Sourcing foreign inputs to improve firm performance

Maria Bas, Vanessa Strauss-Kahn 14 July 2014

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Should trade policy fight or promote imports of intermediate inputs? While several studies have shown the recent increase in imports of intermediate goods, their role in shaping domestic economies is not yet completely understood. Following the work of Feenstra and Hanson (1996), a large literature focuses on the impact of imported intermediate inputs on employment and inequality. It concludes that, like outsourcing, imported intermediate inputs have a role (although limited) in explaining job losses and wage reductions.

In contrast, the endogenous-growth literature has long emphasised the role of foreign inputs in enhancing efficiency gains and economic growth at the aggregate level (e.g. Romer 1987). At the microeconomic level, foreign inputs have been associated with firm productivity improvements (e.g. Pavcnik 2002, Topalova and Khandelwal 2011) and, more recently, with an increase in the number of varieties of goods produced by the firm (Goldberg et al. 2010).

Since imported intermediate goods enhance firms’ efficiency, they should also be an important asset for exporting activities. In a context of fierce political debate over jobs lost through outsourcing, the evaluation of the effect of foreign intermediate goods on firm productivity and export behaviour is not without economic and political interest.

Foreign inputs and firm performance

There are several mechanisms through which foreign inputs could affect firm competitiveness and export performance.

  • The first mechanism is the complementarity channel. By accessing new varieties of intermediate goods, firms expand the set of inputs used in production and reach a better complementarity between them. These complementary gains result from imperfect substitution across intermediate inputs and lead to increased firm efficiency. This allows more firms to access export markets and/or to export more varieties.
  • The second channel is related to an input cost effect. Importing cheaper intermediate inputs increases firms’ competitiveness, boosts expected export revenues, and allows more firms to enter the export markets.
  • A third mechanism is foreign technology transfer. International trade promotes economic growth through the diffusion of modern technologies embodied in imported intermediate inputs. Technology transfer is also related to quality transfer – imports of high-quality intermediate inputs lead to exports of high-quality goods. Firms may access new export markets with better quality/technology products, or export more varieties to existing markets.

Imports of intermediate inputs thus allow firms to access a bigger range of inputs, including more sophisticated or lower-cost ones, resulting in higher firm productivity and export scope (i.e. the number of varieties exported).

Evidence from French firms

In recent work (Bas and Strauss-Kahn 2014), we present evidence from French firms involved in international trade, and reveal that these mechanisms are important drivers of firms’ export patterns. French firms importing more varieties of intermediate inputs over the 1995–2005 period (the average firm adds four varieties of imported inputs) have increased their productivity gains by 2.5%. By enhancing productivity, importing more input varieties also raises firms’ export scope – firms are more likely to bear the fixed costs of exporting, and to survive in competitive export markets.

Direct channels are also at play – controlling for productivity gains, a 10% increase in the number of imported input varieties results in a 10.5% expansion of firm export scope. The average firm, by importing four additional varieties of inputs, increases its exports by 2.7 varieties.

The input cost effect and the foreign technology/quality transfer channel are distinguished by looking at the country of origin of imported inputs. The rationale behind this strategy lies in the principle that developed countries produce goods with high technology/quality content, whereas developing countries provide low-price inputs. In the case of French exporting firms, foreign inputs from the most advanced economies have the strongest effect on firm productivity. Concerning export scope, both imported inputs from developed and developing countries help raise the number of exported varieties.

Overall, French firms benefit from importing intermediate goods, as it fosters both their productivity and exports. These results shed some new light on the debate on the benefits and costs of trade integration. The positive role of imported inputs in the economy should be acknowledged and accounted for.

References

Bas, M and V Strauss-Kahn (2014), “Does importing more inputs raise exports? Firm-level evidence from France”, Review of World Economics, 150(2): 241–475.

Goldberg, P, A Khandelwal, N Pavcnik, and P Topalova (2010), “Imported Intermediate Inputs and Domestic Product Growth: Evidence from India”, Quarterly Journal of Economics, 125(4): 1727–1767.

Feenstra, R C and G H Hanson (1996), “Foreign Investment, Outsourcing and Relative Wages”, in R C Feenstra, G M Grossman, and D A Irwin (eds.), The Political Economy of Trade Policy: Papers in Honor of Jagdish Bhagwati, Cambridge, MA: MIT Press: 89–127.

Pavcnik, N (2002), “Trade Liberalization, Exit, and Productivity Improvement: Evidence from Chilean Plants”, Review of Economic Studies, 69(1): 245–276.

Romer, P (1987), “Growth Based on Increasing Returns Due to Specialization”, The American Economic Review, 77(2): 56–62.

Topalova, P and A Khandelwal (2011), “Trade Liberalization and Firm Productivity: The Case of India”, Review of Economics and Statistics, 93(3): 995–1009.

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Topics:  International trade

Tags:  employment, productivity, wages, Inequality, trade, exports, outsourcing, imports, global value chains, Intermediate inputs