Multinational Corporations

Emergence and Evolution

Paz Estrella Tolentino

• Publisher: Taylor & Francis
• Year: 2003
• Print ISBN: 9780415145756
• eBook ISBN: 9781134759040
• Edition: 1
• Topic: Business
• Subtopic: Business General
• Index: Business

This work presents case-studies of the emergence and evolution of Multinational Corporations (MNCs) based in eleven developed and developing countries of widely divergent patterns of national development. From this analysis, Tolentino develops a comprehensive theory of the emergence and evolution of MNCs from a macroeconomic perspective.

Part I

Introduction

1 The theoretical foundations

Introduction

This book examines the emergence and evolution of multinational corporations (MNCs). In general, historical observations of the growth of MNCs suggest a developmental course in the pattern of outward foreign direct investment (FDI) from an initial emphasis on trading, resource-based or simple market-seeking investments where the competence of leading national firms is embedded in basic engineering skills, complementary organizational routines and structures. Over time, as industrial development of home countries proceed and as their firms gain maturity as MNCs, there is the gradual progression of their outward FDI towards more sophisticated forms of manufacturing and services activities that embody greater technological and organizational complexities. Indeed, the historical analysis of the developments in the sectoral pattern of outward FDI at the global level shows that the bulk of this investment was associated with primary commodity production before 1939, and only since the Second World War did outward FDI in manufacturing and services come into its own in a major way, bringing forth the growth in international technological competition in the industrialized countries and the global integration of FDI.

Such an evolution describes the growth of the mature MNCs of Europe and the United States over the last two centuries. The evolution of Japanese MNCs since the Second World War, on the other hand, has been compressed into a much shorter time span. Investments in resource-based activities and import substituting manufacturing in South East Asia led the way in the 1950s until the early 1970s, but since the late 1960s the interest of Japanese firms shifted to more sophisticated manufacturing production in Europe and the United States (Ozawa, 1991). Although MNCs from the Asian newly industrialized countries (NICs) are nowhere near as technologically advanced as the more established multinationals from Europe and the United States as well as the modern Japanese MNCs owing to the less advanced stage of the industrial development of their home countries, the lower forms of technological competence of their leading national firms and their lack of maturity as MNCs, the sectoral complexity and geographical scope of their international production activities are evolving much more rapidly than that of the more historical home countries of FDI. The main reason for this is the general trend towards the internationalization of business since the mid-1970s which has been common to firms of all countries. Domestic enterprises from the developing countries have, in general, embarked on international production and became MNCs at an earlier stage of their development than industrialized country firms (see Tolentino, 1993 for further support of this argument).

Despite the general trend towards the internationalization of business which has been common to the firms of all countries and the more rapid pace in the emergence of MNCs from the newer home countries and in the evolution of the pattern of their international production activities, there seem to be variations in the pattern of the early stages of outward FDI across different types of countries as well as their developmental paths over time that are determined by distinctive patterns of national economic development. Since each country or group of countries has a unique pattern of national economic development owing in part to different endowments of natural resources, different sizes of the domestic market and different types of development path pursued in achieving industrial development, the developmental course of international production in each country or group of countries is likely to be unique and differentiated. This is the central theme that permeates the analysis of the emergence and evolution of MNCs in this book, and the hypothesis that the research seeks to validate vis-à-vis the empirical evidence.

Since the conceptual framework relating outward FDI and patterns of national development belongs to the set of theories comprising the macroeconomic developmental approaches to international production, the theoretical foundations underpinning the analysis of the emergence and evolution of MNCs proceed from the various theoretical strands of this approach. The development of these various theoretical strands from their origins in the 1960s is therefore provided in the proceeding section of this chapter. The various theories developed have sought to relate the level, character and composition of inward and outward FDI of a country’s firms to the stage of the product life cycle (Vernon, 1966), the comparative advantage of countries (Kojima 1973, 1975, 1978, 1982), the national stage of development (Dunning, 1982, 1986a, 1986c) or the process of domestic industrial development. The latter has been useful in elaborating the concept of stages of development in international production of countries generally (Tolentino, 1993; Cantwell and Tolentino, 1990) as well as the developmental course of outward FDI of particular countries such as Japan (Ozawa, 1979a, 1979b, 1982) and the developing countries (Tolentino, 1993; Cantwell and Tolentino, 1990). By relating the emergence and evolution of international production to distinctive patterns of national economic development in different types of countries, the present research aims to refine the stages of development concept in international production, and therefore contribute to the advancement of more modern macroeconomic theories of international production.

The macroeconomic development approaches to explaining international production

The macroeconomic development theories of international production describe the dynamic and developmental process or the way in which stages of development or maturity of countries and firms affect their international production activities. The major theoretical strands comprising this framework are the product cycle model (PCM) Mark I advanced by Vernon (1966) to explain the patterns of American FDI in Europe in the 1960s, the integrated theory of trade and FDI of Kojima and Ozawa which explains the patterns of outward FDI of Japan, and the two more general concepts associated with the investment-development cycle and path identified with Dunning, and the stages of development in international production promoted by Tolentino (1993) and Cantwell and Tolentino (1990).

The product cycle model

The earliest version of the PCM Mark I, advanced by Vernon (1966) was the first theoretical strand to emerge among the modern macroeconomic theories of international production. The model was developed owing to the limitations of the conventional neoclassical Hecksher-Ohlin-Samuelson theory of international trade in explaining the growth since the Second World War of trade and international production between the United States and Europe with similar proportional factor endowments.

In developing the PCM Mark I, Vernon drew on the newer trade theories promoted by Leontief (1954), Johnson (1958), Linder (1961) and Posner (1961). Leontief, Johnson and Posner emphasized the important role of technological factors in explaining American trade patterns. In particular, Leontief alluded to the embodiment of higher skills in American export products, while Johnson referred to the presence of a slower rate of innovation in Europe compared to the United States in explaining the existence of a persistent dollar shortage in Europe. The presence of a technological gap as an important element in explaining trade patterns became more entrenched in the early 1960s with the pioneering work of Posner in developing a theory of trade based on technology gaps, and in particular the different rates of innovation and learning among different firms and countries. At the same time, Linder also proposed that similarity of income levels, factor endowments and demand patterns were the important determinants of the pattern of trade flows.

The fundamental principle behind the PCM Mark I is that the extent and form of innovation and product development are determined by demand and relative factor prices which exist in the market particular to the home country of the innovating firm. The presence of a large market, for example, favours entrepreneurial opportunities in the research and development, production and marketing of new products and processes. Furthermore, the presence of high income levels in the United States in the 1950s and 1960s that engender new wants encourages the generation of ownership advantages of American firms in the production of high-value consumer goods and industrial products. The high unit labour costs in the United States relative to production also creates a specific kind of entrepreneurial innovation, i.e. labour-saving innovation.

Drawing on the assumptions that products are capable of standardization at various income levels and encounter foreseeable changes in production technology and marketing methods, and that production processes proceed through phases over time and inevitably achieve scale economies, the PCM Mark I delineates three principal stages in the life cycle of a product. The first stage is that of the innovative new product, resulting from the awareness of unique entrepreneurial opportunities and the identification of a novel demand, or the adoption of new methods of production. The PCM further postulates that American entrepreneurs are first aware of opportunities to fulfil new wants by new products concomitant with high average income levels or high unit labour costs. This stems from the model’s other assumption that the entrepreneurs’ consciousness of, and responsiveness to, entrepreneurial opportunities are a function of ease of communication with the market place which in turn is a function of geographical proximity. As a result, American entrepreneurs are expected to have a consistently higher rate of expenditure on product development than entrepreneurs from other countries, at least in product lines that fulfil high income wants and that substitute capital for labour.

The unstandardized nature of the new product, the high degree of product differentiation or the existence of monopoly in the early stages and the need for expeditious communication between producers, customers, suppliers and competitors underscore the importance of a location of production that favours external economies and the minimization of communication costs. Since the model assumed that these costs increase directly with geographical distance, a location of production which is close to the market is favoured in the first stage.

The second stage in the life cycle of a product is that of the maturing product, the result of a certain degree of standardization. The importance of flexibility – arising from the integration of research, production and marketing activities at the site of innovation in the first stage – decreases. Instead, the possibility of economies of scale through mass production increases with the specification of product and process technology. Thus, in contrast to the first stage where product specifications were fundamental, production costs now become far more important. Moreover, demand for the product increases correspondingly and becomes more price elastic with increasing buyer knowledge. In time, the demand for the product increases in other relatively advanced countries as Western Europe with similar demand patterns, especially since the product has a high income elasticity of demand and is labour saving. These foreign markets are first served through exports until the marginal production and transport costs of the goods exported from the home market are below the average cost of establishing a production facility in the export market, where factor costs, appropriate technology and scale economies are divergent from those in the home market.

Apart from cost considerations, any threat to the large-scale export business in manufactured products in the form of tariff protection imposed by export markets to promote growth or balance trade as well as the emergence of local competition within the export market becomes a powerful ‘galvanizing force’ propelling the initial import substituting international production of an established firm. The subsequent growth of production of rival firms may result in a threat manifested in the form of declining global share of the market with respect to the initial investor. Besides, the relocation of production abroad increases the possibility of exports to third country markets and even the home market should differences in factor costs surpass transport costs.

The third and final stage in the product life cycle is that of the standardized product. The nature of the product at this stage means that accessibility to market information is greater and competition is largely, if not solely, on the basis of price. The search for the lowest cost source of supply therefore becomes the priority of investor firms. At this stage, the ownership advantages of the firm are based mainly on marketing and distribution, unlike the earlier stages where ownership advantages were based on the abilities of the firm to engage in technological innovation.

A major feature of the PCM is its implicit reply to the Leontief paradox that American firms export more labour intensive goods instead of capital intensive goods with which the United States has a comparative advantage. The PCM describes the research intensive innovative stage of a product and the establishment of a pilot plant as particularly labour intensive because of the demand for research staff and marketing personnel. However, as the product reaches the standardized stage, scale economies become far more important. The mass production of the standardized product necessitates greater capital intensity compared to the greater labour intensity of the innovative stage.

In addition to the substitution of capital intensive means of production for labour intensive means of production in the standardized product stage, there is also a substitution or displacement of higher skilled labour by less skilled or unskilled labour. A cost determined equilibrium regulates the shift of these lower skilled and unskilled labour stages of production of standardized products to developing countries where labour costs are lowest and where incomes begin to ‘catch up’. A fourth stage in the product life cycle can therefore be envisaged in which there is a shift in the location of production to developing countries and specifically to the NICs. However, there is a major difference in the nature of American FDI in the developing countries at this stage and that of American FDI in developed countries at an earlier stage. International production by American MNCs in the developing countries is more likely to be of an export-oriented kind that is not driven by local market demand. By comparison, international production by American MNCs in Europe is more likely to be import substituting that is determined largely by demand factors in the host country.

The PCM is re-stated clearly in Hufbauer (1965, 1970), particularly its interrelationship with technological gap theories, while the further applications of the PCM in explaining American trade and international production patterns are found most notably in Knickerbocker (1973), Stobaugh (1968) and Wells (1972). Knickerbocker (1973), in particular, used the framework of the PCM to identify the capabilities of American manufacturing companies which enabled their expansion abroad as MNCs, and as a critical determinant of the industrial structure in the process of international expansion. The empirical support for the PCM has extended beyond the analysis of the patterns of American trade and international production. Graham (1975, 1978) and Franko (1976) have examined the significance of the PCM and other theories relevant to an understanding of the development of foreign manufacturing operations of American firms in Europe to the growth in the United States of some of the largest industrial firms based in the western part of Continental Europe. Graham (1978), Flowers (1976) and Hymer and Rowthorn (1970) have also extended the PCM to consider the concept of rivalry between firms from different countries.

The theory of Japanese FDI: the contributions of Kojima and Ozawa

Like the PCM, Kojima’s integrated theory of international trade and international production also analyses the interaction between ownership advantages and the changing location of production. However, Kojima’s theory differs in the theory of trade upon which it is based. The theory is based on the Hecksher-Ohlin principle of comparative advantage (or costs) (Kojima, 1973, 1975, 1978, 1982, 1990). Kojima’s basic theorem is that FDI should originate from the comparatively disadvantaged (or marginal) industry of the home country which leads to lower cost and expanded volume of exports from the host country. This type of FDI is referred to as pro-trade, Japanese-type FDI. The non-equity forms of Japanese resource-based investment in resource-rich countries are regarded as trade-oriented investments because of the assurance of a supply quota or production sharing arrangements with indigenous enterprises in the host countries.

Such investments contrast with the wholly owned, vertically integrated resource-based production of firms from the United States and major European countries which originate from the comparatively advantaged industries of the home country and lead to misallocation of resources and a decreased volume of exports from the host country. This type of FDI is referred to as anti-trade, American-type FDI. The oligopolistic and technologically advanced American firms that engage in FDI are seen to be motivated by the defence of their oligopolistic positions, the exploitation of factor markets and the presence of tariff barriers in the developed countries.

An important criticism of Kojima’s theory is th...

Table of contents

• Cover Page
• Half Title Page
• Title Page
• Copyright Page
• Dedication
• Table of Contents
• List of Tables
• Foreword by John Cantwell
• Preface
• Part I Introduction
• Part II Multinational corporations from the resource-abundant countries
• Part III Multinational corporations from the resource-scarce large countries
• Part IV Multinational corporations from the resource-scarce small countries
• Part V Conclusion
• References
• Index