CASE Network Report 61 - Networks and Competitiveness in Polish Foreign-owned and Domestic Firms
The Effects of Foreign Direct Investment on Domestic Firms
Transcript of The Effects of Foreign Direct Investment on Domestic Firms
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The Effects of Direct Foreign Investment on DomesticFirms: Evidence from Firm Level Panel Data in
Emerging Economies
By: Jozef Konings
Working Paper Number 344
October 2000
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The Effects of Direct Foreign Investment on Domestic Firms: Evidence from
Firm Level Panel Data in Emerging Economies
By Jozef Konings
LICOS, Centre for Transition Economics
Economics DepartmentCatholic University of Leuven
De Beriotstraat 34
3000 Leuven
Belgium
Other affiliations: CEPR, London; Dartmouth College, USA
Email: [email protected]
August 2000
Acknowledgements: This paper is part of a project on DFI in Central and Eastern
Europe, funded by the Thyssen foundation. I appreciate comments from FilipAbraham, Lode Berlage, Hans Degryse, Nina Pavnic, Koen Schoors, Hylke
Vandenbussche and Reinhilde Veugelers. This paper benefited from seminars at the
KULeuven, the University of Gent, the University of Antwerp (Ufsia) and the IMF. I
thank Giulia Faggio and Frederic Warzynski for assistance.
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Non-Technical Summary
The collapse of communism in Central and Eastern Europe and the emergence
of a market economy has led to a large inflow of direct foreign investment (DFI) in
the region during the last decade and in particular since the mid 90s. Given the
enormous increase in foreign investment, these countries provide an ideal natural
experiment for measuring the impact of incoming foreign investment on performance.
In particular, this paper uses firm level panel data to investigate empirically the effects
of DFI on the productivity performance of domestic firms in three emerging
economies of Central and Eastern Europe: Bulgaria, Romania and Poland.
To this end a unique data set is used with detailed information on foreign
ownership at the firm level. Two main questions are addressed in the present paper:
(1) do foreign firms perform better than their domestic counterparts? (2) do foreign
firms generate spillovers to domestic firms?
There are various reasons why many policy makers believe DFI is beneficial
to their country. A first reason is the need for strategic restructuring in firms in the
emerging countries. Most firms in the emerging economies of the former Soviet block
were characterised by obsolete machinery and outdated production methods. To
compete in a market environment, firms had to improve their efficiency by engaging
in strategic restructuring, i.e. updating the equipment and production process. Foreign
firms have the technological know-how and finance necessary to update the
equipment and bring about such strategic restructuring. Foreign participation in
domestic firms has the additional benefit that it can impose an efficient corporate
governance in privatized firms, often privatized to insider workers/managers, who
might block restructuring. A second important reason why foreign investors are
invited to emerging countries rests on the believe that they generate positive
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externalities to the domestic firms through a transfer of know-how and technology.
Such spillovers can occur through various channels: the introduction of new products
and production processes by foreign firms may benefit domestic firms through the
accelerated diffusion of new technology. This could occur through labour turnover or
through imitation or other channels. One other channel works through the
equilibrating mechanism in the market when liberalization, here the opening up of
Central and Eastern Europe to the rest of the world, is implemented.
The positive externalities generated by foreign investors, however, may vanish
if the increased competition from foreign firms leads to a reduction in the production
of the domestic firm, which may lead to an increase in the average costs of
production. In this case a negative competition effect may dominate a positive
technological spillover effect. In this paper, the net effect is studied.
Only in Poland, I find that foreign firms perform better than firms without
foreign participation. In Bulgaria and Romania, no robust evidence is found of a
positive foreign ownership effect. This may be due to the fact that it takes time for
firms to restructure and that the effects of restructuring on productivity performance
only appear after a few years. Since Bulgaria and Romania are less advanced in the
transition process compared to Poland this may be a plausible explanation.
Moreover, for all three countries studied here, I find no evidence of positive
spillovers to domestic firms on average. In contrast, on average there are negative
spillovers to domestic firms in Bulgaria and Romania, while there are no spillovers to
domestic firms in Poland. This suggests a negative competition effect that dominates
a positive technology effect.
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Abstract
This paper uses firm level panel data to investigate empirically the effects of
direct foreign investment (DFI) on the productivity performance of domestic firms in
three emerging economies of Central and Eastern Europe, Bulgaria, Romania and
Poland. To this end a unique firm level panel data set is used with detailed
information on foreign ownership at the firm level. Two main questions are addressed
in the present paper: (1) do foreign firms perform better than their domestic
counterparts? (2) do foreign firms generate spillovers to domestic firms?
The estimation technique in this paper takes potential endogeneity of
ownership, spillovers and other factors into account by estimating a fixed effects
model using instrumental variables in the general methods of moment technique for
panel data.
Only in Poland, I find that foreign firms perform better than firms without
foreign participation. Moreover, for all three countries studied here, I find no evidence
of positive spillovers to domestic firms on average. In contrast, on average there are
negative spillovers to domestic firms in Bulgaria and Romania, while there are no
spillovers to domestic firms in Poland. This suggests a negative competition effect
that dominates a positive technology effect
JEL classification: D24, F14, O52, P31
Keywords: Foreign Investment, Spillovers, Emerging countries, Panel data
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I. Introduction
This paper uses firm level panel data to investigate empirically the effects of
direct foreign investment (DFI) on the productivity performance of domestic firms in
three emerging economies of Central and Eastern Europe, Bulgaria, Romania and
Poland. The collapse of communism in Central and Eastern Europe and the
emergence of a market economy has led to a large inflow of DFI in the region during
the last decade and in particular since the mid 90s. Figure 1 shows the evolution of
DFI since 1991 for the three countries that I study in this paper, where the level of
DFI is normalized to 1 in 1991. By 1998 there was almost 10 fold increase in DFI in
Bulgaria compared to 1991, for Romania and Poland there was even a 50 and 60 fold
increase in DFI by 1998.
Figure 1 (source: authors calculations based on EBRD (2000))
evolution of direct foreign investment in B, R and Pyear
DFI Bulgaria DFI PolandDFI Romania
1990 1992 1994 1996 1998
0
10
20
30
40
50
60
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Policy makers in the emerging economies were faced with a collapsing state
sector and a slowly growing private sector. With financial markets and commercial
banking virtually absent, they encouraged foreign investors to take part in the
privatization process or to invest in their countries. Given the enormous increase in
foreign investment in these countries as illustrated in figure 1, these countries provide
an ideal natural experiment for measuring the impact of incoming foreign investment
on performance.
There are various reasons why many policy makers believe DFI is beneficial
to their country. A first reason is the need for strategic restructuring in firms in the
emerging countries1. Most firms in the emerging economies of the former Soviet
block were characterised by obsolete machinery and outdated production methods. To
compete in a market environment, firms had to improve their efficiency by engaging
in strategic restructuring, i.e. updating the equipment and production process (e.g.
Irina Grossfeld and Grard Roland, 1996). Foreign firms have the technological
know-how and finance necessary to update the equipment and bring about such
strategic restructuring. Foreign participation in domestic firms has the additional
benefit that it can impose an efficient corporate governance in privatized firms, often
privatized to insider workers/managers, who might block restructuring (Olivier
Blanchard, 1997, pp.77-88).
Klaus Wallner (1998) shows theoretically that especially in the emerging
countries, characterized by soft budget constraints, foreign investment is welcomed to
achieve such strategic restructuring as the presence of foreign investors gives
governments incentives to reduce subsidies to firms because otherwise a part of the
1 Strategic restructuring refers to improving the long run viability and efficiency of a firm.
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subsidy may disappear in foreign pockets. Hence, the hardening of budget
constraints increases effort by managers to restructure more.
A second important reason why foreign investors are invited to emerging
countries rests on the believe that they generate positive externalities to the domestic
firms through a transfer of know-how and technology. Such spillovers can occur
through various channels. David J. Teece (1977) argues that the introduction of new
products and production processes by foreign firms may benefit domestic firms
through the accelerated diffusion of new technology. This could occur through labour
turnover or through imitation or other channels. One other channel works through the
equilibrating mechanism in the market when liberalization, here the opening up of
Central and Eastern Europe to the rest of the world, is implemented.
A number of recent theoretical papers show that the degree to which domestic
firms may benefit from such spillovers depends on the absorptive capacity of
domestic firms. Franseca Sanna-Randacio (1999) and D. Leahy and Peter Neary
(1999) show that DFI always leads to an increase in the productivity of the investing
firm, however, DFI increases the host countrys productivity only if the degree of the
technological spillover is high enough. The latter is more likely achieved in sectors
characterized by intensive R&D or by firms which have a sufficient amount of
knowledge to start with.
This has been suggested in earlier empirical work. Ari Kokko (1994) and
Borensztein, De Gregorio and Lee (1998) give evidence which suggests that positive
DFI spillovers to local firms are only generated if the technology gap between the
foreign firm and the domestic one is not too large and if there exists a minimum
threshold of human capital in the host country.
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The technological spillovers thus lead to positive effects on domestic firms,
however, there may exist a competition effect which works in the opposite direction.
Foreign entry disturbs the existing market equilibrium and could force domestic firms
to produce less output which pushes them up their average cost curves, at least if
average cost curves are downward sloping, which would be the case if production
involves a substantial fixed cost. This argument has been developed by Brian J.
Aitken and Ann E. Harrison (1999). Which effect dominates depends on the stength
of the technological spillover effect (and the absorptive capacity of firms) versus the
competition effect.
In this paper I analyse a number of questions: First, I test whether foreign
owned subsidiaries in transition economies perform better than their domestically
owned counterparts. Second, I test whether there exist spillovers to domestic firms. I
will look at the net spillover effect, i.e. the sum of the technological spillover and
the competition effect. In addition, I will make a distinction between sectoral and
regional spillovers. I also test whether foreign firms benefit from the presence of other
foreign firms in their sector or region.
I use a unique panel data set of over 5000 firms in Bulgaria, Romania and
Poland for the years 1993-972. Together these countries cover more than 70 million
people and hence these economies are an important part of the Central and Eastern
European Economies. Bulgaria and Romania are lagging behind Poland in the
transition towards a market economy. While all three countries have experienced a
substantial collapse in output at the start of transition, only Poland has reached GDP
levels comparable to the pre-transition years and has positive growth rates. Both
Bulgaria and Romania experienced a short period of positive growth in the mid 90s,
2 except for Romania data run from 1994 onwards.
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however, output has collapsed again in Bulgaria since 1995 and in Romania since
1997.
Because I use panel data I am able to track the same firm over time and hence
I am able to control for unobserved firm level fixed effects, like for example the
quality of the firm. Hence, as in Aitken and Harrison (1999) I am able to control for
the potential endogeneity of foreign ownership and spillovers . Moreover, I will use
the general methods of moments technique to estimate panel data as introduced by
Arellano and Bond (1991) which allows me to construct instruments for potentially
endogenous explanatory variables. This may be important if productivity shocks
affect the levels of the input variables in a production function or if they affect
spillovers. In that case fixed effects alone cannot properly control for the endogeneity.
Furthermore, this technique allows me to estimate dynamic equations in a consistent
way.
The next section describes the data and econometric approach, section III
gives the results and section IV is a concluding one.
II. Data and Econometric Approach
Data
The data set that is used provides information on 2321 firms in Bulgaria
between 1993-97, 3844 firms in Romania between 1994-87 and 262 firms in Poland
over the period 1993-1997. Due to a lot of missing observations on some of the input
factors needed in the estimation, the total available number of firms for the estimation
in Poland is much lower than in Bulgaria and Romania. The data are unbalanced
panel data, however, attrition is likely to be random due to imperfect reporting, rather
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than exit of firms. The data consists of the company accounts of all incorporated
firms in both the manufacturing and the non-manufacturing sectors satisfying at least
one of the following criteria: number of employees greater than 100, total assets and
operating revenues exceeding 16 million and 8 million USD, respectively. They are
retrieved from annual company accounts published by the Creditreform Bulgaria
OOD and by the Romanian Chamber of Commerce and Industry3.
Foreign firms are defined as firms where a positive fraction of the shares is
owned by a foreign investor in 1997. In the sample, around 10% of the firms have a
foreign investor in 1997. For those firms with a foreign partner, the average fraction
of shares held by foreign investors is 61%, 59% and 73% for Bulgaria, Romania and
Poland respectively. Thus if a domestic firm has a foreign investor, on average, the
foreign investor has a majority stake.
Econometric Approach and Measurement Issues
I follow Brian Aitken and Ann Harrison (1999) and estimate a log-linear
production function at the firm level to test whether (1) foreign firms perform better
than domestic ones, (2) there exist spillovers from DFI to local production. In
particular, the following specification is the starting point of my analysis:
itjtiiititititiit SpillXTDFIDFImkny ++++++++= 7654321 (1)
3 Data are available on the Amadeus CD-ROM (Dec. 1998), a Pan European financial database,
provided by Bureau van Dijk Electronic Publishing SA.
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where subscript i stands for firm i, subscript t for year t, y is log output, n is the log
employment, k is the log of capital and m is the log of material inputs. Output is
measured as sales at the firm level deflated by an aggregate price index. Sector level
price indices were not available on a consistent basis for the countries studied here, so
an aggregate producer price index was used for Romania and Poland, an aggregate
consumer price index for Bulgaria as there was no reliable producer price index
available for Bulgaria. These price indices were taken from the EBRD annual
transition report (EBRD, 2000). The capital stock is proxied by the book value of
tangible fixed assets in the firm, deflated by an aggregate price index. Finally,
material inputs are proxied by material costs have also been deflated by an aggregate
price index.
To capture possible common aggregate shocks in production, like
technological progress or some other unobserved time varying factors I include time
effects, . The fraction of shares held by a foreign investor is denoted byDFI. It can
be noted that this variable has no time subscript, t, which is due to the fact that we
only observe ownership in the year 1997. I also interact foreign ownership with the
time trend to capture the fact that the effect of foreign ownership might affect both the
level and the growth in productivity. This might be the case if it takes some time for
foreign know-how to spillover to the local firm. Finally, Spill measures the sector
level spillovers that arise from foreign investors. I proxy it by the share of output
accounted for by foreign firms in total output at the 2-digit NACE sector level 4. I will
also report results in which both sectoral and regional spillovers are taken into
account. The latter are measured as the fraction of output produced by foreign firms in
total output of a particular region. Finally, , is a white noise error term.
4 NACE is the standard European sector classification, which is comparable to the SIC classification.
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Table 1 provides summary statistics on the variables that were used in the
regression analysis. It can be noted that on average real sales are collapsing in
Bulgaria which is consistent with the macro economic decline in GDP since 1995. In
contrast, average real sales in Romania are growing rapidly, which is consistent with
the fast growth rates in GDP noted since the mid 90s (until 1997, after which output
collapsed again). In Poland average real sales are growing at a more modest rate, but
the initial catch up took place earlier since transition started earlier in Poland. In
absolute terms, the average growth in employment is always lower than the average
growth in sales, which confirms the observed aggregate stylized fact that the
adjustment in employment is much slower than the adjustment in output. From the
summary statistics it can also be noted that the average spillover effect is around 10%,
however this may vary substantially between sectors.
In equation (1), there is an unobservable fixed effect, i , which captures firm
specific heterogeneity. Such an unobservable fixed effect is potentially correlated
with the other explanatory variables. If it is not controlled for in the estimation, then
inconsistent estimates due to an omitted variable bias result. One way of controlling
for these fixed effects is by first differencing equation (1). At the same time, it is a
way to control for potential endogeneity of foreign ownership, i.e. foreign investors
might only acquire shares in the better firms. If I categorise firms in good versus
bad firms then the unobserved fixed effect captures this and hence it is possible to
avoid an endogeneity bias. First differencing equation (1) yields
itjtititititit spillDFImkny ++++++= 764321 (2)
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The above modelling strategy allows me to test whether foreign firms perform
better and whether spillovers are present. However, equation (2) does not allow me to
test whether foreign firms benefit in a different way from spillovers than domestic
firms. It may be possible that foreign firms benefit from other foreign firms in their
sector, while domestic firms do not as in Aitken and Harrison (1999). For this reason I
will include an interaction term in equation (2), where I interact foreign ownership
with spillovers.
There is, however, a further econometric concern. An estimation by OLS of
equation (2) may still lead to inconsistent estimates. This would be the case if
productivity shocks have an effect on the input factors employed in the firm.
Alternatively, productivity shocks may have an effect on spillovers, which would lead
to an endogeneity of the spillovers. Furthermore, equation (2) is a static equation,
allowing for some dynamic adjustment in output (in case of the presence of
adjustment costs) would imply that equation (2) needs to be estimated with a lagged
dependent variable which leads to further endogeneity problems.
To avoid inconsistent estimates I therefore estimate equation (2) using the
General Methods of Moments technique (GMM) with Instrumental Variables as
developed by Arellano and Bond (1991) for estimating dynamic panel data. The
advantage of this method over other commonly used panel data estimation techniques
lies in its efficient use of the number of instruments generated for the endogenous
explanatory variables. For instance, in equation (2), valid instruments for the
differenced employment in the year 97 is the level of employment in the year 95 since
this is not correlated with the differenced error term in 1997. Table 2 shows in a
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systematic way how the number of instruments increases as the panel progresses. In
1995 a valid instrument for a first differenced endogenous explanatory variable is its
level in 1993, in 1996 valid instruments for the same variable includes its level in
1993 and its level in 1994 and so on. So as the panel progresses an increasing number
of instruments becomes available which increases the efficiency of the estimation. In
order to test the validity of instruments a Sargan test of instrument validity is
computed and is asymptotically 2 distributed. In addition, since the equation is
estimated in first differenced form, the equation will show first-order serial
correlation. However, what matters is the absence of second order serial correlation if
the error term in the levels equation (1) is white noise. Therefore a test of second
order serial correlation is reported and is asymptotically N(0,1) distributed.
III. Results
Tables 3, 4 and 5 show the results for Bulgaria, Romania and Poland
respectively. I show both OLS estimates and GMM IV estimates for equation (2).
Since the equation is estimated in first-differences I also control for unobserved fixed
effects.
Starting with Bulgaria, the OLS estimates in column (1) of table 3 show no
statistically significant effect of foreign ownership on performance. This may come
across as a surprising result, however, in the context of transition economies it has
been shown that privatised firms do not perform better than state owned enterprises,
because it may take time before restructuring feeds through on firm performance (e.g.
Konings, 1997; Faggio and Konings, 1999). There is however a statistically
significant negative spillover effect of foreign firms on domestic ones, which suggests
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that a competition effect is dominating a technological spillover effect. The
interaction term, foreign X spillover, suggests that foreign firms benefit from the
presence of other foreign firms in the sector. However, this equation does not take
into account the potential endogeneity of spillovers and of the other input factors.
In the second column I therefore instrument all the input factors as well as the
spillover effect using the moment restrictions suggested by the GMM technique
(Arellano and Bond, 1991). A number of interesting results emerge. First, there still
exist negative spillovers from DFI to domestic firms. The coefficient that is estimated
with spillovers is equal to 0.67. Thus, a sector that has an increase in spillovers from
0 to 10% would experience a decline in total factor productivity of 6.7% on average.
This suggests that the competition effect is dominating, which means that domestic
firms, due to the increased competition from foreign firms in their sector, are pushed
up their average cost curves due to a reduction in output they can produce. This would
hold in case domestic firms have a declining average cost curve, i.e. in the presence of
increasing returns to scale. Based on the estimates of the coefficients of the input
factors, this hypothesis seems to be plausible. The sum of the coefficients of the input
factors is larger than 1 which suggests increasing returns to scale in production or a
declining average cost curve. Note, also that the coefficient on capital is low and
statistically not significant at conventional levels. In the context of transition
economies this is not surprising as most firms are characterised by outdated
equipment and a lack of investment in new equipment, which decreases the marginal
productivity of capital.
A second result, which is the same as in the OLS estimation, is that foreign
firms do not outperform domestic ones. Finally, the interaction effect between foreign
ownership and spillovers is no longer statistically significant, albeit still positive.
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These IV results suggest that endogeneity may have been important in driving some
of the results in the OLS regression. The Sargan test and the second order serial
correlation test in collumn (2) all indicate that the model is correctly specified. The
fact that there is no second order serial correlation suggests that there is no further
dynamics to be specified in the model.
The third column tests whether regional spillovers may matter. As argued by
Aitken and Harrison (1999) there may be reasons to expect that any benefits to
domestic firms from foreign ivestment would be received first by their neighbors
before they diffuse to other domestic firms. One mechanism through which this may
occur is through job mobility. Workers who worked with a multinational that leave
the firm to work in a domestic one are more likely to move to another firm within the
same region. Job reallocation in transition countries (and elsewhere) occurs primarily
within regions rather than across regions (e.g. Faggio and Konings, 1999). I measure
regional spillovers as the fraction of output produced by foreign firms in a given
region in the total output produced by a given region. The results in column (3),
however, show no statistically significant effect of regional spillovers to domestic
firms in Bulgaria. Since Bulgaria is a small open economy regional effects are
presumably less important in terms of competition, rather the entire Bulgarian market
is more likely to be the appropriate market to consider.
The results for Romania are reported in table 4 and are very similar to the
results for Bulgaria, except that there is some hidden dynamics which needs to be
taken into account. In column (1) the OLS results suggest that foreign firms
outperform domestic ones, that domestic firms experience positive spillovers and that
foreign firms do not benefit from other foreign firms in their sector that much as
domestic ones. However, the second order serial correlation test suggests that the
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model is not correctly specified in terms of the dynamics. In addition, there may also
be an endogeneity problem related to some of the explanatory variables.
In column (2) of table 4 I therefore report the results using instruments for the
input factors and for the spillovers. The results of column (2) show no statistically
significant effects of spillovers and foreign ownership. However, again the
diagnostics suggest that the model is misspecified, i.e. the Sargan test of instrument
validity and the second order serial correlation test reject the model specification.
Column (3) therefore estimates a dynamic model, including the lagged dependent
variable as one of the regressors. Since the model is estimated in first differences, the
lagged dependent variable is also endogenous and therefore needs to be instrumented
too, using all available moment restrictions from t-2 backwards. In column (3) the
Sargan test accepts the model specification, the second order serial correlation test
could no longer be computed since one time observation is lost due to the lagged
dependent variable and the fact that the data for Romania only go from 1994 onwards,
rather than 1993. However, since the lagged dependent variable is statistically
significant, it is likely that this controls for the initial problem of second order serial
correlation. The results indicate that spillovers from foreign firms to domestic ones
are negative. The results in column (3) suggest that once properly controlled for the
dynamics in the model, again the same negative spillover effects show up. The
interaction effect between foreign firms and spillovers is no longer statistically
significant, just like foreign ownership in itself is no longer statistically significant.
This is consistent with the empirical literature that has shown that privatisation did not
lead to better firm performance and that it may take some time before firms start to
engage in restructuring.
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Finally, in column (4) I test for the presence of regional spillovers. As in
Bulgaria, I find no statistically significant effect of regional spillovers on domestic
firms.
Table 5 shows the results for Poland. Since I lost a lot of observations in the
estimation due to missing data on material costs, the Polish sample is much smaller
than the one used for Bulgaria and Romania, so the results for Poland need to be read
with caution. The first column gives the OLS results. I find a statistically significant
effect of foreign ownership on firm productivity performance. This contrasts with
Bulgaria and Romania where I found no effect of foreign ownership. In the case of
Poland, however, it may make sense that foreign firms outperform domestic ones
since Poland is in a more advanced stage of development towards a market economy.
If it takes time for firms to restructure then one may expect that in less developed
countries, such as Bulgaria and Romania, foreign firms do not outperform domestic
ones, while in the more advanced ones, such as Poland, the restructuring effects have
come through which is reflected in the positive effect of foreign ownership. In column
(1) I find no statistically significant effect of spillovers.
In column (2) I report the GMM IV estimates. The same results hold as in the
OLS case, i.e. foreign firms outperform domestic ones or to put it differently, a firm
that would change its ownership structure from 0% foreign participation to 100%
foreign participation, total factor productivity would increase by approximately 20%.
This result confirms the hypothesis that foreign firms or joint ventures have some
superior knowledge and/or technology which allows them to be more efficient than
their domestic counterparts. It is also consistent with the idea that foreign firms induce
restructuring at the firm level which leads to higher productivity (Wallner, 1998).
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Again I find no statistically significant effect of spillovers. This may be due to
the fact that the technological positive externality and the negative competition
effect cancel eachother out, or, it may be due to the fact that there are no increasing
returns to scale which would imply that there is no declining average cost curve. The
latter makes sense, based on the estimates of the coefficients of the input factors.
Rather decreasing returns to scale seem to hold on average, with the only statistically
significant input factor being material costs. This is plausible as most firms in
transition countries are still characterised by over-manning levels and an outdated
capital stock. Moreover, since transition has started earlier in Poland than in Romania
and Bulgaria, the initial increase in competitive pressure at the start of transition was
experienced at an earlier stage, such that the competition effect in the case of Poland
is likely to be much lower than in the case of Bulgaria and Romania.
Finally, in column (3) I also test for the presence of regional spillovers.
However, the only significant effect I find is the material costs of production. Also
foreign ownership is no longer statistically significant at conventional levels. This is
most likely due to multicollinearity of the data, given that only 262 observations are
used in the estimation. For this reason I estimated the equation again, but leaving out
the interaction terms between foreign ownership and spillovers. In column (4) the
results are reported and show that as before foreign firms do better than domestic
ones. In addition, I find evidence of negative regional spillovers, albeit only
significant at the 10% level, but still no evidence of spillovers at the sectoral level.
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IV. Conclusion
This paper studied the effects of direct foreign investment on the performance
of firms in three emerging market economies, Bulgaria, Romania and Poland. Two
main questions were addressed. First, do foreign firms perform better than their
domestic competitors and second, does foreign investment generate spillovers to
local firms?
I find evidence that foreign firms do not perform better than domestic ones,
except in Poland, the more advanced transition economy. This suggests that it may
take time for ownership effects to have an effect on performance, due to lags in
restructuring. In addition, I find no evidence of positive spillovers, but rather negative
or no spillovers of foreign investment to domestic firms. This is rationalised through a
competition effect that dominates a technological spillover effect in Bulgaria and
Romania, which would hold under the assumption of increasing returns to scale
(declining average cost curves). The competition effect may dominate the technology
effect if the technology gap is too large, which would be the case in less advanced
countries such as Bulgaria and Romania.
The results in this paper suggest that in the early stages of transition, the stages
Bulgaria and Romania are in, the increased competition from DFI dominates
technological spillovers to domestic firms. It suggests that inefficient firms will loose
market share due to foreign competition, which in the long run should increase the
overall efficiency of an economy. In the latter stages, when domestic firms have
engaged in substantial restructuring and market competition has been established, the
dominating competition effect seems to vanish. Whether in the longer run
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William Davidson Institute Working Paper 344
technological spillover effects start dominating, leading to positive spillovers is a
topic for future research when more years of data will become available.
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William Davidson Institute Working Paper 344
References
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Levinsohn, James (1999). Employment Responses to International Liberalization in
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William Davidson Institute Working Paper 344
Table 1: Summary Statistics (means of the sample)
Bulgaria Romania Poland
sectoral spillover 0.09 0.13 0.15
regional spillover 0.10 0.11 0.12sales growth -0.27 0.47 0.07
employment growth -0.039 -0.042 -0.01
capital growth -0.287 0.10 0.03
material growth -0.25 0.50 0.03
Table 2 : Available instruments in GMM technique
Endogenous explanatory variable Available instruments
1997 97ix 939495 ,, iii xxx
1996 96ix 9394, ii xx
1995 95ix 93ix
Note: x refers to any of the explanatory variables that is treated as endogenous.
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William Davidson Institute Working Paper 344
Table 3: Results for Bulgaria
Dependent variable: y
independent
variables:
OLS IV IV
n 0.127*
(0.038)
0.538*
(0.175)
0.560*
(0.187)k 0.047*
(0.011)
0.012
(0.038)
0.018
(0.039)
m 0.626*
(0.023)
0.720*
(0.072)
0.738*
(0.075)
DFI -0.03
(0.026)
-0.112
(0.113)
-0.176
(0.136)
sector spill -0.206*
(0.091)
-0.670*
(0.360)
-0.678*
(0.371)
DFI x sector spill 3.528*
(1.473)
6.199
(12.184)
5.225
(12.40)
Region spill - - -0.175
(0.206)
DFI x region spill - - 5.061
(5.825)
Sargan Test - 31.18 (df=31) 30.1 (df=29)
SOC test 0.248 -0.103 -0.025
number of
observations
4,662 4,662 4,662
Notes: (i) all equations include time dummies, (ii) heteroscedastic consistent standard
errors in brackets, (iii) * denotes significant at the 5% level, ** at the 10% level, (iv)
instruments include some or all available moment restrictions of the endogenousexplanatory variables as well as region dummies.
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Table 4: Results for Romania
Dependent variable: y
independent
variables:
OLS IV IV IV
yt-1 - - 0.138*
(0.034)
0.144*
(0.035)n 0.134*
(0.017)
0.245*
(0.073)
0.106*
(0.06)
0.094**
(0.063)
k 0.081*
(0.011)
0.04**
(0.026)
0.043*
(0.02)
0.043*
(0.02)
m 0.604*
(0.017)
0.660*
(0.036)
0.411*
(0.04)
0.421*
(0.044)
DFI 0.01*
(0.002)
0.04
(0.003)
0.001
(0.02)
0.128
(0.17)
sector spill 0.201*
(0.083)
0.436
(0.459)
-1.101*
(0.528)
-0.934**
(0.579)
DFI x sector spill -32.52*
(12.1)
-8.937
(12.07)
-21.06
(66.92)
-14.8
(72.5)
Region spill - - - 0.063
(0.128)
DFI x region spill - - - -2.93
(4.18)
Sargan Test - 15.14 (df=6) 60.3 (df=45) 59.27 (df=43)
SOC test -3.708 -3.872 - -
number of
observations
10,955 10,955 7,111 7,111
Notes: as in table 3
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William Davidson Institute Working Paper 344
Table 5: Results for Poland
Dependent variable: y
independent
variables:
OLS IV IV IV
n 0.01
(0.14)
0.022
(0.121)
0.062
(0.108)
0.03
(0.11)k 0.017
(0.03)
0.017
(0.087)
0.059
(0.083)
0.06
(0.067)
m 0.429*
(0.081)
0.487*
(0.129)
0.613*
(0.094)
0.527*
(0.079)
DFI 0.178*
(0.08)
0.215*
(0.097)
0.13
(0.11)
0.145*
(0.062)
sector spill -0.253
(0.324)
0.174
(0.790)
-0.191
(0.689)
-0.172
(0.721)
DFI x sector spill 1.14
(2.162)
3.175
(4.835)
-1.84
(8.34)
-
Region spill - - -0.377
(0.327)
-0.48**
(0.301)
DFI x region spill - - 1.77
(10.84)
-
Sargan Test - 12.77 (df=16) 19.03 (df=20) 16.92 (df=21)
SOC test 0.171 0.536 0.07 0.391
number of
observations
340 340 340 340
Notes: as in table 3
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No. 222: Opaque Markets and Rapid Growth:
the Superiority of Bank-Centered Financial
Systems for Developing Nations
Rodney Wallace July 1999
No. 221: Technology Spillovers throughForeign Direct Investment
Yuko Kinoshita January 1999
No. 220: Managerial, Expertise and Team
Centered Forms of Organizing: A Cross-
Cultural Exploration of Independence in
Engineering Work
Leslie Perlow January 1999
No. 219: Household Structure and Labor
Demand in Agriculture: Testing for
Separability in Rural China
Audra J. Bowlus and Terry Sicular January 1999
No. 218: Competing Strategies of FDI and
Technology Transfer to China: American and
Japanese Firms
W. Mark Fruin and Penelope Prime January 1999
No. 217 Published in: Journal of Comparative
Economics, Returns to Mobility in theTransition to a Market Economy Vol. 27, No.
1, March 1999, pp. 4-
Tito Boeri and Christopher J. Flinn January 1999
No. 216 Published in: Journal of Comparative
Economics, Labor Market Policies and
Unemployment in the Czech Republic. Vol.
27, No. 1, March 1999, pp. 33-60.
Katherine Terrell and Vit Sorm November 1998
No. 215 Published in: Journal of Comparative
Economics, Active Labor Market Policies in
Poland: Human Capital Enhancement,
Stigmatization or Benefit Churning? Vol. 27,
No. 1, March 1999, pp. 61-
Jochen Kluve, Hartmut Lehmann, and
Christoph M. Schmidt
December 1998
No. 214 Published in: Journal of Comparative
Economics, Does the Slovenian Public WorkProgram Increase Participants' Chances to
Find a Job? Vol. 27, No.1, March 1999, pp.
113-
Milan Vodopivec December 1998
No. 213 Published in: Journal of Comparative
Economics, Effects of Active Labor Market
Programs on the Transition Rate from
Unemployment into Regular Jobs in the
Slovak Republic. Vol. 27, No. 1, March
1999, pp. 90-
Martina Lubyova and Jan C. van Ours December 1998
No. 212: The Marketing System in Bulgarian
Livestock Production The Present State and
Evolutionary Processes During the Period of
Economic Transition
Yordan Staykov, Team Leader October 1998
No. 211: Bankruptcy Experience in Hungary
and the Czech Republic
Janet Mitchell October 1998
No 210: Values, Optimum Stimulation Levels
and Brand Loyalty: New Scales in New
Populations
Steven M. Burgess and Mari Harris September 1998
No. 209: Inherited Wealth, Corporate Control
and Economic Growth
Randall K. Morck, David A. Stangeland,
and Bernard Yeung
September 1998
No. 208: A Cultural Analysis of Homosocial
Reproduction and Contesting Claims to
Michael D. Kennedy July 1998
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Competence in Transitional Firms
No. 207: From Survival to Success: The
Journey of Corporate Transformation at Haier.
Forthcoming in Teaching the Dinosaurs toDance: Organizational Change in Transition
Economies ed. Daniel Denison.
Arthur Yeung and Kenneth DeWoskin July 1998
No. 206: Why Do People Work If They Are
Not Paid? An Example from Eastern Europe.
Forthcoming in Teaching the Dinosaurs to
Dance: Organizational Change in Transition
Economies ed. Daniel Denison.
Irina L. Zinovieva May 1998
No. 205: Firm Ownership and Work
Motivation in Bulgaria and Hungary: An
Empirical Study of the Transition in the Mid-
1990s. Forthcoming in Teaching the
Dinosaurs to Dance: Organizational Change in
Transition Economies ed. Daniel Denison.
Robert A. Roe, Irina L. Zinovieva,
Elizabeth Dienes, and Laurens A. ten Horn
May 1998
No. 204: Human Resource Management in the
Restructuring of Chinese Joint Ventures.
Forthcoming in Teaching the Dinosaurs to
Dance: Organizational Change in Transition
Economies ed. Daniel Denison.
Nandani Lynton April 1998
No. 203: Emergent Compensation Strategies
in Post-Socialist Poland: Understanding the
Cognitive Underpinnings of Management
Practices in a Transition Economy.
Forthcoming in Teaching the Dinosaurs to
Dance: Organizational Change in Transition
Economies ed. Daniel Denison.
Marc Weinstein March 1998
No. 202: Corporate Transformation andOrganizational Learning: The Peoples
Republic of China. Forthcoming in Teaching
the Dinosaurs to Dance: Organizational
Change in Transition Economies ed. Daniel
Denison.
Meinolf Dierkes and Zhang Xinhua March 1998
No. 201: Foreign Direct Investment as a
Factor of Change: The Case of Slovakia.
Forthcoming in Teaching the Dinosaurs to
Dance: Organizational Change in Transition
Economies ed. Daniel Denison.
Sonia Ferencikova February 1998
No. 200: Radical versus Incremental Change:
The Role of Capabilities, Competition, and
Leaders. Forthcoming in Teaching theDinosaurs to Dance: Organizational Change in
Transition Economies ed. Daniel Denison.
Karen L. Newman February 1998
No. 199: The Emergence of Market Practices
in Chinas Economic Transition: Price Setting
Practices in Shanghais Industrial Firms.
Forthcoming in Teaching the Dinosaurs to
Dance: Organizational Change in Transition
Economies ed. Daniel Denison.
Douglas Guthrie February 1998
No. 198: The Application of Change Dr. Jnos Fehr January 1998
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Management Methods at Business
Organizations Operating in Hungary:
Challenges in the Business and Cultural
Environment and First Practical Experiences.Forthcoming in Teaching the Dinosaurs to
Dance: Organizational Change in Transition
Economies ed. Daniel Denison.
No. 197: Organizational Changes in Russian
Industrial Enterprises: Mutation of Decision-
Making Structures and Transformations of
Ownership. Forthcoming in Teaching the
Dinosaurs to Dance: Organizational Change in
Transition Economies ed. Daniel Denison.
Igor B. Gurkov January 1998
No. 196: Understanding and Managing
Challenges to the Romanian Companies
during Transition. Forthcoming in Teaching
the Dinosaurs to Dance: OrganizationalChange in Transition Economies ed. Daniel
Denison.
Dan Candea and Rodica M. Candea January 1998
No. 195: Insider Lending and Economic
Transition: The Structure, Function, and
Performance Impact of Finance Companies in
Chinese Business Groups. Forthcoming in
Teaching the Dinosaurs to Dance:
Organizational Change in Transition
Economies ed. Daniel Denison.
Lisa A. Keister December 1997
No. 194: Japanese Investment in Transitional
Economies: Characteristics and Performance.
Forthcoming in Teaching the Dinosaurs to
Dance: Organizational Change in TransitionEconomies ed. Daniel Denison.
Paul W. Beamish and Andrew Delios November 1997
No. 193: Building Successful Companies in
Transition Economies. Forthcoming in
Teaching the Dinosaurs to Dance:
Organizational Change in Transition
Economies ed. Daniel Denison.
Dr. Ivan Perlaki January 1998
No. 192: Russian Communitariansim: An
Invisible Fist in the Transformation Process of
Russia. Forthcoming in Teaching the
Dinosaurs to Dance: Organizational Change in
Transition Economies ed. Daniel Denison.
Charalambos Vlachoutsicos July 1998
No. 191: Teaching the Dinosaurs to Dance Michal Cakrt September 1997
No. 190: Strategic Restructuring: MakingCapitalism in Post-Communist Eastern
Europe. Forthcoming in Teaching the
Dinosaurs to Dance: Organizational Change in
Transition Economies ed. Daniel Denison.
Lawrence P. King September 1997
No. 189: Published in: Regional Science and
Urban Economics, Russias Internal Border,
29 (5), September 1999.
Daniel Berkowitz and David N. DeJong July 1998
No. 187: Corporate Structure and Performance
in Hungary
Lszl Halpern and Gbor Krsi July 1998
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No. 186: Performance of Czech Companies by
Ownership Structure
Andrew Weiss and Georgiy Nikitin June 1998
No. 185: Firm Performance in Bulgaria and
Estonia: The effects of competitive pressure,financial pressure and disorganisation
Jozef Konings July 1998
No. 184: Investment and Wages during the
Transition: Evidence from Slovene Firms
Janez Prasnikar and Jan Svejnar July 1998
No. 183: Investment Portfolio under Soft
Budget: Implications for Growth, Volatility
and Savings
Chongen Bai and Yijiang Wang July 1998
No. 181: Delegation and Delay in Bank
Privatization
Lornd Ambrus-Lakatos and Ulrich Hege July 1998
No. 180: Financing Mechanisms and R&D
Investment
Haizhou Huang and Chenggang Xu July 1998
No. 179: Organizational Culture and
Effectiveness: The Case of Foreign Firms in
Russia
Carl F. Fey and Daniel R. Denison January 1999
No. 178: Output and Unemployment
Dynamics in Transition
Vivek H. Dehejia and Douglas W. Dwyer January 1998
No. 177: Published in: Economics of
Transition,, Bureaucracies in the Russian
Voucher Privatization Vol. 8, No. 1, 2000,
pp. 37-57.
Guido Friebel June 1998
No. 176: Chronic Moderate Inflation in
Transition: The Tale of Hungary
Jnos Vincze June 1998
No. 175: Privatisation and Market Structure in
a Transition Economy
John Bennett and James Maw June 1998
No. 174: Ownership and Managerial
Competition: Employee, Customer, or Outside
Ownership
Patrick Bolton and Chenggang Xu June 1998
No. 173: Intragovernment Procurement of
Local Public Good: A Theory of
Decentralization in Nondemocratic
Government
Chong-en Bai, Yu Pan and Yijiang Wang June 1998
No. 172: Political Instability and Growth in
Proprietary Economies
Jody Overland and Michael Spagat August 1998
No. 171: Published in Post-Communist
Economies, Framework Issues in the
Privatization Strategies of the Czech Republic,
Hungary, and Poland Vol. 11, no. 1 March
1999.
Morris Bornstein June 1998
No. 170: Published in: European Journal of
Political Economy Privatization, OwnershipStructure and Transparency: How to Measure
a Real Involvement of the State 15(4),
November 1999, pp. 605-18.
Frantisek Turnovec May 1998
No. 169 Published in: American Economic
Review, Unemployment and the Social
Safety Net during Transitions to a Market
Economy: Evidence from Czech and Slovak
Men. Vol. 88, No. 5, Dec. 1998, pp. 1117-
1142.
John C. Ham, Jan Svejnar, and Katherine
Terrell
December 1998
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No. 167: Voucher Privatization with
Investment Funds: An Institutional Analysis
David Ellerman March 1998
No. 166: Published in: Marketing Issues in
Transitional Economies, Value Priorities andConsumer Behavior in a Transitional
Economy: The Case of South Africa ed.
Rajeev Batra.
Steven M. Burgess and Jan-Benedict E.M.
Steenkamp
August 1998
No. 164: Finance and Investment in
Transition: Czech Enterprises, 1993-1994
Ronald Anderson and Chantal Kegels September 1997
No. 163: European Union Trade and
Investment Flows U-Shaping Industrial
Output in Central and Eastern Europe: Theory
and Evidence
Alexander Repkine and Patrick P. Walsh April 1998
No. 162: Skill Acquisition and Private Firm
Creation in Transition Economies
Zuzana Brixiova and Wenli Li October 1999
No. 161: Corruption in Transition Susanto Basu and David D. Li May 1998
No. 160a: Tenures that Shook the World:Worker Turnover in Russia, Poland and
Britain
Hartmut Lehmann and JonathanWadsworth
November 1999
No. 160: Tenures that Shook the World:
Worker Turnover in the Russian Federation
and Poland
Hartmut Lehmann and Jonathan
Wadsworth
June 1998
No. 159: Does Market Structure Matter? New
Evidence from Russia
Annette N. Brown and J. David Brown June 1998
No. 158: Structural Adjustment and Regional
Long Term Unemployment in Poland
Hartmut Lehmann and Patrick P. Walsh June 1997
No. 157: Baby Boom or Bust? Changing
Fertility in Post-Communist Czech Republic
and Slovakia
Robert S. Chase April 1998
No. 156 Published in: Leadership and
Organization Development Journal, Leading
Radical Change in Transition Economies.
Vol. 19, No. 6, 1998, pp. 309-324.
Karen L. Newman June 1998
No. 155 Published in: Oxford Review of
Economic Policy, From Theory into
Practice? Restructuring and Dynamism in
Transition Economies. Vol. 13, No. 2,
Summer 1997, pp. 77-105.
Wendy Carlin and Michael Landesmann June 1997
No. 154: The Model and the Reality:
Assessment of Vietnamese SOE Reform
Implementation at the Firm Level
Edmund Malesky, Vu Thanh Hung, Vu
Thi Dieu Anh, and Nancy K. Napier
July 1998
No. 153 Published in: Journal of Comparative
Economics, Causes of the Soft BudgetConstraint: Evidence on Three Explanations.
Vol. 26, No. 1, March 1998, pp. 104-116.
David D. Li and Minsong Liang March 1998
No. 152 Published in: Comparative Economic
Studies, Enterprise Restructuring in Russias
Transition Economy: Formal and Informal
Mechanisms. Vol. 40, No. 2, Summer 1998,
pp. 5-52.
Susan J. Linz and Gary Krueger April 1998
No. 151: Labor Productivity in Transition: A
Regional Analysis of Russian Industry
Susan J. Linz May 1998
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No. 150: Tax Avoidance and the Allocation of
Credit. Forthcoming in Financial Systems in
Transition: The Design of Financial Systems
in Central Europe eds. Anna Meyendorff andAnjan Thakor.
Anna Meyendorff June 1998
No. 149: Commitment, Versatility and
Balance: Determinants of Work Time
Standards and Norms in a Multi-Country
Study of Software Engineers
Leslie Perlow and Ron Fortgang April 1998
No. 148: Changes in Polands Transfer
Payments in the 1990s: the Fate of Pensioners
Bozena Leven June 1998
No. 147: Environmental Protection and
Economic Development: The Case of the
Huaihe River Basin Cleanup Plan
Robert Letovsky, Reze Ramazani, and
Debra Murphy
June 1998
No. 146: Chief Executive Compensation
During Early Transition: Further Evidence
from Bulgaria
Derek C. Jones, Takao Kato, and Jeffrey
Miller
June 1998
No. 145 Published in: Economics of
Transition, Womens Unemployment During
the Transition: Evidence from Czech and
Slovak Micro Data, Vol. 7, No. 1, May 1999,
pp. 47-78.
John Ham, Jan Svejnar, and Katherine
Terrell
May 1998
No. 144: Investment and Wages in Slovenia Janez Prasnikar May 1998
No. 143 Published in: Review of Financial
Studies, Optimal Bankruptcy Laws Across
Different Economic Systems, 12(2), Summer
1999, pgs. 347-77.
Elazar Berkovitch and Ronen Israel March 1998
No. 142: Industrial Policy and Poverty in
Transition Economies: Two Steps Forward or
One Step Back?
Susan J. Linz March 1998
No. 141: Collective Ownership and
Privatization of Chinas Village Enterprises
Suwen Pan and Albert Park April 1998
No. 140: A Comparative Look at Labor
Mobility in the Czech Republic: Where have
all the Workers Gone?
Vit Sorm and Katherine Terrell April 1999
No. 139: The Failure of the Government-Led
Program of Corporate Reorganization in
Romania
Simeon Djankov and Kosali Ilayperuma September 1997
No. 138: Ownership and Employment in
Russian Industry: 1992-1995
Susan J. Linz March 1998
No. 137 Published in: Journal of Political
Economy, Reform Without Losers: An
Interpretation of Chinas Dual-TrackApproach to Transition, Feb. 2000; Vol. 108,
Iss.1; pg. 120
Lawrence J. Lau, Yingyi Qian, and Gerard
Roland
November 1997
No. 136 Published in: European Economic
Review, The Political Economy of Mass
Privatization and the Risk of Expropriation,
44(2), February 2000, pgs. 393-421
Klaus M. Schmidt March 1998
No. 135: Radical Organizational Change: The
Role of Starting Conditions, Competition, and
Leaders
Karen L. Newman January 1998
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No. 134: To Restructure or Not to Restructure:
Informal Activities and Enterprise Behavior in
Transition
Clifford Gaddy and Barry W. Ickes May 1998
No. 133: Management 101: Behavior of Firmsin Transition Economies
Josef C. Brada March 1998
No. 132 Published in: Quarterly Journal of
Economics, Interfirm Relationships and
Informal Credit in Vietnam, 114(4), Nov.
1999, pgs. 1285-1320
John McMillan and Christopher Woodruff February 1998
No. 131 Published in: Comparative Economic
Studies, Will Restructuring Hungarian
Companies Innovate? An Investigation Based
on Joseph Berliners Analysis of Innovation in
Soviet Industry. Vol. 40, No. 2, Summer
1998, pp. 53-74.
John B. Bonin and Istvan Abel March 1998
No. 130: Published in The American
Economic Review, Changing Incentives ofthe Chinese Bureaucracy. May, 1998.
David D. Li January 1998
No. 129: Restructuring Investment in
Transition: A Model of the Enterprise
Decision
Richard E. Ericson January 1998
No. 128 Published in: Comparative Economic
Studies, Job Rights in Russian Firms:
Endangered or Extinct Institutions? Vol. 40,
No. 4, Winter 1998, pp. 1-32.
Susan J. Linz January 1998
No. 127: Accounting for Growth in Post-
Soviet Russia
Daniel Berkowitz and David N. DeJong January 1998
No. 126 Published in: Economics of
Transition, From Federalism, Chinese Style,
to Privatization Chinese Style, 7(1), 1999,pgs. 103-31
Yuanzheng Cao, Yingyi Qian, and Barry
R. Weingast
December 1997
No. 125: Market Discipline in Conglomerate
Banks: Is an Internal Allocation of Cost of
Capital Necessar