Working Paper: CEPR ID: DP3647
Authors: Gene Grossman; Elhanan Helpman
Abstract: We study the determinants of the extent of outsourcing and of direct foreign investment in an industry in which producers need specialized components. Potential suppliers must make a relationship-specific investment in order to serve each prospective customer. Such investments are governed by imperfect contracts. A final-good producer can manufacture components for itself, but the per-unit cost is higher than for specialized suppliers. We consider how the size of the cost differential, the extent of contractual incompleteness, the size of the industry, and the relative wage rate affect the organization of industry production.
Keywords: direct foreign investment; imperfect contracting; intraindustry trade; multinational corporations; outsourcing
JEL Codes: D23; F12; F23; L22
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Increase in productivity advantage of specialized suppliers (L23) | Increase in fraction of firms engaging in outsourcing (L24) |
| Increase in productivity advantage of specialized suppliers (L23) | Increase in market share of outsourcing firms (L25) |
| Expansion of market size (D49) | Increase in fraction of firms engaging in outsourcing (L24) |
| Expansion of market size (D49) | Increase in market share of outsourcing firms (L25) |
| Improvements in contractual environment (L14) | Increase in fraction of firms engaging in outsourcing (L24) |
| Increase in relative wages in the exporting country (F16) | Decrease in fraction of firms engaging in outsourcing (D21) |
| Increase in relative wages in the exporting country (F16) | Decrease in market share of outsourcing firms (L19) |