Martin Falk FIW Workshop Foreign Direct Investment, BMWA, March 7 th 2008

1. Effects of Foreign Ownership on Innovation Activities: Empirical Evidence for 12 European Countries Martin Falk FIW Workshop Foreign Direct Investment, BMWA, March 7th 2008

2. Motivation • importance of foreign affiliates in industrial R&D varies across OECD countries • Foreign-owned firms have a lower R&D intensity than domestically owned firms (see OECD 2003) • multinational firms undertake most of their R&D activity at home • relationship between innovation output and foreign ownership is not clear-cut • Descriptive statistics: Foreign owned firms are more likely to introduce technological innovations and have higher share of innovative sales • However, some part of the differences in innovation output between foreign affiliates and domestic firms may be due to a compositional effect =>simple comparisons are misleading

3. 90 Motivation R&D expenditures of foreign affiliates in % of total business R&D 78 80 72 70 66 60 56 49 50 45 42 40 40 35 27 27 30 27 26 25 25 20 17 20 16 14 10 7 5 4 0 Italy Spain Japan Ireland Poland Turkey France Finland Austria Sweden Greece Canada Hungary Belgium Portugal Australia Germany Netherlands United States Czech Republic Slovak Republic United Kingdom

4. Percentage of innovating firms (Western European firms) 0.50 domestic firms 0.43 0.45 0.41 foreign owned 0.40 0.36 0.33 0.32 0.35 0.29 0.28 0.30 0.25 0.23 0.25 0.20 0.16 0.15 0.10 0.05 0.00 new products new products new market new new developed in- products production production house processes processes dev in-house Notes: # of obs: 18 000, weighted using sample weights; Source: CIS 3 data. Motivation

5. Percentage of innovating firms (Eastern European firms) 0.40 domestic firms 0.34 0.35 0.32 foreign owned 0.30 0.24 0.25 0.22 0.21 0.20 0.19 0.20 0.16 0.13 0.15 0.11 0.10 0.05 0.00 new products new products new market new new developed in- products production production house processes processes dev in-house Notes: # of obs: 10 000, weighted using sample weights; Source: CIS 3 data. Motivation

6. Motivation Share of new products/market novelties in % (means) 0.30 (Western European firms) 0.261 0.25 domestic firms 0.222 foreign owned 0.20 0.15 0.104 0.095 0.10 0.05 0.00 share of turnover of new products share of turnover of new market products

7. Motivation share of new products/market novelties in % (means) (Eastern European firms) 0.16 0.142 domestic firms 0.14 0.116 foreign owned 0.12 0.10 0.08 0.066 0.052 0.06 0.04 0.02 0.00 share of turnover of new market products share of turnover of new products

8. Motivation

9. Motivation und Outline • Methods: • Probit estimates of the propensity to innovate • Share equations for turnover with market novelties and new products estimated by fractional logit estimator • Outline: • Previous literature • Theoretical background • Empirical model • Data and descriptive statistics • Results • Conclusions

10. Previous studies • Previous studies of cross-country comparisons of determinants of innovative sales/introduction of new products • Griffith, Huergo, Mairesse and Peters (2006) for France, Germany, Spain and UK based on CIS 3 data (OXREP) • Mohnen, Mairesse and Dagenais (2007), for seven EU countries based on CIS 1 (distinction between low and tech ind.) (EINT) • Lööf, Heshmati, Asplund and Naas (2002) for Finland, Norway and Sweden bason CIS 2 • Lhuillery, Freitas, Miotti and De Negri (2007), for France, Switzerland and Spain and three Latin american countries

11. Theoretical background • Previous literature: CDM model with log of innovative sales or logit transformed innovative sales and mills ratio/ selection equation • Innovation output is mainly determined by innovation input but elasticity is below 1: • Crépon, Duguet and Mairesse (1998): elasticities of the logarithm of turnover with new products with respect to R&D capital per employee between 0.12 and 0.46 • Griffith, Huergo, Mairesse and Peters (2006): impact of the predicted R&D intensity on the logit transformed share of market novelties is higher for Spain and France than that of UK and Germany

12. Previous studies • Effects of different types of innovation input activities • Types: internal R&D, external R&D, acquisition of new knowledge, acquisition of machinery, design, market introduction • Effects of different types of innovation activities are expected to differ across industries and between young and old firms • Impact of internal activities is higher in high-tech industries than in low/medium industries • Importance of non-R&D innovation activities is expected to be higher in services • internal R&D activities are more important for “radical” (i.e. new to the market) innovations than for incremental innovations (i.e. new to the firm)

13. Previous studies • Effects of different innovation sources • importance of external sources of information for innovation (Von Hippel 1998) • Firms benefit from customers and end users, lead user • knowledge potential of universities conferences, meetings and journals is more important in science-based and technology-oriented firms • knowledge spillovers from rivals are more valuable to less research–intensive firms (see Jovanovic and MacDonald, 1994)

14. Previous studies • Firm size • U-shaped relationship -> small firms and very large firms have a higher R&D and/or innovation intensity (Acs and Audretsch, 1988; Pavitt et al., 1987) • Foreign ownership • foreign-owned firms are more likely to introduce new products and new production processes (Sadowski and Sadowski-Rasters, 2006; Frenz and Ietto-Gillies 2007 for the UK) • Foreign ownership effect should be more pronounced in NMS than in the EU15 countries • Turnover increase due to M&A • Firms most significant market: If firms market is international one can expect higher competition

15. Empirical model I • Probit equation for the propensity to innovate • five different types of technological innovations: • introduction of new products • introduction of new products developed in-house • introduction of new market products • introduction of new production processes, • introduction of new production processes developed in-house

16. Empirical model I • Second step: fairlie technique that decomposes the foreign ownership difference into the characteristics effect and coefficient effect:

17. Empirical model II • Determinants of the share of new market products/market novelties

18. d for d hist , n d size , g d strat , l d mark , h d sources , k d d co , m sec, p Empirical model innovation intensity INQ dummy variable for firms that are part of multinational firm with headquarter outside the home country dummy variables for newly founded firms, M & A disclosure during the period dummy variables for firm size dummy variables measuring the innovation strategy geographical market dummy variables on the intensity of usage of different innovation sources country and sector dummy variables

19. Empirical model • share of innovative sales is bounded between zero and 1 by definition • Tobit model is not useful in our case because 0 and 1 values arises not because that the variable is unobservable; also logit transformation not useful • Papke and Woolridge (1996) proposed the called “fractional logit model” • Estimation method: quasi-maximum likelihood estimator, with heteroscedasticity robust asymptotic variance

20. Empirical model • Interpretation based on marginal effects • Separate estimates for EU-West (i.e. BE, DE, ES, GR, NO, PT) and EU-East (i.e. CZ, EE, HU, LT, LV, SK)

21. Data • CIS 3 micro aggregated data, EUROSTAT • Corrected version May 2007 (error in foreign ownership) • Share of foreign ownership correct data: 11% (old version 21%) • Coverage • Belgium, Czech Republic, Estonia, Germany, Hungary, Norway, Spain, Greece, Lithuania, Latvia, Portugal and Slovakia • Austria ist not included because Stat Austria refused to allow access to the data • # of obs probit: 28,000 • Number of obs. for the fractional logit model • EU East: 5000; EU West: 6400 • Estimation sample for the fractional logit is restricted to firms with information on type of innovation activities • Pure “process innovators” are excluded

22. Descriptive Statistics 0.70 0.60 West East 0.50 0.40 0.30 0.20 0.10 0.00 firms with zero firms with zero share of turnover share of turnover Innovation intensity new products turnover of new market novelties turnover of market products novelties

23. Descriptive statistics 0.60 East 0.50 West 0.40 0.30 0.20 0.10 0.00 foreign ownership Newly founded firm firm size (0th to 25th) firm size (25th to 50th) firm size (50th to 75th) firm size (75th to 100th) Firms m sig. market intern Firms most sig. market national Firms most sig. market: regional sales reduction due to disclosure turnover growth due to mergers ...

24. Descriptive statistics 0.70 0.60 West East 0.50 0.40 0.30 0.20 0.10 0.00 Training intramural R&D extramural R&D design and other preparation market introduction of innovation acquisition of other external knowledge acquisition of machinery and equipment

25. Empirical results: probit estimates • sample including Western European firms • Foreign ownership is marginally significant for new products developed in-house and new market products (effect 1.4 and 1.9 percentage points) • sample including Eastern European firms • Foreign ownership is strongly significant for all types of technological innovations (effects: 3.4 and 4.5 percentage points) • Sector, size, country dummy variables and dummy for exporters are all significant • Fairlie decomposition of the foreign ownership effect on the propensity to innovate: • Western European firms: 90 % of the difference in innovativeness can be explained by different characteristics • Eastern European firms : Between half and two thirds of the difference in innovativeness between foreign and domestically-owned firms.

26. dF/dx z dF/dx z foreign-owned firm (yes/no) 0.014 1.68 0.019 1.68 newly founded firm (yes/no) 0.040 2.47 0.035 1.78 exporting (yes/no) 0.046 6.80 0.085 10.09 turnover increase due to M&A (yes/no) 0.068 4.99 0.100 5.83 turnover reduction due to closure (yes/no) -0.057 -2.78 -0.061 -2.30 Firms most significant market (ref local): national market (yes/no) 0.066 9.14 0.121 13.61 international market (yes/no) 0.099 9.95 0.162 13.54 firm size dummy variables: firm size class turnover (25th to 50 th ) 0.040 4.44 0.054 4.95 firm size class turnover (51st to 75 th) 0.092 9.68 0.127 11.25 firm size class turnover (76 th to 100 th) 0.178 17.19 0.274 22.62 industry dummy variables (ref consumer man.) Mining & energy -0.081 -5.25 -0.124 -6.28 Intermediate manufacturing 0.025 2.87 0.022 2.00 Investment manufacturing 0.076 8.37 0.092 8.27 Distributive trade -0.055 -4.62 -0.137 -9.36 Transport & financial intermediation -0.035 -3.30 -0.064 -4.95 Business services 0.216 15.92 0.232 14.85 country dummy variables yes yes Probit estimates for Western European countries (marg. effects) new products dev. in-house market novelties

27. Probit estimates for Eastern European countries (marg. effects) firm size class foreign- owned firm firm size firm size exporting turnover turnover turnover (yes/no) (yes/no) (25th to 50th) (51st to 7 th) (76 th to 100 th) new products dF/dx 0.045 0.072 0.082 0.169 0.316 z 3.14 5.7 5.51 11.03 19.49 new products dev. in-house dF/dx 0.047 0.068 0.073 0.163 0.303 z 3.37 5.58 5.02 10.85 18.9 new market products dF/dx 0.045 0.052 0.044 0.086 0.191 z 4.19 5.47 3.73 6.91 13.96 new production processes dF/dx 0.034 0.045 0.075 0.167 0.316 z 2.72 4.05 5.34 11.43 20.16 new production processes dev in-house dF/dx 0.039 0.043 0.07 0.148 0.286 z 3.34 4.06 5.24 10.57 18.77

28. Fairlie decomposition of the foreign ownership effect on the propensity to innovate

29. Empirical results: share equations • sample including Western European firms • Foreign ownership is not significant • sample including Eastern European firms • Foreign ownership is strongly significant for both types (i.e new products and market novelties) • Use of different innovation sources, innovation input/strategies are more important in achieving a high share of new products/market novelties • Blinder-Oaxaca decomposition of the foreign ownership effect: • Eastern European firms : Difference in innovativeness is nit due tu differences in the characterisitcs

30. Results of the share equation: new products Western Eastern European European a z a z dF/dx dF/dx foreign ownership 0.008 0.87 0.024 2.73 innovation intensity 0.217 8.00 0.133 4.43 newly founded firm 0.047 2.38 0.048 2.66 turnover growth due to mergers & 0.020 1.45 0.027 2.23 acquisitions sales reduction due to closure -0.010 -0.36 -0.016 -1.15 Firms most significant market: national -0.004 -0.47 0.007 0.90 market (ref. local) Firms most significant market: 0.027 2.50 0.030 3.58 international market th th -0.004 -0.37 -0.002 -0.25 firm size class turnover (25 to 50 ) th th -0.038 -3.62 -0.018 -2.20 firm size class turnover (50 to 75 ) th th -0.073 -6.62 -0.028 -3.27 firm size class turnover (75 to 100 ) innovation sources yes yes Innovation strategy yes yes Country dummies yes yes Sector dummies yes yes

31. Results of the share equation: market novelties

32. Results of the share equation: Blinder-Oaxaca decomposition

33. Conclusions • relationship between foreign ownership and innovation activities using CIS 3 micro-aggregated data for 12 European countries. • Probit estimates • New Member States: the probability to innovate is significantly higher for foreign-owned firms than for domestic firms • Western European: foreign ownership is only marginally significant. • differences in the percentage of innovating firms between foreign owned and domestic firms are mainly due to different characteristics • Results for the share equation: • New Member States: foreign-owned firms are significantly more innovative than domestic firms. • overall difference in the share of innovative sales between foreign-owned and domestic firms is mainly due to differences in the coefficients =>pure effect • Other significant determinants of innovation output: innovation strategy, innovation sources • explanation: in the New Member States foreign-owned firms are younger than in West. EU countries => learning curve effect is inverted u-shaped?