INNOVATION IN THE GLOBAL FIRM

Multinational organizations are among the most innovative firms and they account for the majority of the investment made in the innovation around the world. The investment in innovation by these firms are typically concentrated in one headquarters only as compared to the fragmentation of multinational production across various countries.

The potential of the geographic mismatch between where the knowledge is created and used implies that the returns to investments in R&D made by multinationals in the United States depend on the degree to which these firms operate in foreign countries.

Separating the US economy from several major markets such as the European Union or China, could reduce the overall returns to research & development (R&D) investments made by the multinationals of US. It can then reduce the level of investment on innovation that these firms make at their headquarters. As the multinational firms account for 91% of the investment in innovation by US firms. This can reduce the overall investment on R&D & have a negative impact on US productivity growth.

According to the Bureau of economic Analysis, the headquarters innovation has a positive impact on the productivity of foreign associates. Also, the innovation by associates plays an important role as it significantly increases the impact of productivity of headquarters innovation for the innovating associates. But associate innovation does not affect productivity at other firm sites.

Investment on innovation is clearly concentrated at headquarters in the US in comparison with production. Nevertheless, affiliate innovation accounts for around 15% of firm-wide R&D spending. It is also suggested that the productivity growth of an associates is affected by the R&D investment of its parent due to a reduced-form relationship between associate ‘value-added’ and parent company innovation. It also indicates low volumes of intra-firm trade among associate within multinationals. Due to this, the output of investments of innovation performed at the headquarters of US multinationals is passed onto their associates through different channels other than the supply of specialized intermediate goods.

The productivity of an associate increases with both its own investment on innovation and the investment of its headquarters firm. The parent and associate research and development investments are complimentary in their impact on associate productivity. The returns to investments on headquarters innovation are larger in those associates that also perform R&D at their own site. The partial contradiction of data in the case of multinationals, all associates should be seen as pure recipients rather than technology producers. The return to US parent R&D is stated significantly only when the impact on the firm’s US operation is taken into the account. Especially, the returns to the investments of headquarters R&D exceed the parent-level returns by around 20% for the median multinational.

The parent innovation is a key determinant of long-run associate productivity and eliminating the effect of parent R&D would imply an average reduction in associate productivity of 36%. After eliminating the effect of parent R&D, the median production is approximately four times larger among innovating associates as compared to those that are not investing in research & development. It is also observed that the countries hosting high levels of US associate activity would decline in industry-level productivity if the associates were unable to benefit from US parent innovation. This effect can be enhanced further by technology excess from associate to domestic firms and by links with domestic input manufacturers. The dominance of US parent innovation within aggregate US research & development lends support to the idea that multinational production is an important determinant of technology diffusion between countries.

It is likely that the positive effect is not internalized by policy-makers responsible for determining the level of subsidies in their own constituency. Adjusting the tax treatment of multinationals (so that they pay taxes in the United States for the gains accrued by their foreign affiliates) is one potential remedy.

Alternatively, a deeper international coordination of innovation policy that helps governments to internalize the positive impact that their innovation policies may have on foreign countries through multinational networks may provide further efficiency gains.