Does multinational activity displace trade

KIMBERLY A. CLAUSING [*] Using two-panel data sets on the operations of U.S. multinational firms abroad and the operations of foreign multinational firms in the United States, this article examines the empirical relationship between international trade and multinational activity. The evidence supports the conclusion that multinational activity and trade are complementary activities, particularly multinational activity and intrafirm trade. This empirical result is consistent with the theoretical reasons one might expect a complementary relationship between the two activities and is also robust to different approaches and specifications. (JEL F23) I. INTRODUCTION In recent years, foreign direct investment (FDI) has become an increasingly important part of world integration. Flows of FDI have been increasing faster than trade flows, which in turn have been growing faster than income. [1] In addition, multinational firms play a very large role in world trade. For the United States, 83% of exports in 1994 were either intrafirm shipments between multinational parents and their affiliates (36%) or arms-length trade between multinationals and unaffiliated buyers (47%). [2] Although it is clear that multinational firms have an important role in world trade, it is certainly less clear what the relationship is between production abroad and trade for multinational firms. The popular press often assumes that multinational investment by U.S. firms replaces U.S. exports, and in fact some economists have assumed that the rapid growth of foreign direct investment in recent years implies that multinational activity will eventually displace trade. [3] This article examines the empirical relationship between multinational activity and trade and finds that there is evidence that multinational activity complements, rather than displaces, trade. The article utilizes two-panel data sets constructed from aggregate survey data published by the Bureau of Economic Analysis (BEA); the data vary by country and over time. The first data set is used to study the relationship between U.S. exports and the activities of U.S. affiliates abroad; this data set is constructed from data describing the operations of U.S. multinational firms in 29 host countries between 1977 and 1994 together with data on U.S. exports (both intrafirm and arms length). The second data set is used to study the relationship between U.S. imports and the activities of foreign affiliates operating in the United States; it uses data describing operations in the United States by foreign affiliates of firms based in 29 home countries between 1977 and 1994 together with data on U.S. imports (both intrafi rm and arms length). Most previous studies of this question have examined the relationship between multinational activity and trade for a cross-section of countries. By using data that also vary over time, it is possible to explore more thoroughly the relationship between multinational activity and trade and how this relationship evolves. It is also possible to control for fixed country effects that may be influencing the observed relationships. Previous studies have tended to focus on the relationship between outward multinational activity and exports; this article looks as well at the relationship between inward multinational activity and imports. Finally, this article considers the question of complementarity between multinational activity and trade in two ways. In addition to looking at the relationship between the quantities of multinational activity and trade, the article also studies complementarity much as one might think of complementarity in a demand study, by considering cross-price effects. In particular, the article includes an analysis of the relationship between price variables that measure the cost of multinational activity abroad and exports. Since the "price" of operating abroad is negatively related to exports, this is further evidence of a complementary relationship between trade and multinational activity. …