijrt + αi + αt + ξijrt

18. Model I: Independent Variables --Industrial Linkage • Horizontal FDI share (+/-): • The share of sector output by foreign affiliates • Downstream FDI share (+): • The share of sector output by foreign affiliates in the downstream industries weighted by Input/Output coefficients, excluding own-sector • Upstream FDI share (+): • Similar as downstream FDI share, excluding export in output • Note: • Input/Output coefficients at 2-digit China SIC level • Obs. at 4-digit China SIC level

19. Model I: Control Variables • Fixed effects: sector fixed effects, year dummies • Export ratio and export-oriented sector dummy • Olley-Pakes proxy for un-observed productivity shocks • Concern: FDI goes to locations with quick learners • Use investment conditional on capital to identify un-observed contemporaneous shocks • A third order polynomial of investment and capital

20. Model I: Moderating Factors • Moderating factors: • Ownership of knowledge source and recipient • Estimate wholly-owned subsidiaries and joint ventures’ impact separately • Estimate different ownership of domestic segments • Distance to knowledge source • Compare city-level coefficients with province-level coefficients (Liang 2007) • Absorptive Capacity • Compare/control firm-level R&D expenditure/personnel • Proxy Tech gap with cumulative R&D expenditure (alternatives: patent applications, # or projects) (Blalock and Gertler)

21. Model I: Industry Analysis • Does Semiconductor industry look like other industries? • Compare semiconductor industry result with other industries • Compare tech-intensive with labor-intensive industries

22. Model II: Innovation Activities • A Recursive 3-equation system (Jefferson et al 2002) (this function form need to be thought through) • R&D intensity = previous performance • R&D output = previous R&D intensity • Performance/productivity = R&D output + L + K + M • R&D output: to be measured with patent application, new product value, and export value.

23. Empirical Strategy • Identification • MNCs and entrants’ selection of industry and location • No good instruments so far • Geographic distance absorbed in FE • Dynamic panel? Using lagged dependent variables as instruments • Survival Bias • Using balanced panel of firms introduce survival bias • Inverse Mills Ratio? Propensity Score?

24. Overview of the two segments in China’s semiconductor industry • Size • The global-oriented segment has outgrown domestic-oriented segment in number of firms, output, employment, and asset 1998-2005 • Productivity, Profitability, R&D, and patent activity • Labor productivity (value-added/employment) in the two segments improve by similar pace • Domestic segment has higher R&D intensity in terms of expenditure and personnel • But Global segment has more patent application and granted patents • Entrants in global segment are less profitable, while the opposite is true in domestic segment • Export • The share of global segment in export increases from 43% to 92% 1998-2005 • Firm Age • Firms are younger in global segment, and older in domestic segment • Overtime firm age decreases in both segments – indicating exit of older firms and entry • Ownership composition • Domestic segment is dominated by domestic-owned firms and global segment by foreign-owned firms; in both segments domestic ownership declines overtime

25. Size of the two segments in China’s semiconductor industry – Number of Firms 1998-2005

26. Size of the two segments in China’s semiconductor industry -- output 1998-2005

27. Size of the two segments in China’s semiconductor industry -- Employment 1998-2005

28. Size of the two segments in China’s semiconductor industry – Fixed Asset 1998-2005

29. Productivity Labor productivity (value-added/employment) in the two segments improve by similar pace

30. R&D and patent activity Domestic segment has higher R&D intensity in terms of expenditure and personnel

31. R&D and patent activity Global segment has more patent application and granted patents

32. Profitability Entrants in global segment are less profitable, while the opposite is true in domestic segment; profit plunged in 2001

33. Profitability Entrants in global segment are less profitable, while the opposite is true in domestic segment; exporting domestic firms are more profitable.

34. ProfitabilityCompare profiting and loss-making firmsFirm-Year Average (in million Yuan, persons)

35. ExportThe share of global segment in export increases from 43% to 92% 1998-2005

36. Firm AgeFirms in global segment are younger, and in domestic segment older; overtime firm age decreases in both segments – indicating exit of older firms and entry

37. Ownership compositionDomestic segment dominated by domestic-owned firms Global segment by foreign-owned firmsIn both segments domestic ownership declines overtime