Second, does superior technology in MNC affiliates spillover to non-acquired domestic firms? Spillovers are expected to occur when foreign owned firms are unable to fully internalize <!-- Start of picture text --> Exhibit 6<br>Relative TFP Trajectory for FDI Recipients<br>2<br>Source: World Bank (2005b)<br>1.8<br>1.6<br>1.4 Alw ays Foreign Ow ned<br>FDI Recipients<br>1.2 Alw ays Domestic Ow ned<br>1<br>0.8<br>-1 0 1 2<br>Years before and after foreign acquisition<br>Average TFP<br><!-- End of picture text --> their superior knowledge. They may occur through local firms copying products, technologies, methods or strategies from MNC affiliates, through observation ( _imitation_ ) or by hiring workers trained by the affiliates ( _skill acquisition_ ). MNC entry could also lead to more _competition_ in the host country market, forcing local firms to use existing resources more efficiently or to search for new technologies.<sup>16</sup> Two types of spillovers are relevant: horizontal (or intra-industry) and vertical (or inter-industry) spillovers. Horizontal spillovers are those between competing firms in the same sector. Here foreign firms will have a strong incentive to prevent their superior technology from leaking to local competitiors. They may use intellectual property rights, secrecy, paying higher wages or locating in countries or industries where local firms have limited imitative capacity to prevent spillovers.

Recent research tends to cast doubt on the existence of horizontal spillovers in developing countries. Gorg and Greenaway (2004) review 40 studies on horizontal productivity spillovers in manufacturing industries worldwide and conclude that only 8 find unambiguous evidence of positive horizontal spillovers, mostly for developed economies.<sup>17</sup> On the other hand, several studies using firm-level panel data find evidence of negative effects of FDI on domestic firms, for example Aitken and Harrison’s analysis (1999) of Venezuela and Koning’s (2001) study of firms in Bulgaria, Romania, and Poland. One suggested explanation for negative effects on the productivity of domestic firms is that greater competition from foreign invested firms reduces the market available to local firms in the short term, forcing them higher up their given cost curves (although in the longer run competition could also force local firms to improve efficiency (shift their cost curves downwards).

The extent of horizontal FDI spillovers tend to depend on the absorptive capacity of the local economy for assimilating new knowledge. Differences in absorptive capacity would help 16 Das (1987) and Wang and Blomstrom (1992) look at the role of imitation; Haacker (1999), Fosfuri et al. (2001), and Djankov and Hoekman (2000) on skill acquisition; Blomström and Kokko (1998) and Glass and Saggi (2002) on competition. For a general literature review of FDI spillover channels see Gorg and Greenaway (2004). 17 While 22 studies find positive and significant horizontal spillover effects, Gorg and Greenaway (2004) challenge the results of the 14 which are do not use panel data, because such studies are unable to deal with problems of reverse causality. Haskel, Pereira and Slaughter (2002) and Griffith, Redding and Simpson (2003) find small but significant effects for the UK, while Keller and Yeaple (2003) find large, significant ones for the US. Javorcik and Spatareanu (2003) find evidence for horizontal spillovers in Romania.

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