A Selected View of MNC Theories: FDI and Country Development
In the past, very few studies have dealt in determining the interactions between foreign direct investment (FDI) and the economic development of the home country. Rather, studies have centered on the existence and dynamics of the firms involved. It is for this purpose that this section will deal on the elaboration of theories that might explain the interaction between FDI and the home country's economic development. Specifically, this section will tackle the Investment Development Path (IDP) and Stages Theory of Industrial Upgrading and Overseas Investment.
The IDP Theory
Dunning (1981b, 1986, 1988), was credited for introducing, and eventually developing and polishing the IDP theory. Further elaboration on the theory could be found in succeeding works of Narula (1996), as well as in collaborative undertakings between Dunning and Narula (1994, 1996). IDP theory states that the home country's level of economic development plays a role in the determination of the levels of inward and outward direct investment – and that the levels of investment flows of any country could vary at a steady rate as new developments arise in the economy. Moreover, the theory stated that these developments could be classified into five stages of expansion, which were based on the net outward investment position of the country concerned. Net outward investment could be defined as the outward investment less the inward direct investment (Dunning and Narula, 1994; Narula, 1996; Dunning, van Hoesel and Narula, 1997).
As in any endeavour in its developing stages, Dunning et. al described the first stage of the theory as that which primarily operates in insufficient and underdeveloped locational advantages, thus, they said that it is best to discourage inward FDI at this point – except perhaps for those who have the means and resources to survive in this kind of environment.
Further, Dunning et. al described the second stage of the development in the IDP theory as that which leads to import-substituting manufacturing FDI. In this developmental stage, home countries begin to impose tariff and non-tariff barriers, as part of their market protection mechanisms to safeguard developments in their local markets and in other locational advantages.
Having gone through the import-substituting manufacturing stage would have given the local industries the capacity to deal with higher and more complex technologies. At this third stage of development, local firms would now be ready to engage in higher-end technologies - thus having greater capabilities to improve their systems for greater effectiveness and efficiency.
Finally, Dunning et. al described the fourth, and last, stage of the IDP theory as that wherein there is an equilibrium in the local firm's inward and outward FDI flows.
It is important to point out though, as Dunning et. al also emphasized, that IDP theory should not be considered as an explanation of the existence and growth of the multinational corporations. Rather, it should be seen as a means to determine the probability by which any country would engage in any FDI endeavour, and also a means to understand its relation to the host country's stage of economic development.
Stages Theory
Ozawa, in his written works in 1992, 1995, and 1996, put forward a second theory that attempted to explain the correlation between foreign direct investment and economic development. More popularly known as the "stages theory," Ozawa's "stages theory of industrial upgrading and overseas investment," highlighted four distinct stages that a local market undergoes towards achieving industrialization. These stages, heavily influenced by the outward investments that the home country engages in, include: labour-intensive light', 'heavy and chemical industries', 'assembly-based' and 'innovation-intensive' (Ozawa, 1992).
Ozawa highlighted the concept of factor incongruity, or the "incompatibility that appears over time between the factor intensity of a good, and the factor endowments of an economy in which the good is produced" in the stages theory. Heavily based on observations on various firms in East and Southern Asia, Ozawa noted that this theory could serve as the basis for explanation for the occurrence of two distinct circumstances. One, when a firm losses its competitive advantage in producing a certain product for its targeted market due to the fact that other firms have technologically-caught up in manufacturing that product. In this case, the technology that is being used to manufacture the product becomes "standardized" (also less labor-intensive) - thus making it very difficult for the previously prevailing manufacturer to regain its niche in the market. Moreover, this dilemma could be aggravated when, at the same time, factor endowments of the home country gradually changes. This "incongruity" between factor intensity of the good and the factor endowments of the economy could then result to the transfer of manufacturing/production operations to other countries, in search for a new market niche, and to achieve tolerable factor incongruity levels. The Vernon's product cycle model further describes this kind of scenario.
The other circumstance previously mentioned by Ozama is one that also results in the transfer of production/manufacturing operations abroad, also called the structural upgrading mechanism. But in this case, factor endowments of a country become more capital abundant and labour scarce, so that a product which was compatible with the initial factor endowments cannot be produced in a cost efficient manner anymore, Ozama said. He added that this situation is especially observed among Asian economies developing at high speed.
IDP and stages theory: side by side
Of course, these theories are not without criticisms. The IDP and the stages theories, both primarily focused on the economic development of nations, have faced fierce criticisms on their empirical validities (especially the stage theory) and their theoretical underpinnings (Lall, 1996). Many critics averred that there is a need to further develop the theoretical conceptualizations, and to conduct further empirical tests to determine the validity of these theories. According to critics, both theories failed to provide a detailed explanation for the emergence of outward direct investment from developing countries especially as far as firm level characteristics are concerned (van Hoesel, 1999: 28). Moreover, these theories were criticized for failing to give details on other country-specific factors, as well as the involvement of complex multinational corporations. More importantly, the theories also failed to shed light on the role of local governments in facilitating structural upgrading.
Developing country MNCs
Literature on developing country MNCs has gone a long way through the years. The MNC theory, developed by the late Stephen Hymer, have since been studied and correlated with other modern theories of international production and economics, and in sum, have contributed greatly into forming a formidable foundation to the concept of developing country MNCs. It is therefore critical to examine closely all these complementary modern theories because the literature on developing country MNCs follows similar paths.
The next section, which is the main body of this chapter, is devoted to reviewing and evaluating the applicability of MNC theory on multinationals from developing countries.
The Emergence and International Expansion of Developing Countries Multinationals: Theoretical Review
It would come as a surprise to some that there exist a significant number of foreign investments from some firms from developing countries – an endeavour that was mostly credited to more developed countries. A number of studies stand proof to the fact that FDI flows do not only originate in the industrialised countries, but in developing countries as well. Scholars - Heenan and Keegan (1979), Lecraw (1977, 1981, 1993), Wells (1977, 1981), Lall (1983a, and 1983b), Kumar and Lim (1984), Ulgado et. al. (1994), Oh et. al. (1998), Pananond and Zeithaml (1998), and van Hoesel (1999) – are only some of those who carried out empirical studies and researches on FDI flows from firms from developing countries from way back 1970s to 1980s.
Most of these studies provided comparisons on the nature of international expansion of firms from developing countries to the nature of those corporations that originated from developed countries (Dunning, 1986; Vernon-Wortzel and Wortzel, 1988).
Studies conducted by Kumar (1995a, 1995b, 1996) during the mid-1980s recounted that it was at this time when outward direct investment from developing countries started to grow rapidly to a sizeable magnitude. This, he said, became the main strategic tool of developing country multinationals in capacitating their firms in preparation for the fierce international competition that they were about to face.
However, the emergence of new technologies in the late 1980s somehow stole the limelight and subsided the interests in outward direct investment from developing countries (Kumar, 1996). But by the early 1990s, a new area of interest – on aggregate analyses of developing country MNCs conducted at the industry level - caught up with scholars (van Hoesel, 1997).
These studies yielded interesting results. These studies concluded that there were marked differences in characteristics between developing country MNCs in the 1990s and 1980s. Scholars posited that these two groups of MNCs belonged to two separate "waves" of development – differing in so far as their respective historical backgrounds, nature of businesses, extent of the role of government in its operations/transactions, geographical direction, and mode of internationalisation activity.
Scholars characterized the developing country MNCs in 1980s as those more concerned with cost competitiveness vis-à-vis their competitors. Developing country MNCs in the 1990s, on the other hand, placed greater emphasis on the development and/or redirection of business strategies in response to the changing patterns of the world business structure brought about by trade liberalisation and economic globalisation (Dunning, van Hoesel and Narula, 1997).
Yet, while possessing all these differences, scholars noted there exists several significant interrelated points of convergence between the two groups (Dunning, van Hoesel, and Narula, 1997; van Hoesel, 1999).
The Emergence of Developing Country MNCs: The 'First Wave' of Literature
When discussing the emergence and development of developing country multinationals, there are two major schools of thought that instantly come to mind (Young et. al., 1996, Dunning, van Hoesel and Narula, 1997; van Hoesel, 1999). The first major school of thought that comes into mind is the one that was espoused by Wells (1983b), and was heavily based on Vernon's product life cycle theory applied to developing country multinationals. The second discipline, on the other hand, emphasized the localization of technological change, one that was developed by Lall (1983a, 1983b).
In describing his school of thought, Wells (1983b) claimed that there are two pertinent market features in developing countries that forced local firms to generate and adapt various innovations to achieve growth. These two features, he said, included the small size of the markets and a wealth of cheap labour. With this, Wells put forward that it would be to the best interests of the local form, as well as the local market, that these firms establish their initial advantages through "descale manufacturing." "Descale manufacturing," as Wells put it, is a process whereby technologies from industrialised countries are adapted to suit smaller markets by reducing scale, replacing machinery with manual labour, and relying on local inputs.
Descale manufacturing, Wells said, formed the single most important ownership advantage of developing country MNCs by capitalizing on cost advantages derived from the set-up.
Sharing this view with Wells were other noted scholars such as Aggarwal (1984) and Lecraw (1977, 1981). Together, they believed that to exploit these cost advantages, developing country MNCs should concentrate on serving the price-sensitive mass market, not the niche markets dominated by marketing competition. They pointed out that such a low-cost, low-price competitive strategy could be carried out with greater ease and better results only in other developing countries with a similar or poorer economic status. They noted, however, that these competitive advantages are short-lived and may erode over time as local firms or affiliates of advanced-country MNCs catch up, utilizing the same technologies or set-up.
Lall (1983b: 11), in espousing for the second school of thought in developing country MNCs, argued that smaller scales of production in developing countries do not necessarily result in "descaling advantage." Contrary to Well's propositions, Lall believed that localization of technological change is the key to the development of country MNCs (1983a, 1983b).
Further, Lall asserted that the wealth of resources, assets, and knowledge of the local environment capacitate the developing country MNCs to develop sustainable proprietary assets that could be effectively utilized in overseas operations. These resources, along with other innovations, Lall said, differed greatly from those possessed by MNCs from developed countries. Moreover, he emphasized that the lack of high-end technologies among multinationals from developing countries allow them to derive their advantages from widely diffused technologies and from special knowledge of developing country markets. This method, while being a little crude, could amount to significant advantages that could be carried out on a sustainable basis. This could be made possible through the localization of technological change and the irreversibility of such change. Lall theorized that it is more effective by far to initiate innovations that are more relevant and tailored to the environment and market conditions of developing countries. With this strategy, products could be better developed to suit the needs and tastes of local consumers in developing countries. Moreover, cheap labor in their home country, as well as membership in large, diversified conglomerates could further strengthen the developing country MNCs, as these would allow windows of opportunities to further flourish in the local market by having access to additional financial, managerial, technical, and labour resources. (Lall, 1983b).
Contrary to Well's earlier propositions, Lall further asserted that developing country MNCs ownership advantages lie in the fact that they have indigenous knowledge of local market conditions, rather than on the ability to descale manufacturing technologies to a smaller market per se. These inherent advantages, as Lall out it, could be further developed and sustained through intensive research and development efforts and continued learning. These, and other related conclusions made by Lall formed the impetus for the second wave of literature that focused on the technological capabilities of developing country multinationals.
The Expansion of Developing Country MNCs: The 'Second Wave' of Literature
Globalization has brought a whole new challenge and perspective to developing country multinationals. With globalization, influencing factors in international business have changed dramatically. The nature of ownership advantages has changed, as well as geographical direction, segmentation of business, locational advantages, and levels of motivation to move abroad (Dunning et. al., 1997; van Hoesel 1999: 227-34). To cope up with the globalizing world, many developing country MNCs were left with no choice but to redefine their business patterns and strategies.
In a way, globalization has become the liberalizing driving force that pushed developing country firms to explore other markets other than their local market. In terms of geographical spread, the second wave of outward FDI flows from developing countries had become less restricted to other developing countries in the same region. Rather, they have embarked on a whole new world of challenges by entering even some of the most tenacious markets, such as those of the United States and Europe. Aside from this, these developing country firms likewise embarked on a new sectoral scope, shifting from highly labor intensive industries to knowledge-based industries such as automobiles, electronics and telecommunications.
Following the hierarchy of needs, developing country MNCs have veered away from searching for its basic needs: that is, the need for natural resources and markets. At this globalizing stage, they went abroad no longer looking for these resources, instead they focused their efforts on more ambitious endeavours such as the search for new markets new strategic assets and higher efficiency. All these could be found in literature of the "second wave."
Moreover, this second wave of literature detailed an improvement in the nature of ownership-specific advantages of MNCs – such as those that can be derived from the ability to build on technological capability to improve production efficiency. The proponents of this second wave of literature on developing country multinationals likewise sought to paint a brighter and more optimistic picture of these firms in their works. They believed that, through the learning-by-doing technological accumulation process, these firms were able to develop sustainable ownership advantages that allow them to compete in the global market. Proponents of this view included: Cantwell and Tolentino (1990), Tolentino (1993), Lecraw (1993), Ulgado et. al. (1994), van Hoesel (1999), Dunning, van Hoesel and Narula (1997).
This was a great take-off from deriving ownership advantages from small-scale, labor-intensive technology, low input costs, and low prices - those that were indicated in the first wave of literature.
Following the positive note set by the second wave of literature, Cantwell and Tolentino (1990) and Tolentino (1993) sought to determine the industrial and geographical distribution of developing country MNCs. Adopting the view that the accumulation of technology led to more sophisticated outward FDI, they proposed that a general connection could be drawn among the patterns of domestic economic development, the emergence of ownership advantages of local firms and the growth of outward investment.
As mostly advocated for in the second wave of literature, Cantwell and Tolentino stated that the outward investment of developing country MNCs centred on resource-based and simple manufacturing activities in neighbouring countries. According to them, as domestic firms accumulated their technological expertise and their experience in international markets, the structure of outward investment became more complex, involving more sophisticated manufacturing activities such as the production of more research-intensive and differentiated products. With a higher level of technological capabilities, Cantwell and Tolentino concluded, developing country multinationals were able to expand their investments to countries with a higher level of economic development.
However, despite these propositions, Cantwell and Tolentino failed to expound on the firm-level mechanisms that drove the internalisation process of developing country multinationals. Their explanations, while providing a more positive note on developing country MNCs' capability to improve, focused more on the evolution of aggregate outward investment flows over time, rather than on the details on how an individual developing country firm evolved to the multinational status.
Summary
This literature review sought to provide a comprehensive and integrated reference on the various explanations and theoretical insights on the emergence and expansion of developing country multinationals.
The first part of this review featured an elaboration of theories that might explain the interaction between FDI and the home country's economic development. Specifically, this tackled IDP and the stages theory of industrial upgrading and overseas investment.
IDP theory stated that the home country's level of economic development played a role in the determination of the levels of inward and outward direct investment – and that the levels of investment flows of any country could vary at a steady rate as new developments arise in the economy. Moreover, IDP theory stated that these developments could be classified into five stages of expansion, based on the net outward investment position of the country concerned. These five stages included: operating in insufficient and underdeveloped locational advantages; import-substituting manufacturing FDI; greater capability in handling higher-end technologies; and equilibrium in the local firm's inward and outward FDI flows.
Ozawa's "stages theory of industrial upgrading and overseas investment," on the other hand, highlighted four distinct stages that a local market undergoes towards achieving industrialization. These stages, heavily influenced by the outward investments that the home country engages in, included: labour-intensive light', 'heavy and chemical industries', 'assembly-based' and 'innovation-intensive'.
Moreover, there were two schools of thought featured in the first wave of literature on the emergence of developing country MNCs. The first major school of thought tackled was the one espoused by Wells, and was heavily based on Vernon's product life cycle theory applied to developing country multinationals. The second discipline, on the other hand, emphasized the localization of technological change, one that was developed by Lall.
In describing his school of thought, Wells (1983b) claimed that there were two pertinent market features in developing countries that forced local firms to generate and adapt various innovations to achieve growth. These two features, he said, included the small size of the markets and a wealth of cheap labour. With this, Wells put forward that it would be to the best interests of the local form, as well as the local market, that these firms establish their initial advantages through "descale manufacturing."
Lall, on the other hand, in espousing for the second school of thought in developing country MNCs, argued that smaller scales of production in developing countries do not necessarily result in "descaling advantage." Contrary to Well's propositions, Lall believed that localization of technological change is the key to the development of country MNCs.
Finally, discussions on the second wave of literature on the expansion of developing country MNCs focused on the role of globalization as the liberalizing driving force that pushed developing country firms to explore other markets other than their local market. At this stage, developing country firms took on a whole new world of challenges by entering even in some of the most tenacious markets, such as those of the United States and Europe; and embarked on a new sectoral scopes, shifting from highly labor intensive industries to knowledge-based industries such as automobiles, electronics and telecommunications.
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