How does FDI inflow affect productivity of domestic firms? The role of horizontal and vertical spillovers, absorptive capacity and competition

Abstract

This paper examines the existence of externalities associated with foreign direct investment (FDI) in a host country by exploiting firm-level panel data covering the Polish corporate sector. We distinguish between horizontal spillovers (from foreign to domestic firms operating in the same industry) and two types of vertical spillovers: backward (from FDI in downstream industries) and forward spillovers (from FDI in upstream industries). The main findings are as follows. Local firms benefit from foreign presence in the same industry and in downstream industries. The absorptive capacity of domestic firms is highly relevant to the size of spillovers: vertical spillovers are larger for R&D-intensive firms, while firms investing in other (external) types of intangibles benefit more from horizontal spillovers. Competitive pressure facilitates backward spillovers, while market power increases the extent of forward spillovers. Horizontal spillovers are particularly strong in services, while the remaining results, including backward spillovers and the role of absorptive capacity and competition, are mainly driven by manufacturing. Host country equity participation in foreign firms is consistent with higher unconditional productivity spillovers to domestic firms. A number of robustness checks yield results qualitatively similar to those obtained in the baseline specification.