ENTERPRISE SURVEYS 50338 ENTERPRISE NOTE SERIES TRADE 2009 Foreign Exposure and Job Creation Murat Seker I n our highly globalized world, it is crucial for governments to monitor the flow of goods and services across their borders and to attract foreign investment. To be able to imple- ment the most efficient trade policies, policy makers must understand the evolution of ENTERPRISE NOTE NO. 3 firms with foreign exposure. This note investigates differences in average job creation between purely domestic firms and firms with foreign exposure--that is, firms that export, import, or are foreign owned. The analysis shows that both exporters and importers perform better than nontraders. This provides a strong rationale for further analyzing importers--a group that has been much less studied than exporters. The analysis further shows that firms with exposure to foreign markets through trade relations create, on average, three-quarters more jobs and are twice as productive as nontrading firms. Creating jobs is a central issue for economic development observations, respectively. The 2006 survey of Latin Ameri- and welfare. Hence, identifying the best policies to create can countries (LA survey)4 includes 6,191 observations. jobs is of great importance for governments. This note in- In analyzing the relationship between trade and net job vestigates the differences in job creation rates of firms with creation, we divide firms into four groups: firms that import foreign exposure versus purely domestic firms. Firms gain intermediate goods and export (two-way traders), firms exposure to foreign markets either through establishment that only import (only-importers), firms that only export of trading relations with other countries or through acqui- (only-exporters), and firms that do not engage in interna- sition by a foreign firm. Analyzing these sources of global tional trade (nontraders). Figure 1 shows the fraction of engagement, we show that firms that participate in inter- firms in each trade group. In the full dataset, nontraders WORLD BANK GROUP national markets are larger, better at creating jobs, more comprise the largest share with 38 percent, followed by productive, and more likely to pay higher wages than do- only-importers. Only-exporters make up the smallest share mestic firms. with 7 percent. Importing seems to be more common than The analysis relies on a dataset collected through the exporting. The same patterns are observed in the surveys World Bank's Enterprise Surveys.1 A total of 17,843 manu- from the Eastern European and Central Asian region. How- facturing firms in 40 developing countries across different ever, in the Latin America region, only-importers are more regions of the world are used in the analysis. In the surveys, common than nontraders. a random sample of firms2 is selected to represent the man- In terms of ownership, we divide the firms into two ufacturing sector in each country. The surveys covering the groups: firms with greater than 10 percent of foreign own- Eastern European and Central Asian countries (ECA sur- ership5 are grouped as foreign, while the remaining firms vey3), conducted in 2002 and 2005, include 4,837 and 6,815 are grouped as domestic. Firms with foreign ownership Figure 1 Trade Orientation of Firms (percentage) Figure 2 Performance Measures of Globally Engaged Firms (as multiples of nontraders) 50 7.0 45 40 6.0 35 5.0 Multiples 30 25 4.0 20 3.0 15 10 2.0 5 1.0 0 ECA ECA LA Total 0 (2002) (2005) (2006) Employment Real wage Productivity Export only Export/Import Import-only None Export/Import Export only Import-only Source: Enterprise Surveys. Source: Enterprise Surveys. comprise 14 percent of the total firms in the data. Among ferent regions and years.8 Hence, the differences between the regions, the share of foreign-owned firms varies be- globally engaged firms and nontraders are not specific to a tween 10 and 20 percent, with the lowest share being in particular survey or region. Latin America. Similarly, firms with foreign ownership employ more workers, pay higher wages, and are more productive than Globally Engaged Firms Are Larger and firms that are purely domestically owned. Foreign-owned Pay Higher Wages firms are also more likely to trade than purely domestic The fact that exporters are larger and more productive than firms. Hence, it is difficult to determine the relationship be- purely domestic firms has been well established in both em- tween foreign ownership and firm perfor- pirical and theoretical studies.6 A few re- mance without accounting for the firms' cent studies such as Bernard et al. (2007), trading status. Andersson et al. (2007), and Muuls and Firms that both import Figure 3 shows average employment, Pisu (2007) have shown that importers wage, and productivity levels of foreign and export are almost share many of those features with ex- owned firms as multiples of the respec- porters. Hence, importers also deserve four times as large, tive variables for domestically owned a detailed analysis on how they evolve. trading and nontrading firms. In both Moreover, trade policies affect the deci- twice as productive, groups, foreign-owned firms perform sions both to import and to export. Thus, and pay six times more better than domestic firms. Results for it is important to understand how import- the nontrading group show that when ers would respond to policy changes. wages than nontrading the effects of trade on performance are Trading firms or firms with foreign firms. isolated, there is still a strong correla- ownership perform better than nontrad- tion between foreign ownership and ing or purely domestic firms. In Figure firm performance. 2, we compare firms with foreign expo- sure to nontrading firms across several measures, including Globally Engaged Firms Create More Jobs average employment, annual real wage, and total sales per Firms with foreign exposure create more jobs than non- worker (labor productivity).7 The values in the graph are trading and purely domestic firms.9 Grouping firms ac- presented as multiples of the respective variables for non- cording to their foreign exposure shows that two-way trading firms. Firms with foreign exposure perform better traders create three percentage points more jobs than than nontrading firms in all three measures, and two-way nontrading firms (see figure 4). They are followed by traders are the best performers. Two-way traders are almost only-exporters and only-importers, respectively. A similar four times larger, twice as productive, and pay six times picture emerges when the same graph is constructed sepa- higher wages than nontrading firms. An important impli- rately for each survey round. One notable difference that cation of the data is that part of the superior performance arises across survey rounds is that the employment growth of exporters can be explained by the fact that they import rates of only-importers and nontraders are higher in ECA intermediate goods. In all three measures, two-way traders surveys than in LA. On the other hand, the difference be- consistently do better than only-exporters, who outperform tween the employment growth rates of only-exporters and only-importers. The same patterns are observed in the dif- only-importers is relatively small in ECA compared to LA. 2 Figure 3 Performance Measures of Firms with Figure 4 Employment Growth Rates: Foreign Ownership (as multiples of Foreign Exposure of Firms (in percentage) domestic firms) 4.5 12 4.0 10 3.5 8 3.0 Multiples 2.5 6 2.0 4 1.5 1.0 2 0.5 0 0 Total ECA ECA LA Employment Real Wage Productivity (2002) (2005) (2006) Nontrader Trader Export/Import Export only Import-only None Source: Enterprise Surveys. Source: Enterprise Surveys. The analysis of foreign ownership reveals a similar pic- Analysis of growth rates for five manufacturing indus- ture to the analysis of the trading behavior of firms. Among tries show that firms that export grow faster than nontrad- nontraders, foreign-owned firms create approximately two ers (see figure 5). In all industries, importers also grow and a half percentage points more jobs than domestically faster than nontraders. Although the fastest growing group owned firms. Among trading firms, although the difference varies across industries, the distinction between traders and in job creation is still positive, it is small (0.2 percentage nontraders remains consistent. Consistent with the aggre- points). gate evidence, in each industry, globally engaged firms are How can we explain these observed relationships be- larger, more productive, and pay higher wages.11 tween job creation and foreign exposure? Although the Foreign-owned firms create more jobs within industries evidence presented in this note is not sufficient to draw than domestic firms--even after accounting for the firm's any causal inferences, we can present several hypotheses. trading status. Figure 6 shows that foreign-owned firms cre- Importing and exporting can lead to higher job creation ate more jobs than domestic firms across all industries ana- through different mechanisms. Liberalizing trade stimu- lyzed. However, the size of the gap in employment growth lates a reallocation of economic activity toward larger and between foreign and domestic firms varies across industries. most productive firms that self-select into export markets. In garments and chemicals, foreign-owned firms create These productive firms increase their market size through around six percentage points more jobs than domestic firms. exporting. For exporters, a larger market base leads to a On the other hand, the difference in the textile industry is larger return on investments (such as research and develop- less than one percentage point. ment), which when reinvested can fuel faster growth. For The results presented in this note are consistent with importers, firm productivity may increase through more ef- more elaborate analysis of global engagement and firm evo- ficient foreign technologies or greater access to a variety of lution presented in Seker (2009). Using the same dataset intermediate goods that may be of higher quality. Higher and accounting for a a rich set of factors that can affect the productivity eventually spurs growth. For foreign-owned relationship between foreign exposure and job creation, it firms, being subsidiaries of larger multinational firms en- ables them to use newer, more cutting-edge technologies, Figure 5 Employment Growth in Industries: Foreign Exposure of Firms (in percentage) making them more productive than domestic firms. Again, this may eventually lead to faster growth. 12 10 Do Industries Vary in Job Creation? 8 Some manufacturing industries are more engaged with the 6 global markets than others. As a result, part of the observed relationship between foreign exposure and job creation 4 could be a reflection of differences across industries. In 2 order to control for industry differences, we analyze em- 0 ployment growth rates of firms within the same manufac- All Food Garments Textiles Chemicals Electronics manufacturing turing industry.10 We show that differences in job creation Export/Import Export only Import-only None among firms with different levels and measures of foreign exposure are not specific to particular industries. Source: Enterprise Surveys. 3 5. This level is used by statistical agencies in many countries Figure 6 Employment Growth in Industries for Nontrading Firms: Foreign Ownership (in (e.g., U.S. Bureau of Economic Analysis). It is also the amount percentage) defined in IMF's Balance of Payment Manual (1993). 6. See Bernard et al. (2007) and Lopez (2005) for extensive 10 reviews of the literature. 9 8 7. Data for ECA 2002 and 2005 are given in U.S. dollars but 7 the 2006 LA data were in local currencies. Nominal values of sales 6 and wages are deflated using the GDP deflator from World Bank 5 4 Development Indicators database. All values are presented in 2000 3 constant U.S. dollars, and the exchange rate is taken from Interna- 2 tional Financial Statistics database. 1 0 8. These results are available upon request. All Food Garments Textiles Chemicals Electronics manufacturing 9. In the analysis, we can only analyze net job creation over Domestic Foreign three years; hence we cannot make a complete analysis of realloca- tion of labor. Also, job creation rates are calculated as the annual Source: Enterprise Surveys. change in total full-time employment over three years. 10. Industries are analyzed at the 2-digit level where the clas- shows that firms engaged in global markets through im- sification is made according to ISIC revision 3.1. porting intermediate goods, exporting, or having foreign 11. This table is available upon request. ownership create more jobs, employ more workers, and are more productive than purely domestic firms. Strong evi- References dence on the positive relationship between global engage- Andersson M., Sara Johansson, and Hans Loof. 2007. "Firm Per- ment and job creation stresses the importance of policies formance and International Trade: Evidence from a Small that facilitate trade and attract foreign investment. Open Economy." CESIS Working Paper Series No. 99, Centre of Excellence for Science and Innovation Studies, Stockholm, Notes Sweden 1. See www.enterprisesurveys.org for detailed description of Bernard, A.B., J. Branford Jensen, S.J Redding, and P. K. Schott. the data and methodology used for data collection. 2007. "Firms in International Trade," Journal of Economic Per- 2. Although the actual unit of observation is the plant, we use the spectives, 21(3), pp.105-30. firm as the unit of observation because most of the firms are single- Lopez, Ricardo A. 2005."Trade and Growth: Reconciling the Mac- plant firms. In the survey for the Latin America region there is a roeconomic and Microeconomic Evidence." Journal of Eco- question asking whether the firm is a part of a larger firm; 89 percent nomic Surveys, 19(4), pp 623-48. of the 6,223 firms who answered this question own a single plant. Muuls, Mirabelle, and Mauro Pisu. 2007. "Imports and Exports at 3. These surveys are also known as Business Environment and the level of the firm: Evidence from Belgium." CEP Discussion Enterprise Performance Surveys (BEEPS). Paper No 801. 4. The actual data are from one year before the survey was con- Seker, Murat. 2009. "Foreign Exposure of Firms and Growth in ducted (i.e., ECA [2002, 2005] and LA [2006] surveys use data Developing Countries." Working Paper, Enterprise Analysis from 2001, 2004, and 2005, respectively). Unit, World Bank, Washington, DC. The Enterprise Notes Series presents short research reports to encourage the exchange of ideas on business environment issues. The notes present evidence on the relationship between government policies and the ability of businesses to create wealth. The notes carry the names of the authors and should be cited accordingly. The findings, interpretations, and conclusions expressed in this note are entirely those of the authors. They do not necessarily represent the views of the International Bank for Reconstruction and Development/World Bank and its affiliated organizations, or those of the Executive Directors of the World Bank or the governments they represent. 4