The debate on whether foreign investment benefits the host’s economy in the form of technology diffusion has attracted many researchers. Most of them claimed that foreign investment is a major channel of technology transfers from developed countries to developing countries. In terms of more technical issues, some studies also suggested that the benefits of FDI can be effectively gained to develop advanced managerial expertise and scale production knowledge that lead to production efficiency improvement.
However, theoretical arguments indicate that the effect of technology diffusion stemming from FDI might be conditional and complementary to other factors such as human capital investment and specified subsector characteristics. The high quality of human capital will promote FDI benefits as it increases absorptive capacity, enabling technology diffusion to be quickly taken in. For the case of subsector characteristics, there may be different effects resulting from FDI upon high and low technology intensity sectors. The technology diffusion caused by FDI is greater in the high technology sectors than in low-technology ones as it relies on technology creation and research and development (R&D) intensity. In this sense, technological progress and the appropriateness of technology are claimed as sector-specific. Therefore, the conventional approach to identifying the effect of technology diffusion caused by FDI on economic performance without considering specific technology intensity may be unclear.
This study uses firm-level data from the large and medium manufacturing sector (IBS) annually surveyed by the Indonesian Central Bureau of Statistics from 2007 to 2015. The Indonesian Central Bureau of Statistics defines manufacturing firms as large and medium firms which empower more than 100 labourers for large firms and between 20 to 99 labourers for medium firms. The number of firms may change over time due to some exiting the industry. Nonetheless, selecting balanced panel data may limit the number of firms estimated in this study. Therefore, the unbalanced-panel data consists of 120,477 observations with a minimum number of 12,418 manufacturing establishments in 2010 and a maximum number of 13,850 establishments in 2011.
There are two divisions of variables in this study. The first division includes the main variables, e.g. total output, capital (approximated by the fixed assets of a firm such as land, building, machinery, equipment, and vehicles), number of labourers, energy (approximated by fuel and lubricants used in a year) and raw material. Except for the number of labourers, all variables are in Rupiah. The second division has two sub-divisions, namely the key exogenous variables: a foreign firm that proxies FDI, dummies of technology intensity (high, medium-high, medium-low, and low intensity) and absorptive capacity. There are other exogenous variables referred to in some previous studies: age of firm, export, imported raw material intensity obtained from the ratio of imported raw material and total materials, and firm size obtained from the market share of the firm in the industry. Table 1 reports the statistics descriptive of all variables employed in this study.
This study has demonstrated the effects of FDI (represented by the incoming foreign firm), technology intensity (i.e. High, Medium-High, Medium-Low, and Low Technology sectors) and absorptive Capacity on the technical efficiency and productivity of the manufacturing firms in Indonesia. The stochastic production frontier estimation reveals that FDI, technology intensity and absorptive capacity alone promote firms’ production, but only absorptive capacity promotes technical efficiency. The models adopted in this study concluded that the interacting term between technology intensity and FDI has a negative impact on firms’ technical inefficiency. It means that sectors categorized as High Technology incorporated with foreign ownership tend to have higher technical efficiency. The result shows that, on averagely, the manufacturing industry in Indonesia from 2007 to 2015 experienced positive TFP growth. The result also shows that the technological progress experienced by foreign firms is relatively larger than that experienced by domestic ones. In this sense, international technology diffusion through FDI might successfully occur because foreign firms can make a faster frontier shifting process.
Finally, this study has many important implications. Obtaining FDI benefits, such as transfer of knowledge or technology diffusion, is not a simple matter. It requires many complementary factors, such as technical capabilities or absorptive capacity, even if a firm is categorised as a High Technology sector. Firms with lower technical capability can catch up and receive similar benefits from FDI activities. In this sense, the host country’s government should focus on the industries that have had high technical capabilities to accelerate FDI gains for the firms. However, simultaneously, human capital improvement also needs to be intensified, for instance, through training or human development.
Author: Mohammad Zeqi Yasin and Dyah Wulan Sari
