Working Paper | HBS Working Paper Series | 2013

Market Reallocation and Knowledge Spillover: The Gains from Multinational Production

by Laura Alfaro and Maggie X. Chen

Abstract

Quantifying the gains from multinational production has been a vital topic of economic research. Positive productivity gains are often attributed to knowledge spillover from multinational to domestic firms. An alternative, less emphasized explanation is market reallocation, whereby competition from multinationals leads to factor reallocation and the survival of only the most productive domestic firms. We develop a model that incorporates both aspects and quantify their relative importance in the gains from multinational production by exploring their distinct predictions for domestic distributions of productivity and revenue. We show that knowledge spillover shifts both distributions rightward while market reallocation raises the left truncation of the distributions and shifts revenue leftward. Using a rich firm-level panel dataset that spans 60 countries, we find that both market reallocation and knowledge spillover are significant sources of productivity gain. Ignoring the role of market reallocation can lead to significant bias in understanding the nature of gains from multinational production.

Keywords: Gains from Multinational Production; Market Reallocation; Knowledge Spillover; Multinational Firms and Management; Production; Performance Productivity; Competition; Mathematical Methods;

Citation:

Alfaro, Laura, and Maggie X. Chen. "Market Reallocation and Knowledge Spillover: The Gains from Multinational Production." Harvard Business School Working Paper, No. 12-111, June 2012. (Revised June 2013.)