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Foreign investment decisions of European companies : a test of the oligopolistic competition model Himmelsbach, Hans-Joachim 1974

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FOREIGN INVESTMENT DECISIONS OF EUROPEAN COMPANIES: A TEST OF THE OLIGOPOLISTIC COMPETITION MODEL by HANS-JOACHIM HIMMELSBACH B. Comm., The University of Br i t ish Columbia, 1971 A THESIS SUBMITTED IN PARTIAL FULFILMENT OF THE REQUIREMENTS FOR THE DEGREE OF MASTER OF SCIENCE IN BUSINESS ADMINISTRATION in the Division of INTERNATIONAL BUSINESS STUDIES Facul ty of COMMERCE AND BUSINESS ADMINISTRATION We accept this thesis as conforming to the required standard. THE UNIVERSITY OF BRITISH COLUMBIA August, 1974 i In presenting this thesis in partial fulfilment of the requirements for an advanced degree at the University of Br i t ish Columbia, I agree that the Library shall make i t freely available for reference and study. I further agree that permission for extensive copying of this thesis for scholarly purposes may be granted by the Head of my Department or by his representatives. It is understood that copying or publication of this thesis for financial gain shall not be allowed without my written permission. Department of International Business Studies Faculty of Commerce and Business Administration The University of Br i t ish Columbia Vancouver, B. C. August 21 , 1974. i i ABSTRACT It is the purpose of this study to investigate the val id i ty of the theory which states that foreign direct investment i s , to a large extent, the result of ol igopol ist ic industry structure and government intervention in a freely competitive market, and as such i t is chiefly defensive invest-ment by firms which match each others' moves. As a f i r s t step of the analysis the ol igopol ist ic investment theory, i t s assumptions and implications are presented. For the purpose of s tat is t ica l investigation information obtained during personal interviews with executives of forty-three internationally operating firms domiciled in seven European countries was used. Entry Concentration Indices by industry measuring degrees of defensive investment behaviour within each of the five industry groups surveyed, were calculated and correlated with variables expressing o l igopol is t ic conditions in markets of products and factors of production. Entry Concentration Indices by country or area, expressing degrees to which a l l industries tended to concentrate their investments in certain countries or areas, and ECIs by industry were correlated with variables expressing home and host country government intervention in the economy, such as investment incentives, discouragement of domestic expansion and measures restr ict ing international trade such as t a r i f f s and other restr ict ive trade pol ic ies. The evidence presented appeared to just i fy at least partial accept-ance of the hypothesis, as the existence of weak positive linkages emerged between ECIs and such variables as degree of product d i f ferent iat ion, market control and particularly level of technological sophistication of the parent firm. i i i A test involving the prof i tab i l i t y of the parent firms and their propensity to react to foreign investment decisions arrived at by their r iva ls tended to point out that firms operating at low or declining domestic profit margins tended to concentrate their foreign investments to a larger extent than the more profitable companies. Alternatives to o l igopol is t ic investment behaviour, such as product diversif icat ion and l icensing, proved to be undesirable courses of action to the ol igopol ist . F inal ly , i t was shown that government incentives granted by the authorities of either the firms' home countries or by those of the prospective host countries proved to be ineffective in their impact upon corporate investment decisions. However penalties or restrictions used by governments appeared to have more pronounced effects upon such decisions. i v TABLE OF CONTENTS PAGE ABSTRACT ' i1 CHAPTER I INTRODUCTION 1 Background 1 Purpose of this Study 1 Statement of the Hypothesis 2 Definitions and Limitations 2 II STUDY PROCEDURE 10 Structure of this Thesis 10 Selection of a Sample 11 How Representative is the Sample 11 Key Industries 13 III THE OLIGOPOLISTIC COMPETITION THEORY OF FOREIGN DIRECT INVESTMENT 15 Assumptions.... 15 Presentation of the Theory 15 Implications 21 IV CORPORATE CHARACTERISTICS AND ENTRY CONCENTRATION BY INDUSTRY 25 Oligopolistic Competition in Factor Markets . . . 25 Size of the Firm 26 Cost and Avai labi l i ty of Capital 29 Level of Technology 33 Calibre of Management 40 Oligopolist ic Conditions in Product Markets . . . 43 Differentiation, Quality of Products 43 Market Control and Entry Concentration 46 CHAPTER PAGE Economies of Scale 49 Prof i tab i l i t y and Entry Concentration 52 Alternatives to Ol igopol ist ic Investment Behaviour 54 Product Diversification 54 Licensing 57 Summary 60 V GOVERNMENT INTERVENTION AND OLIGOPOLISTIC REACTION 65 Actions taken by the Home Country Government... 65 Incentives 68 Discouragement of Domestic Expansion 69 Increased Government Regulation of Business Affairs 70 Actions taken by the Prospective Host Country Authorities 71 Host Government Incentives 71 Import Restrictions 76 Summa ry 81 VI CONCLUSION 85 Summary of Findings 85 Implications for Capital Importing Countries, Canada in Particular 87 From Domestic to Multinational Oligopolies 88 BIBLIOGRAPHY 90 APPENDIX A 95 APPENDIX B 97 v i LIST OF TABLES TABLE PAGE 1- 1 Types of Competition 4 2- 1 Production of Foreign Af f i l ia tes of European-Based Corporation 1972.r 12 4-1 Coefficients of Correlation of IECIs with Total Assets 26 4-2 Coefficients of Correlation of IECIs with Total Employees 29 4-3 Coefficients of Correlation of IECIs with Importance of Lack of Capital 30 4-4 Coefficients of Correlation of ECIs with Importance of Surplus Funds Available 31 4-5 Coefficients of Correlation of IECIs with Importance of Costs of Capital 32 4-6 Coefficients of Correlation of IECIs with R & D Expenditures 34 4-7 Coefficients of Correlation of IECIs with R & D Expenditures 35 4-8 Coefficients of Correlation of IECIs with R & D Expenditures (ranges) 36 4-9 Coefficients of Correlation of IECIs with the Degree to which Concern for Secrecy Inhibits Licensing Arrangements 38 4-10 Coefficients of Correlation of IECIs with the Degree to which Indivisible Technology Inhibits Licensing Arrangements 38 4-11 Coefficients of Correlation of IECIs with Importance of Using Patents 39 4-12 Coefficients of Correlation of IECIs with Importance of Available Management 41 4-13 Coefficients of Correlation of IECIs with Importance of Locally Available Management 42 4-14 Coefficients of Correlation of IECIs and Domestic Production 47 v i i TABLE PAGE 4-15 Coefficients of Correlation of IECIs with Domestic Production 47 4-16 Coefficients of Correlation of IECIs with Domestic Market Shares 48 4-17 Coefficients of Correlation of IECIs with Size of Foreign Subs id iar ies . . . . 50 4-18 Coefficients of Correlation of IECIs with Importance of Raw Material Sources 51 4-19 Coefficients of Correlation of IECIs with Prof i tab i l i t y of Domestic Operations 53 4-20 Coefficients of Correlation of IECIs with Number of Product Lines 56 4- 21 Coefficients of Correlation of IECIs with Lack of Management Favouring Licensing 59 5 - 1 Coefficients of Correlation of CECIs with Importance of Home Government Policies 66 5-2 Coefficients of Correlation of IECIs with Importance of Home Government Policies 67 5-3 Coefficients of Correlation of CECIs with Importance of Host Government Incentives 71 5-4 Coefficients of Correlation of IECIs with Importance of Host Government Incentives 72 5-5 Coefficients of Correlation of CECIs with Importance of Individual Guarantees Received... 73 5-6 Coefficients of Correlation of CECIs with Importance of Special Grants Received 74 5-7 Coefficients of Correlation of IECIs with Importance of Market Protection 77 5-8 Coefficients of Correlation of IECIs with Importance of Tariffs and Quotas 77 5-9 Coefficients of Correlation of IECIs with Individual Tariff Rates 79 B-l Example of Construction of Entry Concentration Indices (Chemical and Pharmaceutical Industry). 99 B-2 Entry Concentration Indices, (by Industry) 100 B-3 Entry Concentration Indices (by Country or Area) 100 CHAPTER ONE 1 I N T R O D U C T I O N Background This study is the result of extensive travels throughout Europe during which executives of major internationally active corporations based in seven countries were personally interviewed. The information obtained was extensive and highly valuable, and this writer i s grateful for the cooperation and friendly welcome he received. Purpose of this Study Extensive research has been conducted on various aspects of the operations of multinational corporations, particularly those based in the United States. Various hypotheses and theories explaining the underlying determinants of foreign direct investments have been presented. These are based upon certain assumptions about the behaviour and motivations of private investors, and the manner in which they arrive at their decisions to undertake such investments. It could be of particular interest to industry and governments of capital importing countries, such as Canada, to recognize the determinants and motivations of foreign direct investment in order to influence the investment decision processes of large and internationally powerful firms. Despite nat ional ist ic trends and policies that have developed in Canada during recent years, this country w i l l , for the foreseeable future, s t i l l depend on foreign capital for the development of her industry, particularly the manufacturing sector. Since i t may be desirable to stablize or to reduce the relative dependence on U. S. direct investment, access to European and Japanese capital would present a possible alternative.^ 2 It is the purpose of this study to investigate the proposition that foreign direct investment i s , to a large extent, the result of under-lying o l igopol is t ic conditions which interfere with or influence the operation of the market, and which thus create the climate for direct investment by industrial enterprises. Statement of the Hypothesis A basic hypothesis has been formulated which w i l l be tested as this study progresses. Foreign direct investment is not necessarily the result of purely economic and rational considerations, as implied by the c lassic capital -f low and general investment theories. The capital -f low theory has i ts merits when relat ively short-term portfolio investments are to be explained; however, i t proves to be somewhat unsatisfactory, when i ts basic features are applied to investments in plant and equipment abroad. Foreign direct investment can be explained more effectively by the theory of industrial organization than through the theory 2 of international capital movements. In a world of perfect competition for products and factors of production, foreign direct investment cannot ex ist ; such conditions would give domestic firms an advantage over foreign enterprises in the proximity of their operations to their decision making centres, so that no foreign 3 subsidiary could survive. In order for foreign direct investment to come into existence there must be some imperfection in the input and/or output markets, or there must exist governmental interference with the competitive process. Thus foreign investment i s , to a large extent, the result of ol igopol ist ic or monopolistic pressures in the market place. Foreign investors are largely 3 oligopolists responding to ol igopol ist ic investment incentives, and they rival each other in entering individual foreign markets. It is therefore hypothesized that ol igopolist ic industry characterisit ics and governmental interference with the operation of the market exert direct and prime influences upon corporate investment behaviour. It is further hypothesized that, because of ol igopol ist ic conditions, foreign investments tend to be 4 bunched during certain time periods. Thus Entry Concentration should be a f a i r l y good measure of the degree of o l igopol ist ic competition that existed among potential foreign investors at the time of entry. Definitions and Limitations Definitions 1. 01igopoly For the purpose of this study the term Oligopolistic Competition is defined as the type of market structure that exists when few producers dominate the markets for their products. Oligopoly usually exists in two types of industry structures. An oligopolist may be one of a few sel lers producing v i r tual ly identical products, as is the case in most of the industries producing basic commodities such as the metals, o i l and forest products industries. Thus this type of oligopoly usually consists of a few large corporations producing and sel l ing homogeneous products. A second kind of oligopoly is typif ied by the situation where there are a few sel lers of differentiated products. This differentiation may be on the basis of appearance, qual i ty , performance or other features usually emphasized by advertising, as i t is the case among producers of automobiles, chemicals, electr ical products, machinery and other goods that are similarly differentiated. Table 1-1 i l lustrates the various kinds of industry structures. Table 1-1 4 Most industries ore imperfectly competitive—c blend of monopoly oml competition: TYPES OF COMPETITION KIND OF COMPETITION NUMBER OF PRODUCERS AND DEGREE OF PRODUCT DIFFERENTIATION PART OF ECONOMY WHERE PREVALENT DEGREE OF CONTROL OVER PRICE METHODS OF MARKETING Perfect competition M a n y producers; identical products A few agricultural industries N o n e M a r k e t exchange or auction Imperfect competit ion: / M a n y differentiated sellers O l i g o p o l y M a n y producers; many real or fancied differences i n product Few producers; little or no difference in product Few producers; some differentiation of products Toothpaste, retail trade; conglomerates Steel, a luminum, lumber, pulp Autos , machinery, wallboards -Some A d v e r t i s i n g and quality r iva l ry ; administered prices Complete monopoly • Single producer; single product without close substitutes A few utilities Considerable Promotional and " i n s t i t u t i o n a l " public-relations advertising SOURCE: Paul A. Samuel son and Anthony Scott, Economics, Third Canadian Edition McGraw-Hill, Toronto, 1971. 5 There is market interdependence among competitive policies of these few producers, such that under ol igopol ist ic conditions sellers take into account not only the effect of their actions on the entire market; they also calculate the effect of their decisions on one another. Thus oligopoly is defined in terms of both, market structure and the behaviour of the 5 individual firm. 2. Governmental Interference For the purpose of this study governmental interference is defined as any action on the part of government that aims at rest r ic t ing , encourag-ing or s ignif icantly influencing the operation of a freely competitive market. This definition applies to prospective host country governments, which, either through incentives or penalties, attempt to attract foreign investors, and to the firms' home country governments which through various policies or lack thereof make i t attractive to invest abroad. 3. Foreign Direct Investment This term includes investments in plant and equipment abroad or significant share interests in foreign corporations. "Investments" in marketing organizations abroad are not considered to be foreign investments for the purpose of this analysis, as they are merely intended to f a c i l i t a t e the individual firm's export business, and as such they are part of decision making which is primarily oriented towards domestic operations. Foreign investments of banks and other financial institutions were excluded, as they would bias the results of this study. Banks, trust companies, brokerage houses and similar institutions tend to invest abroad i n i t i a l l y in order to provide their domestic customers with greater services and assistance. Banks establish foreign a f f i l i a tes ch ief l y , because their domestic customers 6 have become actively involved in international trade, and as a result of this they demand ef f ic ient financial services. Rather than yielding this business sector to foreign inst i tut ions, the firms' banks establish foreign branches or representative offices which could f a c i l i t a t e international transactions. At a later stage those foreign branches tend to become involved in multilateral rather than merely bilateral financial services. Another motivation for foreign investments by banks is the attempt to tap untaxed and/or undeclared funds of customers and to invest these monies in tax havens. "One of our f i r s t foreign investments was the establishment of a branch in Beirut early in this century. We wanted to tap the large pool of funds (believed to be as large as one^quarter of the entire wealth of our country) that people had intention-a l l y fa i led to declare for tax purposes. Tax dodgers essentially have two choices: either they invest these funds in gold or hold them in non-interest bearing cash, or they transfer such funds abroad where they can safely be invested, preferably free of taxes, and where they escape the scrutiny of the authorities of the home country. Our branch in Beirut was an ideal vehicle for this purpose at that time; i t has, however, over the years, developed a much broader operational base than i t had during the early years of i t s operation."6 In a similar manner brokerage houses establish offices abroad chiefly to satisfy the demands of their domestic customers for foreign securit ies, or of a potential demand for domestic securities by foreigners; another purpose may be to keep abreast with developments in the international securities markets. Portfolio investments abroad by investment companies or individuals are not included in the definit ion of foreign investment here. Although such portfolios consist of short-term and long-term securit ies, investors do not necessarily hold those securities to maturity. As these investment instruments can, in most cases, be easily marketed, investors tend to buy and sell them, when s l ight changes in financial market conditions occur, such as relative interest rates and foreign exchange rates. 7 Investments in plant and equipment, however, represent much more definite and lasting commitments on the part of the investor, and only under highly adverse conditions experienced over fa i r l y long periods w i l l such investments be liquidated. Thus while portfolio investments wi l l be made or disposed of, depending upon financial market conditions at any given time, investments in plant and equipment, once made, w i l l usually be maintained regardless of short-term fluctuations of the business cycle. 4. Subsidiari es The terms Subsidiary and A f f i l i a t e are regarded as being synonymous for the purpose of this study. 5. Entry Concentration Indices An Entry Concentration Index (ECI) is a quantitative measure of the extent of o l igopol ist ic reaction within a given industry (Entry Concentration Index by Industry) and is based upon the notion that, within a given time period, the number of foreign subsidiaries established in an industry is an indication of the degree of o l igopol ist ic reaction within that industry. ECIs are calculated for 3-year, 5-year, 7-year and 10-year time spans over the post-World War II period (1945-1975); average ECIs are also computed. Overall Entry Concentration Indices (ECIs by country) simply measure the percentage of subsidiaries established in certain countries or regions by firms of a l l industries during the above mentioned time spans. ^  A more detailed description of the method of calculating ECIs is presented in Appendix B. 8 Limitations Although f ifty-two European firms participated in this project, the information used in this study covers only forty-three corporations in f ive industries (metals, machinery, automobiles, e lectr ical equipment and chemicals), headquartered in seven continental European countries (Austria, Belgium, France, Germany, Netherlands, Sweden and Switzerland). Five of the firms that were eliminated f e l l into the category "miscellaneous manufacturing", and their data were not very useful for the purpose of this analysis which investigates specific industries. Of the remaining four firms, three were members of the food industry, but their data were not adequate for the purpose of calculating ECIs; the remaining firm was a public u t i l i t y firm and the only member of i t s industrial group. The Entry Concentration Indices calculated only cover the post-World War II period. Substantial foreign investments were made during the pre-World War I era, but, although this period may be relevant for historical analyses, i t is not very useful for the purpose of obtaining meaningful results and for establishing policy guidelines for the future. Economic and industrial behaviour, variables and policies have changed substantially since the close of the F i rst World War to the extent that useful comparisons are d i f f i c u l t to establish. Similarly information covering the inter-war period, which was characterized by economic and po l i t i ca l isolat ion, and by the Great Depression, wo ill! d not be l i ke l y to provide today's policy makers with relevant guidelines. Financial data for the f i sca l year 1972 were used. These data were translated into Canadian dollars at exchange rates prevailing on December 31, 1972. Because confidential treatment of the information obtained from the participating firms was exp l ic i t l y promised to their executives, i t is not possible to reveal the names of the individual companies and their executives, or individual company data. Thus the information presented here has been aggregated into either industry or country groupings. Since already a large proportion of Canadian industry i s controlled by United States corporations, many Canadians feel that this degree of control must not increase further. A rather common and just i f ied complaint is that v i ta l economic decisions affecting Canada are made by corporations based in the United States, and this could even result in U. S. government pol ic ies, for example the Trading-with-the-Enemy Act, being indirectly imposed on firms operating in Canada. p Stephen P. Hymer: "The International Operations of National Firms,"quoted i n : Kindleberger, American Business Abroad, pp. 11 - 12. Yale University Press, New Haven, 1969. 3 Kindleberger, in op_. c i t . p. 13. ^As defined on p. 7 below. 5 Frederick T. Knickerbocker: Oligopolistic Reaction and Multinational Enterprise, "p- 4. Harvard University, Boston, 1973. An executive of a major European bank made these comments during a personal interview. Knickerbocker: in op_. c i t . pp. 34 - 40. 10 CHAPTER TWO S T U D Y P R O C E D U R E Structure of this Thesis Chapter Three of this thesis presents the main features of the ol igopol ist ic competition theory of foreign direct investment, i t s assumptions and implications. In Chapters Four and Five the appl icabi l i ty of this theory to the foreign investment decision processes of European firms is tested. Industry Entry Concentration Indices are calculated and correlated with variables representing corporate characteristics such as ol igopol ist ic markets of products and factors of production. Alternatives to o l igopol ist ic investment behaviour, such as product diversif icat ion and licensing are also br ief ly explored. Entry Concentration Indices, by countries or areas, are correlated with variables depicting behaviour patterns of host and home country authorities. The purpose of these analyses is to establish a model which may assist in explaining foreign investment behaviour. Chapter Six summarizes the findings of this study and presents possible implications that may be useful for potential foreign investors as well as for host country governments and the formation of their development pol ic ies. F inal ly , detailed procedural information is supplied in the appendices to this thesis. Selection of a Sample 11 Internationally active firms headquartered in seven continental European countries were contacted. Fifty-two companies participated in this study, but, as explained in the preceding chapter, information obtained from only forty-three corporations in f ive industries proved to be useful for the purpose of testing the hypothesis.1 In order to qualify for the purpose of this study the firms had to meet'the following c r i t e r i a : a) The individual firm had to be controlled by interests in the country of domicile; in most cases this meant that more than f i f t y percent of the firm's outstanding common share equity had to be held by residents of the parent country. This condition was to be met in order to avoid biases of the resul ts which could arise from ext rater r i tor ia l i ty . b) The individual firm had to maintain physical assets (manufacturing f a c i l i t i e s ) , or at least substantial minority interests outside the parent country. Al l of the respondent firms satisf ied both of these conditions. How Representative i s the Sample Combined production of the European firms' foreign subsidiaries approximates $19,500 mi l l ion . This figure represents approximately twenty-seven percent of total foreign production of a l l firms domiciled in the seven parent countries of the sample, which amounts to $71,300 mi l l ion . When figures of other countries are included in the calculation, the sample would represent twenty-four percent of foreign production of a l l European countries excluding the United Kingdom. 12 Table 2-1 displays the relative weights of the individual country subsamples. Since the United Nations have only published 1971 data and five-year growth rates, data for 1972 was estimated for the purpose of comparison by revising the given 1971 data upward with the use of these growth rates. Table 2-1 Production of Foreign Af f i l i a tes of European-Based Corporations 1972 (in $ mil lions) Parent Country Total* Samp! e Percent of Austria 207 155 75% Belgium, Netherlands 14,200 4,896 34% France 19,706 1,439 7% Germany 15,686 7,727 49% Sweden 7,218 1 ,246 18% Switzerland 14,500 3,943 27% Al l Participating Countries 71,517 19,406 27% Al l European Countries ** 79,700 19,406 24% * Estimated ** Excluding The United Kingdom, Iceland and The Republic of Ireland. SOURCE: UNITED NATIONS, Multinational Corporations in World Development New York, 1973. Due to a lack of adequate data i t was not possible to arrive at a meaningful figure that could give an indication of the sample's total stock of foreign direct investment in relation to the total book value of European foreign investment. However, percentages not dissimilar to those presented above could be expected. This can be explained through the technique used for estimating foreign production in the United Nations publication. F i rst the U. N. estimated total book value of the stock of European foreign investment. This figure was then used as a basis for estimating the value of total foreign production by simply multiplying the individual book values by the 13 factor 2 and accepting the results as being reasonably close estimates for revenues derived from foreign operations. Thus the United Nations assume a stat ic relationship between assets and revenues of foreign a f f i l i a t e s of European corporations. Key Industries In most cases, the subsamples ref lect f a i r l y the industrial structures of the individual countries. The major European automobile manufacturers, chemical and metal corporations, e lectr ical firms and producers of machinery are represented by the sample. However, important firms or industrial sectors of some countries are not represented, either because there are no major foreign investors 2 in those sectors, or because some of the firms, which were approached, 3 chose not to participate in this project. Italian firms were not covered because of the time and financial constraints which arose due to the energy c r i s i s in Europe at the time of the study. 4 Thus some important firms in the automobile, chemical and steel industries of that country were not included in the sample. Despite these omissions, the major multinational industries of the seven countries were surveyed. The relatively small Austrian subsample was dominated by metal producers, and the Belgium and Dutch subsamples included chemical, food and metal companies. The small French sample was a wide cross-section of French industry, as i t represented a variety of different industries, such as automobiles, chemicals, construction materials, cosmetics and metals. German firms were the largest contingent surveyed which included automobile companies, chemical corporations, metals and electr ical equipment producers, and a fashion f i rm. 14 Final ly the f a i r l y large Swiss subsample was dominated by electr ical equipment and machinery manufacturers, but i t also included firms in the chemical industry which is an important sector of the Swiss economy. Firms in the leather and metal industries of Switzerland were also surveyed. As wi l l be further explained in Chapter Three below, most of these firms are ol igopolists of varying degrees, and the information obtained during the survey should provide useful data for the purpose of testing the ol igopol ist ic competition theory. A more detailed description of the sample selection and data gathering methods is presented in Appendix A. Some of these industries are the Swiss watch manufacturers, the Austrian text i le producers, the Belgian and German photographic industries, German shipbuilding companies, and the Swedish pulp and paper and shipbuilding industries. Some of these companies were Dutch electr ical and a r t i f i c i a l f ibres producers, Swedish precision instruments and machinery manufacturers, and several important German firms producing electr ical equipment, machinery, beverages and precision instruments. Unfortunately European o i l companies that were approached - - some of these were state-owned enterprises - - were unwilling to assist in this study. This situation was particularly acute during the months of November and December of 1973. CHAPTER THREE 15 THE OLIGOPOLISTIC COMPETITION THEORY OF FOREIGN DIRECT INVESTMENT1 Assumptions The theory which states that foreign direct investment is mainly spurred by o l igopol ist ic conditions in the market place, is based on a number of assumptions: 1. Markets for most products and factors of production are not perfectly competitive; 2. In most industries there are a few dominating sel lers r i va l l ing each other; 3. Products of these industries are either close substitutes for each other, or they are differentiated by quality, advertising t radi t ion, status or by some other methods. 4. Firms in these industries are advanced with respect to technology, production and marketing techniques, and with respect to the calibre of management, so that they have an advantage over local producers in other countries. 5. Capital and money markets are not' perfectly competitive and e f f i c ient , and thus not a l l firms enjoy equally easy access to international sources of capi ta l . 6. There are information gaps preventing perfect dissemin-ation of knowledge, and thus not a l l firms enjoy equal access to sources of information. 7. Governments do not take a neutral stand on economic matters; they try to impose their philosophies on their economies thus interfering with the operation of a freely competitive and eff ic ient market. Presentation of the Theory According to Caves foreign direct investment can be better explained through an examination of competitive characteristics in the markets of the home and host countries than through the theory of inter -2 national trade and capital movements. 16 The foreign firm enjoys some advantages over local enterprises in running i t s operations. Thus there must be come imperfection in the markets for goods and factors of production, because under a system of perfect competition the domestic firm would have an advantage over the foreign firm in the proximity of i t s operations to i ts decision-making centre, so that no foreign a f f i l i a t e could be sustained. The ol igopol ist ic advantages which induce foreign direct investment can be grouped under four headings: 1. Departures from perfect competition in product markets, 2. Departures from perfect competition in markets of factors of production, 3. Internal and external economies of scale, and 4. Government incentives or penalties affecting the allocation of resources. Product Markets The prevalence of foreign investments by producers of branded goods, such as automobiles, machinery and pharmaceuticals, suggests that product differentiation is associated with direct investment. Foreign investment does not normally occur in highly standardized goods produced by competitive industries such as texti les and clothing. In concentrated industries, such as automobiles, electr ical equipment, chemicals and machinery, there also occurs a great deal of cross-investment with, for example, U. S. firms investing in Europe, and their European competitors operating in the United States. Marketing s k i l l s which brought some early U. S. investments to Europe are closely associated with product differentiation through adver-t i s ing and with administered pricing. In concentrated industries there is also pressure on each firm to develop a position in each potentially 17 important market - - regardless of the rate of profit obtainable in absolute terms - - in order to prevent any of i ts few competitors from obtaining a substantial advantage. This causes r iva l ry among oligopolists resulting in defensive investments abroad which are expressed in the bunching of entries into individual markets during short time spans. Factor Markets Superiority in the calibre of management may be the advantage that many companies bring to their foreign investments. Management of those firms is usually highly eff ic ient with respect to cost control and marketing techniques, and i t is highly sophisticated in evaluating individual prospects and overall corporate performance. Oligopolists are usually centralized in their decision making; their staff are, however, highly knowledgeable about the international scene and they are suff ic ient ly f lex ib le in adapting to changes quickly. Large foreign corporations are particularly advantaged vis a vis smaller local firms due to their control over patents, manufacturing technology and other industrial secrets. In the absence of f inancial and other constraints the firm wi l l most' l ikely establish production f a c i l i t i e s abroad, once individual markets have been developed suff ic ient ly to jus t i f y local production, and these markets cannot continue to be properly serviced by exporting. Generally under such conditions, ol igopolists prefer direct investment over l icensing. License fees do not fu l l y compensate the firm for the value inherent in technical, sc ient i f ic and managerial superiority, and, since licensing arrangements are generally temporary in scope, the 18 firm can protect i t s know-how by making use of i ts manufacturing secrets through the establishment of i t s own production units abroad. Licenses are, however, less costly in terms of cap i ta l , time, energy and r isks incurred, and they may be a short-term 'holding' expedient or exploratory mechanism. A further factor for which the market is imperfect is capital . Occasionally in industries that need large sums of capital for their operations, foreign firms wi l l have an advantage over the often smaller domestic companies because of their superior credit ratings and their ab i l i t y to raise capital internationally. Even during periods of ' t ight ' money, oligopolists do not face major d i f f i cu l t ies in raising funds while smaller local producers wi l l be unable to do so. Many local enterprises cannot command the large sums needed for capital - intensive investments, as, for example, in the extractive industries, and in the steel and auto-mobile sectors. Economies of Scale The advantages of large-scale production internal to the firm are self-evident, although there are some counterbalancing diseconomies of scale in administering such large production units, setting l imits to 3 the optimum scale of operations. Internal economies of scale - - and monopoly - - account mainly for horizontal integration. In some situations, where products are bulky, inventories are expensive and coordination of decisions is required at various stages of the production process, the firm may be better equipped to organize production than leaving such decisions to many producers in an international competitive market. 19 External economies of scale usually lead to vertical integration. Both, backyard and forward integration can produce greater economies than dealing with suppliers and customers at arms length. Large steel companies have interests in coal and iron ore mines, and they are also engaged in secondary manufacture, such as tools , springs, axles and casings. Aluminum producers have control over the entire production process from bauxite mining via ingot production to the end product such as aluminum f o i l , siding and household ar t ic les . The large international o i l companies have been prime examples of firms being completely vert ical ly integrated, as they control a l l of the stages of the business from extracting the crude to marketing the refined products at the retai l leve l , or converting the crude in their petrochemical divisions into chemicals, plastics and other products sold to the end user. However, similar to developments in the aluminum industry, the competitive structure of the international o i l industry is undergoing significant changes due to government interference, particularly in the host countries. 4 Authorities in the o i l producing nations have displayed greater self-conscience and nationalism during recent years, and they have adopted 5 measures to ensure greater control over their natural resource. In most o i l consuming countries, the multinational o i l companies are being subjected to increasing public scrutiny. In some countries, particularly the United Sates and Germany, allegations have been made accusing the petroleum companies of aggravating the energy shortages that arose during the recent energy c r i s i s by withholding supply in order to obtain higher prices. Regardless of whether or not such accusations can be ver i f ied , the operations of international o i l companies wi l l probably be subjected to greater degrees of governmental control in the future. 20 Vertical integration does not always necessarily occur to produce significant economic advantages such as lower prices or costs. Firms may merely integrate ver t i ca l l y , because they want to ensure continuous and undisturbed supply of the raw materials extracted by their a f f i l i a t e s and transported on vessels owned by a shipping subsidiary established expressly for this purpose.^ Government The role of the host government does not affect the choice between local and foreign f irms, except when i t prohibits or restr icts foreign investment. I f , however, the choice is between importing of the products and local manufacture, then government policies affect foreign direct investment. Such policies may be in the area of direct trade regulations, such as t a r i f f s , quotas, local-content rules or complete prohibition of imports. There are also various f iscal and financial means by which the prospective host country can attract investors. Favourable taxation policies can be established granting tax deferments, lower tax rates, special write-offs and depreciation schedules; outright grants or low-cost loans may be offered to the prospective investor, or the host country government may seemingly lessen the firm's r isk of investing in that country by giving guarantees and assurances with respect to the repatriation of capital and loan funds as well as profits and interest. In some cases, either arising from i ts balance-of-payments s i tuat ion, showing considerable accumulation of foreign currency reserves, or because of foreign aid pol ic ies , the home country government may provide o incentives to invest abroad. 21 Certain of the home government's domestic policies or the general po l i t i ca l and economic climate at home may force the firm to shift some of 9 new production capacity abroad. International po l i t i ca l developments may also affect a f irm's decision to invest abroad.1^ Imp!ications If the foreign corporation enjoys some advantages over local enterprises, i t would normally not be inclined to share i t s equity in the foreign venture with local interests, because this would mean giving up a portion of this scarce advantage. Most firms do in fact maintain wholly-owned subsidiaries abroad, although a trend toward less than one hundred percent ownership appears to emerge. Some firms feel that for po l i t ica l and economic reasons i t may be prudent to give up some minority portion of the advantage over which they have control; these firms do, however, in most cases insist upon owning the controll ing interest in the venture. In situations where partners are f a i r l y equal in the advantages contro l led, 1 1 f i f t y - f i f t y jo int ventures or even minority participation 12 with domestic, powerful l oca l , or third country firms may be established. Since most foreign investors are f a i r l y large ol igopol ist ic enterprises, small firms would have d i f f i c u l t i e s entering into foreign countries because of a lack of the advantages that large firms are endowed with. There are, however, exceptions; sometimes small f i rms, particularly inventor-owned enterprises manufacturing unique or specialty products, are able to operate in foreign markets and to succeed due to their technological advantage alone. Generally, however, small firms, because of their lack of expertise and probably due to exaggerated risk assessments of foreign investment opportunities, tend to be unable or unwilling to even consider 13 foreign investment. 22 A further implication of the ol igopol ist ic investment theory was 14 pointed out by Kindleberger, who suggested that ol igopolists maintainirig large-scale and eff ic ient operations actually widen rather than rest r ic t competition; their prices and costs are lower than those of small and ineff ic ient local producers which are often operating in a protected environment. An exception to this implication may, however, be the infant-industry argument which contends that small local producers must be protected during the early stages of their existence in order to provide them with a chance to develop into eff ic ient and internationally competitive enterprises. F inal ly , there are some amplications for prospective host countries. If the individual country represents a sizeable and important market for any f irm, i t s government can, through incentives and/or penalties, force the firm to substitute local manufacture for exports. It is unlikely that the firm wi l l simply abandon the market position i t already has established in that country through exporting, because the local government through various f i s c a l , trade or financial measures makes i t more d i f f i c u l t for the 15 firm to service that market through exports. If the individual market is sufficently important to the foreign f i rm, and i f po l i t ica l r isks are not overly high due to relative s tab i l i t y in government, the host country government could be in a good position to demand that local interests be given the opportunity to acquire at least some equity interest in the a f f i l i a t e to be established. Such a measure would at least ease some of the negative aspects of foreign ownership.^ Kindleberger, in op_. c i t . pp. 1-36. Richard E. Caves, "International Corporations: The Industrial Economies of Foreign Investment" reprinted in : John Dunning (ed.) International Investment, Penguin, Harmondsworth (England), 1972. Caves, in op_. c i t . pp. 265-266. 23 3 Kind!eberger, in op_. c i t . p. 19. 4 particularly Algeria, Iran, Iraq, Libya, Saudi Arabia and Venezuel a. 5 This was expressed by measures of expropriation, increased royalties and export taxes, and reduced production quotas. The Arabian American Oil Company (ARAMCO) is a str iking example of governmental interference in corporate af fa i rs culminating in the recent announcement of the government of Saudi Arabia that i t intends to acquire control of this the world's largest crude o i l produce. Such suspicions were raised by the media, during Senate hearings in Washington, D.C., and during parliamentary debates in the Bundestag in Bonn. ^European and Japanese steel and non-ferrous metals companies are prime examples for this type of investment behaviour. o Some of these measures wi l l be discussed in greater detail in Chapter Five below. g See footnote No. 8 above. ^Several smaller, privately-owned European firms invested in North and South America and South Africa during the immediate post-war period, because they feared that eventually communism may spread into Western Europe threatening their wealth. 1 Tor-example two chemical companies of similar size and technological sophistication. 12 For an in depth discussion see: J.W.C. Tomlinson, The Joint Venture Process in International Business: India and Pakistan. M.I.T. Press, Cambridge (Mass.), 1970. 13 Planungsgruppe Ritter , Transfer von Technologie in Entwicklungslaender Koenigstein, Taunus (Germany), 1973. 14 Kind! eberger, in op_. c i t . pp. 31-33. 24 Brazil appears to have been highly successful in attracting foreign investors which may have been partly due to that country's government having imposed import restr ict ions, local-content rules and other measures inhibiting the inflow of foreign products, coupled with generous export incentives. Melvi l le Watkins, Foreign Ownership and the Structure of Canadian  Industry. Information Canada, Ottawa, 1968. CHAPTER FOUR 25 CORPORATE CHARACTERISTICS AND ENTRY CONCENTRATION BY INDUSTRY This Chapter investigates and tests possible relationships between various corporate and market characterist ics, indicating ol igopol ist ic conditions, and ol igopol ist ic foreign investment behaviour expressed by Entry Concentration Indices. Thus this and the following chapter attempt to prove the va l id i ty of the hypothesis which was formed at the outset of this thesis. Non-parametric rank order correlation techniques were used for the purpose of testing the degrees of association between the variables. This was necessary, because the data are not continuous and thus do not represent interval scales. The classical Pearson correlation method requires that assumptions such as normality of parent distributions and homogeneity of variances be made. Hov/ever, where the data represent ranks or qualit ies rather than real numerical properties, rank order correlation conveys more rel iable results.^ Spearman's and Kendall's techniques of measuring degrees of l inear association were used. Although both measures, Spearman's r and Kendall's tau, are good estimates of the degree of association between variables when small samples are tested, Kendall's tau is considered to be more re l iable in 2 large-sample situations. Oligopolistic Conditions in Factor Markets 3 According to Caves and Kindleberger imperfect competition in markets for the factors of production, particularly cap i ta l , technology and management, is an important motivation for firms to invest abroad because of the advantage they enjoy over the generally smaller and less powerful local enterprises. This section attempts to relate Entry Concentration, 26 a measure of o l igopol is t ic investment behaviour, to degrees of oligopoly in the firms' input markets. Size of the Firm It was assumed that size in i t se l f represents relative degrees of oligopoly. Thus i t was postulated that, as the firm increases in s ize, i t s influence over a limited domestic market increases, and i t thus reaches the status of an ol igopolist . A cut-off value cannot readily be found, because a certain size that would constitute oligopoly in one industry could mean near perfect competition in large sectors. It can, however, be safely assumed that firms whose assets exceed $100 mil l ion and firms employing in excess of 25,000 people are oligopolists or monopolists in some cases. Size is measured in terms of total assets and total number of employees; these figures were broken down into domestic and international operations. The results of the correlations of financial data with Entry Concentration Indices are presented in Table 4-1: TABLE 4-1 Coefficients of Correlation of IECIs* with Total Assets Total Domestic Assets (n=30) Total Assets Abroad (n=24)  Spearman's r Kendall's tau" Spearman's r Kendall's tau 3-year IECI -0.2082(0.135)* -0.1863(0.074) -0.0329(0.439) -0.0314(0.415) 5-year IECI -0.1852(0.164) -0.1680(0.096) -0.0440(0.419) -0.0396(0.393) 7-year IECI -0.1852(0.164) -0.1680(0.096) -0.0440(0.419) -0.0396(0.393) 10-year IECI -0.0489(0.399) -0.0465(0.359) -0.0573(0.395) -0.0515(0.362) Average IECI -0.2626(0.080) -0.2338(0.035) 0.0936(0.332) -0.0768(0.299) *IECI stands for 'Industry Entry Concentration Index.' **In this and a l l of the following stat is t ica l tables, the result of the normal one-tailed test for s tat is t ica l significance is reported in parentheses after each coefficient. 27 The correlation results presented above appear to contradict the hypothesis that the larger firms display o l igopol ist ic investment behaviour. The negative relationship between IECIs and total domestic assets would rather suggest that the larger firms do not necessarily undertake defensive investments to any great extent. These correlation results should, however, be put into proper perspective by relating them to some of the sample's characteristics. F i r s t l y , information pertaining to asset figures covers only thir ty situations in the case of domestic assets, and twenty-four firms reported foreign assets, while information on thirteen and nineteen cases respectively was missing. Secondly, a large majority of the respondent 4 firms actually had assets in excess of $100 mil l ion which would suggest that the somewhat smaller firms, which are s t i l l considered to be ol igopolists in terms of s ize, display more defensive investment behaviour. Chemical firms account for a significant portion of the largest firms contained in the sample, and IECI values for the chemical industry are somewhat lower 5 than those of other industry groups. Size was also measured in terms of number of people employed by the f irm, on the premise that the greater the number of people drawn from a limited labour market and employed by the f i rm, the greater the firm's degree of oligopoly. Since the pool of available labour at home is l imi ted , firms already employing large numbers of people are unable to expand their domestic labour forces s igni f icant ly , and they are thus forced to export large amounts of capital to countries whose labour supply is rather abundant. The German and Swiss industries are good examples of this situation. Persistent domestic labour shortages forced German firms to begin importing foreign workers during the late 1950 1 s in order to f i l l vacant jobs. By the early 1970's the foreign labour population in Germany had approached three mi l l i on , resulting in social problems. Prejudices and suspicions toward the foreigners have developed among Germans, and foreign workers had 28 d i f f i c u l t i e s in integrating into German society resulting in various ethnic ghettos. An already existing housing shortage, rooted in the destruction during World War II and the population shifts during the immediate post-war period, was further aggravated by the influx of foreigners into Germany. Recently po l i t ica l unrest has been growing among foreign workers who demand more rights in union, corporate and community a f fa i rs . The dissat isf ied foreign worker has recently become a fe r t i l e recruiting ground for the German Communist Party which has had d i f f i cu l t ies in gaining acceptance by the German working class.^ In Switzerland public sentiments against further growth of the foreign labour force ran high forcing the Swiss government to adopt measures rest r ic t ing , immigration, as decri bed in Chapter Five below. German and Swiss firms have had to respond quickly by establishing manufacturing operations abroad.'' Oligopolists wbuld then tend to r ival each other in investing in those capital-poor but labour-abundant regions. This is particularly evident among those German, Dutch and Swiss firms which are unable to expand their domestic production units mainly due to the general unavailabil ity of i u 8 1 abour. The results of the correlations between IECIs and employment data are presented in Table 4-2. 29 TABLE 4-2 Coefficients of Correlation of IECIs with Total Employees Domestic Employees (n=41) Employees Abroad (n=41 Spearman's r Kendall's tau 3-year IECI 5-year IECI 7-year IECI 10-year IECI Average IECI 0.0005(0.499) 0.0535(0.370) 0.0535(0.370) 0.2071(0.097) -0.0474(0.384) -0.0081(0.470) 0.0441(0.342) 0.0441(0.342) 0.1841(0.045) -0.0467(0.333) Spearman's r -0.0034(0.491 ) 0.0336(0.417) 0.0336(0.417) 0.1352(0.200) 0.1156(0.236) Kendall's tau -0.0033(0.488) 0.0282(0.398) 0.0282(0.398) 0.1229(0.129) 0.0888(0.207) The above results were rather insignificant and the correlation coefficients had rather low values. However, these values were mainly posit ive, and they thus indicate at least the direction of the association which would tend to lend some slight support to the hypothesis, particularly when ten-year IECIs are taken into consideration. Because the l inear correlation results were rather weak and insignif icant , the assumption of l inear i ty was dropped, and tests for non-linear associations were conducted in the form of crosstabulations. These tests basically confirmed the correlation results in that significant non-linear relationships could not be established. The CHI-squared values these tests produced were insignif icant , they consistently and considerably exceeded the five percent cut-off level of s tat is t ica l significance. Cost and Avai labi l i ty of Capital Entry Concentration Indices were also correlated with the more qualitative results pertaining to the individual respondents' assessments of the importance of the ava i lab i l i t y and cost of capital to the foreign investment decision. 30 The extent to which lack of capital had an important restraining or preventitive influence on the sample's foreign investment decision, and to what degree these data are associated with the levels of entry concentration is shown by Table 4-3. TABLE 4-3 Coefficients of Correlation of IECIs with Importance of Lack of Capital  Importance of Lack of Capital to the Foreign Investment Decision (n=42)  Spearman's r Kendal 1's tau 3-year IECI -0.1245(0.216) -0.1066(0.160) 5-year IECI -0.1210(0.223) -0.1084(0.156) 7-year IECI -0.1210(0.223) -0.1084(0.156) 10-year IECI -0.0727(0.324) -0.0674(0.265) Average IECI -0.2117(0.089) -0.1818(0.045) Although these are not highly s ignif icant , probably due to the f a i r l y small sample s ize, they did, however, consistently indicate at least the direction of the association. Thus, the results , however weak, would tend to suggest that generally firms amply endowed with capital resources or with the capacity of raising additional capital tend to concentrate their entries into foreign markets. The rather low values of the correlation coefficients in this test could, to some extent, be due to the composition of the sample. Almost one-half of the sample, particularly firms in Austria, Germany and to a lesser degree in Belgium and France, had "suffered from repeated shortages of capital after World War I and particularly after World War II when their 9 •-' domestic operations were extensively damaged or destroyed entirely. Whatever small amounts of capital were available to these firms had to be used for 31 reconstruction and re-establishment of their previous domestic market positions. Thus the unique experiences of these firms may have somewhat biased the results of this test. The importance of the ava i lab i l i t y of capital in relationship to entry concentration was further tested through the use of decision data covering some 363 individual subsidiaries. European corporate executives provided information on the level of importance to individual investment decisions attached to the ava i lab i l i t y of surplus funds in the parent firm for investment domestically or elsewhere. The correlation results are displayed in Table 4-4. TABLE 4-4 Coefficients of Correlation of ECIs with Importance of Surplus Funds Available Importance of Surplus Funds Available (n=363)  Spearman's r Kendall 's tau 3-year ECI -0.1161(0.013) -0.0835(0.009) 5-year ECI -0.0386(0.232) -0.0422(0.115) 7-year ECI 0.0113(0.415) '0.0064(0.428) 10-year ECI 0.0334(0.263) 0.0226(0.260) Average ECI 0.0113(0.415) 0.0064(0.428) Obviously the results of the above test were such that no re lat ion-ship in either direction could be established. This would suggest that the ava i lab i l i t y of surplus funds in the parent firm was not associated with the degrees of entry concentration. The importance of the ava i lab i l i t y of surplus capital was generally considered by the respondents to be secondary to the foreign investment decision, meaning that firms did not keep substantial surplus funds on hand for the purpose of grasping possible investment 32 opportunities. Corporations would tend to synchronize their l iquid funds to their working capital requirements and to re-invest surpluses in production operations rather than holding excessively large amounts of funds in relat ively low-yield short-term securit ies. Data assessing the importance of the cost of domestic capital relative to that of funds raised abroad to the respondents' foreign investment decisions were also correlated with the Entry Concentration Indices. The correlation results of this test are shown in Table 4-5. TABLE 4-5 Coefficients of Correlation of IECIs with Importance of Costs of Capital  Importance of Relative Costs of Capital to the Foreign Investment Decision (n=41)  Spearman's r Kindall 's tau 3-year IECI 0.1833(0.126) 0.1541(0.078) 5-year IECI 0.1294(0.210) 0.1146(0.146) 7-year IECI 0.1294(0.210) 0.1146(0.146) 10-year IECI 0.0694(0.333) 0.0656(0.273) Average IECI 0.2969(0.030) 0.2567(0.009) Although these results display rather weak and insignificant degrees of l inear association between the variables at least a consistently positive direction has again been established. This would suggest that as the importance of relat ive costs of capital increases, this would coincide with generally higher degrees of entry concentration. These results must, however, be qual i f ied. Relative costs of capital when considered, were not regarded as one of the more important factors in the firms' overall foreign investment decision process. The respondents generally stated that the importance of this factor was rather secondary to the overall foreign investment decisions in individual cases. 33 Level of Technology Technological superiority of the foreign investor is an important part of the o l igopol ist ic foreign investment theory.^ In this section, the attempt is made to test the hypothesis that firms with command over advanced and sophisticated technology tend to r ival each other in entering into foreign markets and establishing production units. Several variables were correlated with Entry Concentration Indices. "Research and Development Expenditures" was the only quantitative variable but the most important one used for testing the val id i ty of the hypothesis. In the absence of other measures which could stand for a firm's or industry's level of technological sophistication, R & D expenditures were used on the premise that there is a direct and positive relationship between the level of R & D expenditures and the firm's technological advancement. Thus i t was assumed that f i rms, which spend relat ively large portions of their revenue dollars on Research and Development, have control over sophisticated know-how and technology; these firms also tend to be leaders in innovation.^ Research and development expenditures were broken down into two categories: Domestic R & D expenditures as a percentage of domestic production, and The percentage of foreign production spent on R & D abroad. At the outset raw R & D and IECI values were correlated with the use of Pearson's Parametric technique. Information on the levels of domestic R & D expenditures was obtained from only thirty-three respondents, while merely sixteen firms revealed their expenditures on Research and Development abroad. The results of this test are presented in Table 4-6. 34 TABLE 4-6 Coefficents of Correlations of IECIs with R & D Expenditures  Pearson Correlation Coefficients  Domestic R & D Expenditures R & D Expenditures Abroad (ri=33) (n=16)  3-year IECI 0.2106(0.120) -0.2795(0.147) 5-year IECI 0.0914(0.307) -0.3961 (0.064) 7-year IECI 0.1915(0.143) -0.2589(0.166) 10-year IECI 0.1 969(0.136) -0.3275(0.108) Average IECI 0.1725(0.169) -0.3363(0.101 ) This test shows rather weak positive but generally insignif icant linear relationships between domestic R & D expenditures and degrees of Entry Concentration. The Pearson coefficients of correlation of R & D expenditures abroad and Entry Concentration Indices had somewhat higher and negative values, but the levels of significance were quite unsatis-factory which was probably due to the small size of the sample. The direct ion, however, indicated by this i n i t i a l test would appear to be in keeping with the hypothesis, because the results suggest that firms spending larger percentages of their domestic revenues on R & D tended to concentrate their foreign investments, while higher levels of R & D spending abroad would coincide with smaller degrees of entry concentration. This negative relationship between IECIs and R & D expenditures abroad appears to re-inforce the argument that ol igopolists tend to concentrate their research and development effort in the home country. R & D is viewed as being more eff ic ient i f centralized at the main plant or at headquarters. Centralized R & D can be better administered and geared to production requirements than R & D that takes place in various locations at home and 35 12 abroad. It may al so be argued that undertaking R & D almost exclusively at home and 'exporting' to rather than 'producing' this technological advantage in foreign countries would mean added protection of the firm's know-how and technology. Because of the possible problems associated with the Pearson correlation when used for this type of study, the relationship between the variables was tested with the use of Kendall's and Spearman's non-parametric correlation technique which was discussed at the outset of this 13 chapter. At f i r s t the raw R & D and ECI data were correlated, and the results of this test are shown in Table 4-7. TABLE 4-7 Coefficients of Correlation of IECIs with R & D Expenditures  Spearman's r 3-year IECI 0.3641(0.019) Domestic R & D Expenditures (n=33) Kendall1 s tau 5-year IECI 7-year IECI 10-year IECI 0.1099(0.271 ) 0.3641(0.019) 0.2714(0.013) 0.0748(0.270) 0.2714(0.013) 0.3603(0.020) 0.2800(0.011) Average IECI 0.3641 (0.019) 0.2714(0.013) R & D Expenditures Abroad (n=16) ... Spearman's r Kendall 's tau -0.1309(0.315) -0.1272(0.246) -0.3427(0.097) -0.2447(0.094) -0.1309(0.315) -0.1272(0.246) -0.1495(0.290) -0.1272(0.246) -0.1309(0.315) -0.1272(0.246) This non-parametric test of association produced improved results which were particularly significant for domestic R & D expenditures. The correlation coefficients of IECIs and R & D expenditures abroad remained f a i r l y low, and the level of significance was considerably above the generally acceptable five percent cut -off . The direction of the relationship, however, remained the same as shown by the Pearson test , being positive for domestic research and development expenditures and negative for research and develop-ment expenditures abroad. 36 In order to further check the relationship between R & D expend-itures and IECIs, the R & D and IECI data were re-arranged into pre-defined value ranges, and those new data were then entered into a non-parametric test the results of which are given by Table 4-8. TABLE 4-8 Coefficients of Correlation of IECIs with R & D Expenditures (ranges)  Domestic R & D Expenditures . (n=33) Spearman's r Kendall 's tau 3-year IECI 0.1884(0.147) 0.1431(0.121) 5-year IECI 0.1970(0.136) 0.1658(0.087) 0.1970(0.136) 0.1658(0.087) 0.1529(0.1980) 0.1378(0.130) 7-year IECI 10-year IECI Average IECI 0.2803(0.057) 0.2284(0.031) R & D Expenditures Abroad (n=16) Spearman's r Kendall's tau -0.2814(0.145) -0.2532(0.086) -0.2890(0.139) -0.2728(0.070) -0.2890(0.139) -0.2728(0.070) -0.1714(0.263) -0.1618(0.191 ) -0.0313(0.454) -0.0319(0.432) These lat ter results were signif icantly inferior to those of the previous test , and thus re-arranging the data did not result in an improve-ment of either value of the correlation coefficients or the significance level s. Despite the rather weak, but nevertheless s ignif icant , degree of association between the levels of research and development spending and entry concentration, as shown particularly in Table 4-7, the hypothesis appears to have been substantiated. Thus there seems to be a positive l ink between high levels of R & D expenditures at home which indicate high levels of technological sophistication, and a high degree of entry concentration which suggests o l igopol ist ic investment behaviour. 37 These results of correlating R & D expenditures with ECIs appear to contradict Knickerbocker's f i nd ings .^ Knickerbocker concluded that highly R & D-oriented industries either do not undertake defensive investments, or they time their foreign investments differently from industries with lower levels of R & D efforts. This study, however, reaches the opposite conclusion, probably because somewhat different data were used. While Knickerbocker conducted his tests with the use of average R & D expenditures of twelve industries, in this study individual corporation data were used. Thus the correlation results may express somewhat better the r iva l ry of individual firms within the industry groups. This phenomenon does not appear to have been reflected in Knickerbocker's results. In order to test the technology issue further and to re-inforce the findings arrived at thus fa r , i t was decided to test the degrees of association between Entry Concentration Indices and a set of qualitative data pertaining to the respondents' attitudes toward the issue of l icensing as a possible alternative to foreign direct investment, and to the importance of u t i l i z ing the firms' know-how and technology when the investment decision was made. Some significant results were obtained when the importance of technological factors upon the decision not to license were related to Entry Concentration Indices. These factors were the individual firms' concern for secrecy, and the fact that technology was considered to be an integral part of an indivisible corporate package. The correlation results are presented in Tables 4-9 and 4-10 below. 38 TABLE 4-9 Coefficients of Correlation of IECIs with the Degree to which Concern for Secrecy Inhibits Licensing Arrangements Tn^ 4T5 Spearman 's r Kendall 's tau 3-year IECI 0.2829(0.037) 0.2601 (0.008) 5-year IECI 0.2749(0.041) 0.2489(0.011) 7-year IECI 0.2749(0.041 ) 0.2489(0.011 ) 10-year IECI 0.1677(0.147) 0.1524(0.080) Average IECI 0.2830(0.037) 0.2584(0.009) TABLE 4-10 Coefficients of Correlation of IECIs with the Degree to which Indivisible Technology Inhibits Licensing Arrangements tn^4T) Spearman's r Kendall 's tau 3-year IECI 0.2434(0.063) 0.2136(0.025) 5-year IECI 0.2538(0.055) 0.2281 (0.018) 7-year IECI 0.2538(0.055) 0.2281 (0.018) 10-year IECI 0.2129(0.091 ) 0.1941 (0.037) Average IECI 0.3029(0.027) 0.2657(0.007) The above results tend to re-inforce the results of the earl ier correlations of the Entry Concentration Indices with the levels of research and development expenditures of the European firms. The greater the concern for secrecy and the more important the firms' assessment of their technology as being part of an indiv is ib le package, the greater the degree of entry concentration. Licensing as an alternative to foreign direct investment wi l l be discussed brief ly below. Because of a lack of data, i t was not possible to conduct a quantitative analysis establishing possible relationships between the number of patents the individual firms own and the degrees of entry concent-ration by industry. Most of the respondents could not state nearly exact figures pertaining to patents held, but most of the sample firms, particularly those in the science and technology-based industries command substantial patented know-how. Qualitative information was received on the importance upon the foreign investment decision of u t i l i z ing patents and know-how in individual situations. These data were correlated with the Entry Concentration Indices and the results are presented in Table 4-11. TABLE 4-11 Coefficients of Correlation of IECIs with Importance of Using Patents  Importance of Using Patents and Know-How upon the Investment Decision (n=363)  Spearman's r Kendall 's tau 3-year IECI 0.0780(0.069) 0.0637(0.035) 5-year IECI 0.0745(0.078) 0.0595(0.045) 7-year IECI 0.1417(0.003) 0.1176(0.001 ) 10-year IECI 0.1005(0.028) 0.0784(0.013) Average IECI 0.1417(0.003) 0.1176(0.001 ) These results, although being generally s igni f icant , did not reveal any meaningful linear relationship between the two variables. There was, however, at least some consistency in the direction of the association, and this would suggest, however weak the relationship, that the more important i t is for the firms, when considering foreign investment, to make use of their technology or patents, the more concentrated their entries into foreign markets would tend to be. 40 The evidence thus far presented appears to verify the hypothesis which states that superiority in technology tends to be an important force in motivating firms to r ival each other in establishing manufacturing subsidiaries abroad. Calibre of Management In this section the attempt i s made to test the hypothesis which states that ol igopolists drawing on a pool of highly ef f ic ient management personnel are also firms that are the dominant foreign investors. Generally the sample firms, merely because of their size and relative importance, have the resources for attracting and maintaining highly eff ic ient management personnel. This i s also reflected by the h is tor ica l ly strong growth rates enjoyed by v i r tual ly a l l of the European firms surveyed. Workable quantitative variables expressing superiority in manage-ment calibre were not available. Thus data obtained on two qualitative decision factors were correlated with industry ECIs. Superior Management Available to the Parent Firm European corporate executives were asked to assess the importance upon individual investment decisions of having the managerial f a c i l i t i e s available to operate potential foreign operations. The answers were given numerical values representing the degrees of importance attached to this factor in individual situations. These values were correlated with the Entry Concentration Indices, and the results of this test are presented in Table 4-12. 41 TABLE 4-12 Coefficients of Correlations of IECIs with Importance of Available Management (n=363) Spearman's r Kendall1s tau 3-year IECI 0.0829(0.057) 0.0741(0.018) 5-year IECI 0.1627(0.001 ) 0.1308(0.001 ) 7-year IECI 0.1197(0.011) 0.1070(0.001) 10-year IECI 0.0660(0.105) 0.0568(0.053) Average IECI 0.1197(0.011) 0.1070(0.001 ) The above results , although consistently signif icant in s tat is t ica l terms, fai led to show any convincing relationship among the variables. However, the fact that the correlation coefficients were consistently positive could at least give an indication of the direction of the degree of association. One probable reason for the rather weak relationships produced by this test may be that the importance, attached to available management resources, was generally viewed by the respondents as having been rather secondary. The ava i lab i l i t y of home country nationals who could manage potential foreign operations was generally not a prime criterion for the decision to invest in individual countries. Furthermore the data included decisions to invest in industr ial ly advanced countries as well as in less developed nations. Personal interviews with company executives revealed that available parent company management played a more important role in the decision to invest in those latter countries. Thus the hypothesis could s t i l l be considered as having been verif ied although perhaps not very convincingly. 42 Importance of the Avai lab i l i t y of Local Management Weights of importance attached to this investment criterion by the respondents were correlated with Entry Concentration data. This test was conducted with the purpose of supporting and re-inforcing the superior-management-calibre argument tested above. The correlation results are presented in Table 4-13. TABLE 4-13 Coefficients of Correlation of IECIs with Importance of Locally Available Management ( n l 3 6 3 j Spearman's r Kendal 1's tau 3-year IECI 0.1961(0.001 ) 0.1741 (0.001 ) 5-year IECI 0.0224(0.358) 0.0191 (0.320) 7-year IECI -0.0975(0.032) -0.0810(0.011) 10-year IECI -0.1117(0.017) -0.0924(0.004) Average IECI -0.0975(0.032) -0.0810(0.011 ) These results were rather inconclusive, as they did not present any consistent degree of association in either direction. The quality and avai lab i l i ty of local management was not an overriding issue in the firms' foreign investment decision. In i t i a l l y v i r tua l ly a l l of the firms' foreign subsidiaries were established and managed by personnel sent from the corporate headquarters to the host country. After the subsidiaries' operations had reached their target levels of performance, local personnel were trained to assume middle or higher-level management responsib i l i t ies , and parent country nationals returned to headquarters or were sent to establish new operations in other countries. Thus the ava i lab i l i t y of local management personnel did not materially affect the respondent firms' foreign investment decisions. 43 Although the tests conducted in the above section produced rather weak and seemingly inconclusive results , the superior-management hypothesis should not be rejected solely on the basis of these findings. Better supporting evidence, preferably different and more quantitative data, could conceivably y ield results that are of s ignif icant ly improved quality. Oligopolistic Conditions in Product Markets Very l i t t l e empirical evidence in the form of quantitative data was obtained which could cover this aspect of oligopoly. Some of the areas investigated were described by such intangible and immeasurable variables as quality and product dif ferentiat ion; other areas such as market control and economies of scale had to be dealt with rather descriptively because of only a few supporting quantitative data available. Nevertheless the attempt is made to at least conceptually l ink oligopolies in output markets to o l igopol ist ic investment behaviour. The results of this section appear to be impressionistic rather than well -establ ished empirical facts. Differentiation and Quality of Products It could be suggested that advertising expenditures be used as a 15 rel iable measure of the degree of product differentiat ion. Knickerbocker in fact used advertising expenditures as independent variables in one of the tests conducted. He does, however, express his doubts about the va l id i ty of his results. Advertising expenditures may only in part rel iably represent relative degrees of product differentiat ion. Particularly when applied to consumer goods sectors such as food, clothing, detergents, cosmetics and household appliances extensive advertising could adequately ref lect product differentiat ion. This is in part due to an inherent bias in using advertising 44 expenditures as independent variables, because the higher degrees of differentiation are associated with higher levels of expenditures which may mainly be the result of choosing the media through which the products are advertised. This would then suggest that products advertised through the much more expensive mode of radio and television commercials would be more differentiated than products advertised in other media. This conclusion does not necessarily f i t a l l consumer durable goods or products used for industrial purposes. While, for example, many automobile companies advertise their products on radio and televis ion, there are some notable exceptions. Several European automobile manufacturers, whose products are highly d i f fe r -entiated, do not engage in extensive advertising, and they are conspicuously absent from radio and television advertising. Their products are mainly advertised in specially selected journals and newspapers and through the firms' own promotional l i terature. These firms in fact differentiate their products by not advertising them in the mass media, because they want to address only a selected market segment.^ Using advertising expenditures would also result in classifying the pharmaceutical industry as not being highly differentiated although the opposite is true. Due to government regulation in most countries the pharmaceutical industry is not permitted to advertise prescription drugs to any significant extent; these, however account for an important portion of those firms' business. It would be similarly problematic to define and to establish a re l iable measure of quality. One suggestion might be to simply use durabi l i ty ; this could be f a i r l y easily determined for some products, such as machinery, automobiles and electr ical equipment by determining the average l i f e span of the product. Such a measure would, however, only present part of the picture. In other industrial sectors i t would be much more d i f f i c u l t to establish quantitative measures of relative qualities which could be useful for this type of study. For example to arrive at useful quality measures for chemicals 45 and particularly for pharmaceuticals would be an arduous task, and the results of such an undertaking,would probably s t i l l be f a i r l y arbitary. Thus because of the inherent d i f f i cu l t i es in establishing rel iable measures of product differentiation and quality which could be useful and meaningful to this study, and because of the lack of adequate data covering this area, a rather impressionistic and conceptual approach was chosen for the purpose of analysing the degree of oligopoly in these aspects of product markets. Most of the sample firms were old and well-established corporations. Only one firm was founded after World War II, and a few additional companies had their origins during the inter-war period. The majority of the respondent firms came into being during the period from 1850 to 1913. The lat ter were primarily chemical f irms, some automobile companies, and most of the machinery and electr ical equipment producers. Some firms traced their origins even further back in history. 1 ^ Virtual ly a l l of the firms surveyed, or their products, are we l l -known in Europe, and most of these are prominent in world markets. Thus long-established and well-known company names or products by themselves may create a significant degree of product di f ferent iat ion, and age of the firm and i ts resulting prestige can often result in being associated with quality. Many of the respondent firms were actual pioneers in the development 18 of the products they s t i l l manufacture and continue to refine and to perfect. Having been product pioneers many of those firms were the f i r s t to become internationally active during the late nineteenth century. A few of those companies operated foreign subsidiaries almost immediately after they were established. These were mainly firms which manufactured products that could not be exported ef f ic ient ly or in significant quantities, either because of their 19 weight, bulk or low price, or because other factors inhibit ing exports such 20 as the need for servicing a complex product or because of customer demands. 46 Other product pioneers did not feel the need to manufacture their products abroad until after the Second World War, either because they were s t i l l in the process of achieving suff icient growth and market control domestically, or because their products, being made in the home country, enjoyed greater prestige and reputation for quality than similar products made loca l ly . Along with the well -differentiated corporation names, the products of the sample firms have been generally highly differentiated. A l l of the firms deal in branded products which are well-known through effective advertising, and most of these products enjoy a reputation 21 of having a high level of quality, durabil i ty and eff iciency. Market Control and Entry Concentration In this section the attempt is made to test the hypothesis that firms already having extensive control over the domestic market cannot materially increase their market shares without disrupting industry s tab i l i t y 22 and provoking destructive price wars. In order to maintain their desired 23 growth rates and an 'orderly market' those firms are forced to expand abroad. As a start possible relationships between entry concentration and domestic production were tested. This was done on the premise that the amount of domestic production dollars may provide at least some weak indication of the firms' power in their domestic markets. At f i r s t raw domestic production values were correlated with Entry Concentration Indices, and the results of this test are presented in Table 4-14. 47 TABLE 4-14 Coefficients of Correlation of IECIs and Domestic Production (7F38) Pearson's r 3-year IECI 0.1180(0.240) 5-year IECI 0.2744(0.048) 7-year IECI 0.1559(0.175) 10-year IECI - 0.2367(0.076) Average IECI 0.1968(0.118) These results , though by no means highly signif icant in s tat is t ica l terms, appear to point into the direction indicated by the ol igopol ist ic competition theory, and they appear to verify at least par t ia l l y , in stat is t ica l terms impressions conveyed in discussions with individual executives. An attempt was made to improve the above results; production figures and IECI values were c lass i f ied into ranges which were then correlated through the use of non-parametric techniques. The results of this correlation are shown in Table 4-15 below. TABLE 4-15 Coefficients of Correlation of IECIs with Domestic Production (7F401 3-year IECI 5-year IECI 7-year IECI 10-year IECI Average IECI Spearman's r 0.0021 (0.495) 0.0699(0.334) 0.0699(0.334) 0.2651 (0.051 ) -0.0407(0.410) Kendall's tau 0.0000(0.500) 0.0608(0.290) 0.0608(0.290) 0.2507(0.011 ) -0.0391 (0.361 ) 43 These results were rather disappointingly inferior to those obtained by the i n i t i a l parametric correlation test. Thus the latter results convey a better picture of the positive relationship between domestic production and entry concentration than the results of the non-parametric tests. The relationship between the firms' influence over their domestic markets and the concentration of their entries into foreign markets was further tested by correlating domestic market shares of the firms' individual product l ines with Entry Concentration Indices. The results of this test are shown in Table 4-16. TABLE 4-16 Coefficients of Correlation of IECIs with Domestic Market Shares 3-year IECI 5-year IECI 7-year IECI 10-year IECI Average IECI Spearman's r 0.2305(0.033) 0.2630(0.018) 0.2630(0.018) 0.2914(0.010) -0.0198(0.438) Kendal 1's tau 0.1923(0.012) 0.2276(0.004) 0.2276(0.004) 0.2612(0.001 ) -0.0165(0.424) These results were s ta t i s t i ca l l y significant to a considerable degree. Although the values of the correlation coefficients were rather low, indicating weak l inear relationships, this test reinforces the argument that firms whose products have captured significant portions of the domestic market, tend to rush into foreign markets for further expansion and growth. Thus an important part of the ol igopol ist ic investment theory, dealing with patterns of control over product markets, can be accepted as having been veri f ied. 49 Economies of Seale Internal and external economies of scale are considered by Caves 24 and Kindleberger to be important factors of o l igopol ist ic investment behaviour. This section of the study constitutes an attempt to verify this contention. The general f i r s t impression from the personal interviews conducted would suggest that internal economies of scale appeared to play more important roles than external economies which were important only in the case of a few firms of the metal industry. As Table 4 -1 , 4-2 and 4-15 above displayed, an ear l ier attempt to correlate various overall size measures with Entry Concentration Indices 25 did not produce s ta t i s t i ca l l y significant and useful results. Because data describing overall international commitment are not necessarily adequate indicators of economies of scale - - they do not ref lect the sizes of individual production units — data on individual foreign subsidiaries were correlated with Entry Concentration Indices. This test was conducted for the purpose of determining the extent to which there exists a re lat ion -ship between entry concentration and the scale of the production unit. The ol igopol ist ic investment theory would suggest that such a relationship should be posit ive, meaning that r ival ry among ol igopolists grows f iercer with an increase in the feasible scale of the individual operation. The results of this test are presented in Table 4-17. TABLE 4-17 Coefficients of Correlation of IECIs with Size of Foreign Subsidiaries  Pearson's r 50 3-year IECI 5-year IECI 7-year IECI 10-year IECI Average IECI Total Revenue (n=108) 0.1563(0.053) 0.1600(0.049) 0.1561 (0.053) 0.1632(0.046) 0.1596(0.050) Total Assets (n=H) 0.7038(0.008) 0.1965(0.281 ) 0.7394(0.005) 0.0118(0.486) 0.4770(0.069) Shareholders' Equity (n=214) 0.0050(0.471 ) 0.0046(0.473) 0.0257(0.354) -0.0102(0.441 ) 0.0080(0.454) These results show rather consistently positive and mainly significant positive relationships between Entry Concentration Indices and revenues and assets of individual foreign subsidiaries of the respondent firms. The rather high coefficient values of the correlation of IECIs (particularly 3-year and 7-year IECIs) with subsidiary assets must, however, be accepted with some caution. Only a few firms made asset figures of their subsidiaries avai lable, and thus the sample size of this test is so small that i t may not be representative from a purely s tat is t ica l point of view. Furthermore most of these asset figures obtained were those of foreign a f f i l i a t e s of automobile and electr ical equipment producers which have some large-scale operations abroad, and their IECIs have high values. Thus to values of the coefficients of the correlations with 3-year and 7-year IECIs are rather unusual and special cases. Thus had the sample been larger, different, probably lower, coefficient values could have resulted. It may, however, be doubtful that in such a case the direction of the established association would change. The relationship between ECIs and equity capital employed in the various foreign subsidiaries is rather inconclusive and s t a t i s t i c a l l y insignif icant. This could mean that parent firms generally try to minimize their equity commitment regardless of the degree of entry r i va l ry . An attempt was made to determine the extent to which external economies which usually result in vertical integration, are related to the degree of entry concentration. Quantitative data were not available, and only one variable weighted qualitatively expressing the relat ive importance upon individual investment decisions of obtaining raw materials and components was used. As almost expected, the results of correlating these data with ECIs were of rather dubious quality as can be seen in Table 4-18. TABLE 4-18 Coefficients of Correlation of IECIs with Importance of Raw Material Sources (n=363) Spearman's r Kendall 's tau 3-year IECI 0.2031 (0.001 ) 0.1571 (0.001 ) 5-year IECI 0.0179(0.367) 0.0138(0.348) 7-year IECI -0.2332(0.001 ) -0.1962(0.001 ) 10-year IECI -0.2547(0.001 ) -0.2162(0.001 ) Average IECI -0.2332(0.001 ) -0.1962(0.001 ) Firms that made investment decisions on the basis of obtaining raw materials were mainly metal producers and thus represented a rather small proportion of the overall sample. For these firms developing and securing raw material sources and ensuring continuous supply by maintaining an equity position in metals and coal mines abroad was v i t a l l y important for the operation and success of their domestic operations. These firms 52 were mainly steel and non-ferrous metals producers of raw material-poor countries such as Austria, Belgium, Germany, Netherlands and Switzerland. In some situations chemical companies moved or planned to move manufacturing 26 operations closer to raw material and energy sources. It must be concluded that, while there appears to be a case for the internal-ecdnomies-of-scale argument and the resulting geographical horizontal integration, the relationship between ECIs and vertical integration was not conclusive enough to just i fy acceptance of the hypothesis. More and better variables expressing the degree of vertical integration could possibly yield s ignif icantly superior results. ' P ro f i tab i l i t y and Entry Concentration Thus far the analysis was concerned with rather static corporate and market conditions and their impact on defensive investment behaviour of individual firms. Another l ink should be added by investigating the relationship between defensive investment behaviour and the performance of these firms. Specif ical ly this section wi l l examine the possible association between entry concentration and the prof i tab i l i t y of the parent firms' domestic operations. It can be argued that only consistently profitable firms can afford to engage in extensive foreign investments, and thus only 27 highly profitable firms have excess funds available for prompt investments. The pro f i tab i l i t y issue may, however, not be as simple as just described. Alternately a case can be made for quite the opposite. Firms that maintain highly profitable domestic operations do not necessarily have the inclination to accept added risks and possibly lower returns by investing abroad. They may be quite content to continue operating domestically at high profit margins. It is argued in this study that firms envisaging declining domestic profit margins at home wil l attempt to defend the level of their overall 53 prof i tab i l i t y by expanding abroad. It is beyond the scope of this study to investigate a l l of the factors which could contribute to such a decline in p ro f i tab i l i t y . Some of the more dominant reasons for declines in domestic prof i tab i l i t y may benentioned, as they were speci f ical ly emphasized during the personal discussions with European corporation executives. Market saturation and resulting declines in domestic growth rates have already been 28 mentioned above. An other important criterion is the rapidly increasing cost of doing business domestically and of exporting due to significant increases in wage rates, payroll burdens, taxation and unfavourable changes 29 in foreign exchange rates. The information obtained during the course of the personal discussions tends to verify this point, and the stat is t ica l analysis of the data appears to point into this direction. Two prof i tab i l i t y measures were used for this analysis, pre-tax profit as a percentage of total 30 assets, and pre-tax profit as a percentage of total revenue. An i n i t i a l Pearson correlation of raw IECI values with p ro f i tab i l i t i es did not yield any s t a t i s t i c a l l y significant and useful results. The data were then re-ordered into ranks, and these new values were entered into n on-parametric correlations which showed signif icantly improved results. These are given in Table 4-19. TABLE 4-19 Coefficients of Correlation of IECIs with Prof i tab i l i t y of Domestic Operations Return on Assets Return on Sales (n=24) (n=27) Spearman's r Kendall 's tau Spearman's r Kendall's tau 3-year IECI 0.1109(0.303) 0.0979(0.251 ) -0.3159(0.054) -0.2912(0.017) 5-year IECI 0.1504(0.241 ) 0.1433(0.163) -0.2926(0.069) -0.2745(0.022) 7-year IECI 0.1504(0.241 ) 0.1433(0.163) -0.2926(0.069) -0.2745(0.022) 10-year IECI 0.2264(0.144) 0.2122(0.073) -0.1405(0.242) -0.1353(0.161 ) Average IECI 0.2748(0.097) 0.2447(0.047) -0.0046(0.491) -0.0094(0.473) 54 These results are somewhat conf l ic t ing , and they would suggest that firms enjoying higher returns on total assets tend to invest more defensively, while firms experiencing lower returns on total revenues appear to concentrate most highly their entries into foreign countries. However, for the purpose of this study return on sales is a better measure of a firm's performance than return on assets employed, since gross profit margins are better measures indicating the firm's market position. When taking into account only the relationship between return on sales and IECIs, the results appear to verify the decl ining-profitabi l i ty contention. Care must, however, be taken in pointing out that the prof i tab i l i t y data used for this test represent merely those obtained for 1972. It could be argued that somewhat more dynamic prof i tab i l i ty ratios representing longer-term averages should be used. A case could also be made for the use of prof i tab i l i t y ratios which existed at or just before the time the individual foreign investments was made. Due to a lack of such data, this study had to be confined to 1972 figures. It seems, however, doubtful whether the direction of the association between return on sales and Entry Concentration would be altered dramatically by using long-term averages or historical data. Alternatives to Oligopolistic Investment Behaviour Product Diversif ication Product diversif ication is a characteristic of some of the product pioneering firms and industries. There may be reasons to believe that the degree of i t s product diversif ication could affect a firm's foreign investment behaviour. The argument presented here basically follows along Knickerbocker's l i nes . While the evidence presented thus far would suggest that European firms made their foreign investment decisions in reaction to their r i v a l s , some of the large companies that have expanded into foreign markets may not necessarily have been motivated to invest abroad by competitive pressures in a single industry. Many of these firms established themselves by sel l ing a range of products or by operating in various industry groups. Thus diversif ication at home opened up both the aggressive and the defensive 32 foreign investment alternatives for the parent f i rms, and i t lessens the need for exact matching of every move the firm's competitor makes. This would also suggest a portfol io-type approach to foreign investment decision making. In such an approach for multinational companies, returns would be measured on a world wide basis. By spreading investments over a wide range of products, the effects of the r isk in any specific investment upon the 33 f irm's results as a whole may be minimized correspondingly. This would mean that these firms were not compelled to follow the alternative route of risk-minimization or minimax which is one of the features of the perpetuation of o l igopol ist ic equi l ibr ia . A major problem was encountered in attempting to test the re lat ion -ship between product diversif ication and defensive investment behaviour. This was the d i f f i cu l t y in determining what constitutes a product l ine in individual cases. In some cases rather arbitrary decisions had to be made in defining the number of product l ines maintained by some firms. In order to avoid technical or semantic problems, in most cases a product l ine was 34 simply defined as an area of business. The sample firms' number of product l ines maintained domestically and abroad were correlated with Entry Concentration Indices and the results are presented in Table 4-20. 56 TABLE 4-20 Coefficients of Correlation of IECIs with Number of Product Lines  No. of Domestic Product Lines No. of Product Lines Abroad (n=40) (n=37) Spearman's r Kendall 's tau Spearman 's r Kendal 1's tau 3-year IECI -0.3082(0.026) -0.2234(0.021 ) -0.1329(0.216) -0.1011 (0.189) 5-year IECI -0.4207(0.003) -0.3411 (0.001 ) -0.3809(0.010) -0.3068(0.004) 7-year IECI -0.3082(0.026) -0.2234(0.021 ) -0.1329(0.216) -0.1011 (0.189) 10-year IECI -0.2848(0.037) -0.2143(0.026) -0.1543(0.181 ) -0.1153(0.158) Average IECI -0.3082(0.026) -0.2234(0.021 ) -0.1329(0.216) -0.1011 (0.189) These resul ts , particularly those of the correlation of IECIs with the number of domestic product l ines appear to verify the productrdiversification argument at least to some extent. Some highly diversif ied f irms, particularly chemical corporations displayed less concentrated entry behaviour than other 35 firms operating in much more narrowly defined areas of business. Caution must however be used in accepting these finding, and tests using more refined or different data could y ie ld more rel iable results. A great deal of improvement in the definit ion of product diversity would be necessary in order to prove or to disprove this argument in a more meaningful fashion. This was not possible here because of lack of adequate data covering this area. It was also apparent during the course of this study that the sample firms were much more diversif ied in their domestic markets than in markets of their foreign a f f i l i a t e s . 36 This would appear to be consistent with the product cycle theory which deals with the time lags inherent in the international transfer of technology. The smaller number of product l ines maintained by foreign a f f i l i a t e s could also be explained by organizational constraints faced by the 57 firms. New organizational structures and systems would have to be developed for controlling such d ivers i f icat ion , before i t could actually be undertaken. Licensing Without becoming involved in an extensive discussion of licensing as a more or less viable alternative to foreign direct investment, which would be beyond the scope of this study, a brief reference to this subject may be made. As indicated ear l ier in this chapter, during the course of the personal discussions, individual European executives were asked to provide the interviewer with value assessments of various factors favouring or inhibiting licensing arrangements with foreign firms not belonging to the corporate group. The data obtained were rather qual i tat ive, and their interpretation is thus largely impressionistic. At the outset, almost three-quarters of the executives questioned favoured direct investment in manufacturing f a c i l i t i e s over l icensing, and they would not even consider licensing as an alternative except in situations where direct investment was either impossible or unfeasible. Thus the weights of importance attached to factors generally believed to favour licensing such as: i . Lack of Capital to invest abroad i i . Lack of personnel to manage foreign investments i i i . Lack of information concerning local market conditions iv. Restrictions of profit remittances, and v. Tariff or quota restr ict ions, received consistently low ratings with the possible exception being problems concerning repatriation of prof i ts . Of the factors generally believed to inhibit firms from entering into licensing agreements, the highest importance ratings were attached to the following: 58 i . Concern for secrecy or uniqueness of the product i i . Technology considered a part of the indiv is ib le overall corporate package, and i i i . Lower prof i tab i l i ty associated with licensing arrangements. The results of the correlations of the individual value assessments of factors inhibit ing licensing with ECIs have already been presented in Tables 4-9 and 4-10 on p. 38 of this chapter, and the consistently positive and signif icant correlation coefficients obtained tend to re-inforce the technology issue tested earl ier in this chapter. Most of the firms' over-riding concern for protection of their know-how and technology and thus their fear of losing their competitive edge makes licensing a rather unattractive alternative to foreign investment. Other factors emphasized during the personal discussions were lower prof i tab i l i t y and the temporary nature of licensing agreements. The firms fe l t that where the market is suff ic ient ly large to warrant a viable local operation the individual firm would prefer to reap a l l of the profits i t se l f rather than receiving the generally lower royalties associated with licensing agreements. Many executives also fe l t that because licensing arrangements usually cover only a few years, their technology would be beyond their control after the agreements have lapsed. The licensee could then become a significant competitor of the former licensor r i va l l ing him with the use of the same technology and know-how. Of the factors favouring licensing only the degree of importance attached to lack of management personnel displayed a consistently significant relationship with entry concentration as shown in Table 4-23. This re lat ion -ship, although rather weak, was consistently negative suggesting that, as the importance of this factor increases, the degree of entry concentration decreases. This appears to re-inforce the superior-management hypothesis described and tested earl ier . TABLE 4-21 59 Coefficients of Correlation of IECIs with Lack of Management Favouring Licensing (n^rn Spearman's r Kendall's tau 3-year IECI -0.2119(0.092) -0.1779(0.051 ) 5-year IECI -0.2158(0.088) -0.1871 (0.042) 7-year IECI -0.2158(0.088) -0.1871 (0.042) 10-year IECI -0.1750(0.124) -0.1604(0.070) Average IECI -0.1845(0.124) -0.1522(0.080) Thus ol igopol ists , usually being large firms with management of a superior ca l ibre , do not feel that lack of available management would prevent the firms from investing abroad and would force them into entering into licensing agreements instead. The argument presented thus far stating that ol igopolists refuse to l icense, must, however, be qualif ied. In fact most of the firms license out some of their products and processes even to their competitors, and they receive licenses in return. This inter-company licensing phenomenon particularly exists in the chemical industry, where the firms license each other extensively. There appears to exist a high degree of specialization among the chemical firms in Europe, and newly developed products or processes that do not f i t in with an individual f irm's area of specialization are usually licensed to a firm that has specialized in this area. Major licensing arrangements usually exist among firms of similar size and power, and they tend to reinforce the market s tab i l i t y which is often associated with oligopoly. Such agreements, however, very rarely cover products of major importance to the firm that developed them. 60 The last section of this chapter appears to t i e in neatly with the overall argument presented thus far . Summary The evidence presented in this chapter appears to support the hypothesis which states that foreign direct investment is largely the result of imperfect competition. Tests correlating corporate size measures such as total assets and total employees produced rather inconclusive resul ts , in particular the coefficients of the correlation of total domestic assets with ECIs appeared to even contradict the hypothesis. Better and more consistent supporting evidence was obtained, when variables expressing the firms' ease of access to capital were correlated with the industries' degree of defensive investment behaviour. The results showed positive l inks between the firms' ease in raising capital ~ believed to be a feature of oligopoly — and defensive investment patterns. The argument was strengthened further by testing the relationship between the level of technology commanded by the firm and the degree of entry concentration in the industry. Research and Development Expenditures, which were used as variables expressing the degree of technological sophistication, were positively correlated with ECIs meaning that firms which enjoy the advantage over local enterprises of having control over superior technology r ival each other in u t i l i z ing their know-how in foreign markets. Control over a calibre of management superior to local firms was also a factor that was positively linked to the degree of entry concentration, which was consistent with the hypothesis tested. Variables describing oligopolies in product markets, such as the degree of control over the domestic market, were positively associated with ECIs, implying that firms which had achieved stable market shares for 61 their products at home tended to match their competitors' investments abroad in order to prevent their r ivals from becoming too powerful in foreign markets and therefore in overall global competitive terms. The Economies-of-Scale argument was also ver i f ied , as size of individual foreign subsidiaries, expressed by total revenues and assets employed, was positively correlated with the values of the Entry Concentration Indices. It was further shown that firms facing declining rates of return on sales of their domestic operations tended to concentrate their entries into foreign markets, r i va l l ing each other in attempting to maintain overall p ro f i tab i l i t ies and market control . F ina l l y , the evidence suggests that product diversif icat ion and licensing were not considered to be feasible alternatives to foreign direct investment for the ol igopol ist . Thus after having investigated ol igopol ist ic industry characteristics and their relationship to foreign investment behaviour, the hypothesis seems to have been ver i f ied. William L. Hays, Stat ist ics pp. 615-620. Holt, Rinehart and Winston, New York, 1963. 2 ib id . pp. 651 -652.and Bent, Hul l , Stat ist ical Package for the  Social Sciences, McGraw-Hill, New York, 1970 pp. 153-154. 3„ , pp. 16-18. Richard E. Caves: in op_. c i t . and Kindleberger: in op. c i t . See J.W.C. Tomlinson and H.J. Himmelsbach, Foreign Trade and  Investment Decisions of European Companies unpublished Working Paper No. 260 Faculty of Commerce and Business Administration, The University of Br i t ish Columbia, Vancouver, B. C , May 1974. 62 5 see Table B-2 in Appendix B. g This became particularly evident in the f a l l of 1973 during a wild-cat str ike by Turkisch workers at the Ford Motor Company in Cologne, which was encouraged and organized by coimiunist and maoist extremists as reported in the German news media at the time. ^For example the Volkswagenwerk A. G. set up manufacturing f a c i l i t i e s in Yugoslavia in 1972. J.W.C. Tomlinson and H. J . Himmelsbach in op_. c i t . p . 26. g In addition to the destruction of their domestic operations, German firms in particular suffered repeated expropriations in foreign countries where during the two World Wars their subsidiaries including patents and trade marks were seized under Enemy Property Regulations. A famous example is the Bayer Aspirin case. ^Kindleberger, in op_. c i t . pp. 16-18. ^ A prime example of high R & D expenditures resulting in significant innovation and product improvement is given by the pharmaceutical industry. The European automobile industry also spends considerable amounts on R & D with the result being significant improvements in quality and safety standards as well as the introduction of new products. 12 This argument appears to coincide with the notion of centralized decision making presented by Kindleberger, in . op_. c i t . p. 16. 13 See p.25 above. 14 Knickerbocker in op_. c i t . pp. 138-145. 15 Knickerbocker in op_. c i t . pp. 145-148. ^One major European automobile firm advertised i t s products for an extended period of time by using the theme: "Not everyone drives our cars". One firm received i t s original charter in 1080, making i t the oldest s t i l l existing firm. Another company was established in 1620 as a state-owned armaments manufacturer, i t became privately-owned in 1759 and was f ina l l y converted into a publicly limited corporation in 1867. 63 18 One automobile company was founded by the man who successfully developed the f i r s t eff ic ient motor car. An other firm s t i l l bears the name of the man who invented telegraphy and who was later instrumental in the development of telephone exchanges. Most of the European chemical and pharmaceutical corporations were established by scientists who had discovered various chemical compounds and vaccines. One major European steel firm was, until recently, owned by the heirs of the inventor of the process of casting high-quality steel . 19 A good example for this type of investment pattern is the European chemical industry which, with some exceptions, evolved between 1850 and 1860 and had become an internationally operating industry by the early 1870's. 20 One electr ical equipment producer, founded in 1848 by the inventor of telegraphy, established i ts f i r s t foreign subsidiary in Russia in 1855, because i t had been awarded a contract by the Russian government to produce and to instal l a telegraph system in that country. This a f f i l i a t e operated profitably until 1918 when i t was expropriated by the Bolshevik government. 21 This is particularly recognized in the case of the European automobile, machinery and electr ical equipment producers; quality differentiation is less obvious, but nevertheless existent, in the chemical and pharmaceutical , and steel industries. 22 Knickerbocker, in op_. c i t . , ch. 4, analyzed the relationship between industry s tab i l i t y and entry concentration; his correlation resul ts , however, do not appear to be very impressive. 23 Several executives, particularly those of large electr ical equipment and chemical producers attached significant emphasis to this point. Already in control over large portions of their domestic markets their firms are able to grow only at rates at which the domestic markets for their products grow. If these f irms, as desired, want to achieve higher growth rates, they must expand internationally. 24 Caves, in op_. c i t . pp. 266 f f . Kindleberger, in op_. c i t . pp. 19-25. 2 5 See pp.26, 29, 47 of this study. Because of Canada's ample endowment with raw material s and low-cost energy, one major European chemical corporation plans to eventually expand i ts s t i l l rather small Canadian a f f i l i a t e to such a scale that i t could supply the entire European market with plastics which up to now have been manufactured in the parent country which lacks raw materials and where the cost of energy is high, (see Tomlinson and Himmelsbach, op_. c i t . pp. 24-25). 64 27 Knickerbocker, in op_. c i t . pp. 150-154. 28 See p. 4 6 of this study. 29 An executive of a major European chemical corporation mentioned that although hourly wages in the industry are s t i l l lower in his country than those in the United States, total labour costs are higher than those in the U. S. because of higher social costs imposed upon his firm at home. Recurrent revaluations of the German Mark vis a vis the U. S. dollar and higher productivity of the American worker, due to a lower rate of absenteeism, prompted the Volkswagenwerk A. G. to decide on manufacture of i t s cars in the United States. (Vancouver Province, May 14, 1974, Frankfurter Allgemeine Zeitung, May 14, 1974.) 30 Unfortunately the data were such that the portion of the firms' equity capital employed domestically could not be determined, thus in this analysis the more meaningful return on shareholders' equity could not be used. 31 Knickerbocker in op_. c i t . ch. 5, presents this argument rather extensively so that the discussion of this subject can be kept fa i r l y brief. 3 2 i b i d p. 102. 33 H. Markowitz, Portfolio Selection, Eff ic ient Diversification of Investments, Wiley & Sons, New York, 1959. 34 See also: Tom! ins on and Himmelsbach, in op_. c i t . pp. 8-9. 35 This compares with the arguments presented by John M. Stopford and Louis T. Wells, in Managing the Multinational Enterprise; Organization  of the Firm and Ownership of the Subsidiaries, Basic Books, New York, 1972. 36 Raymond Vernon, "International Investment and International Trade in the Product Cycle" reprinted in Dunning, op_. c i t . 37 Knickerbocker, in op_. c i t . p. 116. O Q Knickerbocker, in op_. c i t . Chapter 4. 65 CHAPTER FIVE GOVERNMENT INTERVENTION AND OLIGOPOLISTIC REACTION This chapter investigates and tests possible relationships between variables expressing government policies and actions, which are believed to influence the decision processes of foreign investors, and ol igopol ist ic foreign investment behaviour expressed by the degree of Entry Concentration. Thus an attempt is made to prove the va l id i ty of the hypothesis which states that actions taken by the home or host country governments have a direct and profound impact upon the individual firm's foreign investment decision. In order to test possible relationships between government action and entry concentration, Knickerbocker1 used mainly macro-economic variables related to some twenty-three countries, which he correlated with country ECIs. The results he obtained were not very significant in s tat is t ica l terms, and the correlation coefficients were rather low. Knickerbocker's 2 regression equations were somewhat more signif icant and useful. Rather than introducing macro-economic variables into this analysis, corporate decision variables were used in order to maintain the consistency of this thesis as a management study. In contrast to Knickerbocker's approach, the strength of which was the ava i lab i l i t y of quantitative data - - possibly at the expense of consistency — this analysis uses qualitative data chief ly expressing values attached to various decision factors. Actions Taken by the Home Country Government Only one qualitative variable was available for the purpose of s ta t i s t i ca l l y testing a possible relationship between policies adopted by the firms' home country governments and the degree of entry concentration. These data represented values of importance attached by the respondents to the impact of their governments' policies upon their firms' decisions to invest in individual countries. The data were correlated with Entry Concentration Indices by countries or areas, and the results are presented in Table 5-1. TABLE 5-1 * Coefficients of Correlation of CECIs with Importance of Home Government Policies Spearman's r Kendall 's tau 3-year CECI 0.0695(0.093) 0.0558(0.056) 5-year CECI -0.0554(0.146) -0.0416(0.118) 7-year CECI -0.1406(0.004) -0.1149(0.001 ) 10-year CECI ^0.0731 (0.082) -0.0598(0.045) Average CECI -0.0876(0.048) 0.0682(0.026) *1CECI' stands for Entry Concentration Index by Country. The above results appear to refute the hypothesis as they suggest that high concentrations of entries into certain geographical regions tend to be associated with low importance ratings attached to the firms' home country governments' policies designed to stimulate foreign investments. These results may be due to the choice of ECIs by country as dependent variables, and the extent to which a l l industries rushed into individual countries may not be dependent upon measures adopted by their parent country governments. To check the evidence further, the data expressing the impact of home government actions upon individual investment decisions were correlated with ECIs by industry. The results of this test are shown in Table 5-2. 67 TABLE 5-2 Coefficients of Correlation of IECIs* with Importance of Home Government Policies (n=363) Spearman's r Kendall 's tau 3-year IECI 0.0265(0.332) 0.0231(0.285) 5-year IECI -0.0033(0.478) -0.0021(0.480) 7-year IECI -0.0227(0.333) -0.0227(0.259) 10-year IECI 0.0524(0.160) 0.0462(0.094) Average IECI -0.0227(0.333) -0.0227(0.259) *IECI stands for Industry Entry Concentration Index. These results were also rather inconclusive and s t a t i s t i c a l l y not signif icant. One can draw the conclusion that no relationship exists between ECIs by industry and the impact of home country government policies upon the firms' decision to invest. These results can, however, be explained. Of the seven countries whose firms were surveyed, only three governments had adopted some policies making foreign investment attractive to their industries. Some of these measures wi l l be outlined below. Apart from some Foreign Aid leg is lat ions , most other measures were introduced by those governments only recently, and they did not influence most of the investments covered by this study which were made during, the T950's and 1960's. At any rate, had these policies been in effect ear l ier , they would not have been of prime importance to decisions to invest abroad. Executives of firms domiciled in countries whose governments discourage domestic expansion or encourage foreign investment stated that such pol ic ies , although taken into account in general corporate strategies, did not necessarily affect decisions to invest in particular countries. The fact that examples of such 68 government policies were frequently cited by the respondents, implies, however, that they were at least considered in some of the more recent investment decisions, and their importance wi l l probably be more pronounced in the future. Incentives The German government appears to offer the most comprehensive package of incentives to firms investing abroad, particularly in developing countries. These are mainly in the area of taxation. Under the German 3 Property Tax Act foreign property taxes paid can be offset against property tax l i a b i l i t i e s in Germany (elimination of double taxation), and higher exemptions apply to investments in developing countries. 4 Under the Foreign Investments Act tax-free reserves can be established, losses of foreign subsidiaries can be offset against the profits of German operations, and allowances for losses of foreign a f f i l i a t e s can be deducted from pre-tax income in Germany. In addition to these regulations, special wr i te -of fs , depreciation schedules, tax-free allowances for losses and reserves apply to investments 5 in specified developing countries according to the Foreign Aid Tax Acts. The French government appears to offer some modest incentives to French firms that invest in former French colonies, and i t neither encourages nor discourages investments in other developing countries. Such direct home country government incentives to invest abroad, although considered by individual companies, do not appear to have the desired effect of substantially increasing direct investment in the specified developing countries.^ 69 Some more indirect incentives for foreign investment are provided by v i r tua l ly a l l of the respondents' home governments in the form of foreign 8 investment insurance schemes . or treaties signed with the prospective host countries. Many of the respondent firms stated that foreign investment insurance was an important hedge against the r isk of expropriation and they had their foreign a f f i l i a t e s insured against such a contingency. Several f irms, particularly Belgian and Swiss corporations, would not consider investments in countries with which their governments do not have compensation treaties. In fact some of the Belgian, Swedish and Swiss sample firms received some compensation from the governments of Czechoslovakia, Poland and Rumania for their nationalized a f f i l i a t e s in those countries and 9 for defaulted government bonds issued by pre-war administrations. Discouragement of Domestic Expansion Another indirect means for governments to encourage investment abroad is restr ict ing domestic expansion. Such policies have been adopted by the governments of Germany, The Netherlands and Switzerland only recently, and the effects of these measures were not yet reflected in the evidence presented above. The respondents f e l t , however, that their future foreign investment decisions wi l l be signif icantly affected by these p o l i c i e s . 1 ^ The German and Dutch governments in particular passed stringent anti -pol lut ion regulations which tend to signif icantly restr ict domestic expansion of such pollution-intensive operations as those of chemical producers and steel mi l l s . Executives of those companies emphasized, however, that i t was not their firms' policy or desire to export pollution to other countries. They fe l t that in some cases i t could be more economically feasible to establish modern and less environmentally damaging plants abroad than spending large funds on some older domestic plants with the purpose of reducing their harmful emissions. 0 Increased Government Regulation of Business Affairs 70 Some executives of German, Dutch and Swedish firms, some of which were privately-owned, expressed their concerns over their governments' ever-increasing involvement in and interference with the operation of the free market economy and the individual f i rm's freedom to conduct business. In particular, the recently elected soc ia l is t administrations of Germany and The Netherlands were strongly c r i t i c i zed for placing too heavy a burden upon industry. A highly controversial b i l l presently being considered by the German Bundestag would grant representatives of labour unions f i f t y percent of the seats on the boards of directors. Although this regulation is designed to apply only to large corporations, owners of smaller and medium-sized firms fear that this legislation could be extended to apply to their firms in the future .^ F inal ly , government legislation increasing the cost of conducting business was also cited by some respondents as a factor influencing their decisions to invest abroad. Social welfare and security leg is la t ion , increased payroll burdens, and as as.possible result , a deterioration of the work ethic, particularly in Germany, The Netherlands and Sweden, were also mentioned as being factors increasing the firms' d i f f i c u l t i e s in conducting their business and in competing with firms domiciled in countries 12 whose industries do not have~to contend with these burdens. Thus actions taken by the parent country governments, although having lacked impact in the past, wi l l have more influence upon their firms' foreign investment decisions in the future. 71 Actions Taken by the Prospective Host Country Authorities As described in Chapter Three of this thesis , the ol igopol ist ic investment theory states that policies of the prospective host country governments have a profound impact upon the investment decisions of individual companies. In this section, the attempt is made to verify this hypothesis. As in the previous section of this chapter the data used expressing government attitudes and policies were in qualitative rather than quantitative form. Host Government Incentives As a starting point for the analysis, a rather general variable expressing the respondents' assessment of the importance of host government incentives upon individual investment decisions was correlated with ECIs by countries. The results of th is test are presented in Table 5-3. TABLE 5-3 Coefficients of Correlation of CECIs with Importance of Host Government Incentives (n=363) Spearman's r Kendall's tau 3-year CECI 0.2228(0.001 ) 0.1732(0.001 ) 5-year CECI -0.0920(0.040) -0.0603(0.043) 7-year CECI -0.2862(0.001 ) -0.2180(0.001 ) 10-year CECI -0.2284(0.001 ) -0.1777(0.001 ) Average CECI -0.1979(0.001 ) -0.1386(0.001 ) 72 These results were s t a t i s t i c a l l y significant and they displayed some consistency in the direction of the weak l inear association between the impact of host government incentives upon individual investment situations. This evidence would suggest that firms which attached higher degrees of importance to host government incentives did not generally follow others in entering into these countries or areas where such incentives were offered, or alternately firms tended to rush into countries which either did not offer special investment incentives or whose incentives did not affect the investment decision. In order to check these results further the same data expressing the importance of host government incentives were correlated with ECIs by industry, and the results of this analysis are shown in Table 5-4. TABLE 5-4 Coefficients of Correlation of IECIs with Importance of Host Government Incentives (7^363) Spearman's r Kendall 's tau 3-year IECI 0.0447(0.198) 0.0341 (0.166) 5-year IECI 0.1245(0.009) 0.0962(0.003) 7-year IECI 0.0593(0.130) 0.0501 (0.077) 10-year IECI 0.1277(0.007) 0.1058(0.001 ) Average IECI 0.0593(0.130) 0.0501 (0.077) The evidence revealed by this latter test implies that there is no clear-cut association between the degree of importance of host government incentives and the extent to which firms in the same industry group r ival each other in entering countries offering incentives that would be important to those firms. TABLE 5-5 Coefficients of Correlation of CECIs with Importance of Individual Guarantees Received (n=268) Guaranteed Repatriation of 3-year CECI 5-year CECI 7-year CECI 10-year CECI Dividends: Capital: Royal t ies: Interest: Spearman's r: 0.1572(0.005) Kendall's tau: 0.1191 (0.002) Spearman's r: Kendall's tau: Spearman's r: Kendall's tau: Spearman's r: Kendall 's tau: 0.1588(0.004) 0.1202(0.002) 0.1001 (0.051 ) 0.0761 (0.032) 0.1545(0.005) 0.1174(0.002) -0.1751 (0.002) -0.1603(0.001 ) -0.1769(0.002) -0.1615(0.001) -0.1708(0.003) -0.1549(0.001 ) -0.1978(0.001 ) -0.1768(0.001 ) -0.2109(0.001) -0.1577(0.001 ) -0.2130(0.001 ) -0.1594(0.001 ) -0.1483(0.008) -0.1143(0.003) -0.2186(0.001) -0.1614(0.001 ) -0.2239(0.001) -0.1639(0.001 ) -0.2264(0.001 ) -0.1662(0.001 ) -0.1471 (0.008) -0.1057(0.005) -0.2172(0.001 ) -0.1542(0.001 ) Average CECI -0.2134(0.001 -0.1742(0.001 -0.2154(0.001 -0.1754(0.001 -0.1819(0.001 -0.1518(0.001 -0.2169(0.001 -0.1761 (0.001 I r a n P H n r i n a l - Spearman's r: 0.1356(0.013) -0.2148(0.001 ) -0.2141 (0.001 ) -0.2122(0.001 ) -0.2235(0.001 ^ Kendall's tau: 0.1015(0.006) -0.1916(0.001 ) -0.1559(0.001 ) -0.1480(0.001 ) -0.1795(0.001 CO Guaranteed Special: Tax Rates: Depreciation Rates: Investment Grants, Low-Cost Loans: Tax Hoi idays: Low Import Duties: Tariff Protection: Other: Spearman's r: Kendall 's tau: Spearman's r: Kendal 1 's tau: Spearman's r: Kendall's tau: Spearman's r: Kendall's tau: Spearman's r: Kendal 1's tau: Spearman's r: Kendall 's tau: Spearman's r: Kendall 's tau: TABLE 5-6 Coefficients of Correlation of CECIs with Importance of Special Grants Received  ( n = 2 6 5 j 3-year CECI 5-year CECI 7-year CECI 10-year CECI Average CECI -0.2021 (0.001 ) -0.1711 (0.001) -0.1154(0.030) -0.0958(0.010) 0.1812(0.001) 0.1544(0.001 ) 0.1899(0.001 ) 0.1604(0.001 ) 0.0798(0.096) 0.0670(0.051) -0.1820(0.001 ) -0.1546(0.001) -0.1327(0.015) -0.1093(0.004) 0.1594(0.005) 00.1725(0.002) 0.1353(0.001 ) 0.1449(0.001 ) 0.0706(0.126) 0.0579(0.080) -0.1306(0.017) -0.1064(0.005) -0.1833(0.001 ) -0.1550(0.001 ) 0.0642(0.149) ^0.0503(0.111) 0.0655(0.144) 0.0551 (0.091 ) -0.0208(0.368) -0.0240(0.280) -0.1597(0.005) -0.1338(0.001 ) -0.1265(0.020) -0.1069(0.005) 0.1401(0.011) 0.1189(0.002) 0.1541(0.006) 0.1302(0.001 ) 0.0616(0.159) 0.0501 (0.112) -0.1048(0.043) -0.0841(0.020) -0.1812(0.001) -0.1544(0.001 ) -0.0033(0.479) -0.0032(0.469) 0.0526(0.196) 0.0466(0.128) -0.0373(0.272) -0.0356(0.193) -0.1142(0.031 ) -0.0957(0.010) -0.1320(0.015) -0.1107(0.003) -0.0628(0.153) 0.0539(0.094) 0.1198(0.025) 0.1010(0.007) 0.0352(0.283) 0.0262(0.261 ) -0.2147(0.001 ) -0.1844(0.001) -0.0864(0.079) -0.0737(0.036) 0.1727(0.002) 0.1481(0.001 ) 0.2245(0.001) 0.1935(0.001) 0.1174(0.027) 0.1000(0.007) 75 After having tested possible associations between these rather general data and ECIs, data expressing the importance of a series of individual incentives received and their importance to the firms' investment decisions were correlated with ECIs by country. The results of these tests are presented in Tables 5-5 and 5-6. The evidence presented in the above mentioned tables tends to confirm the results obtained ear l ier . The correlation coefficients had almost consistently negative and s t a t i s t i c a l l y significant values. A further test involving correlations of these incentivesvariables with ECIs by industry fai led to produce s ta t i s t i ca l l y significant relationships; this then would neither confirm nor refute the evidence assembled thus far . Thus oligopolists generally do not seem to 'crowd' their investments in countries which offer various assurances and guarantees. These findings may, to some extent, be due to the fact that the majority of the firms' subsidiaries were located in industralized countries which do not usually offer special incentives to individual f irms, or whose governments were not asked by the firms for special assurances or grants. Generally, however, i f at a l l important, such assurances, guarantees and incentives were only of secondary value to the respondent firms which welcomed them as bonuses. Firms did not, as a rule take into account such incentives when calculating the feas ib i l i t y of individual investment opportunities. Several executives commented on this issue expressing their doubts of the success of investment incentive programs when considered from the point of view of the host goverments. "Such incentives are welcome and we would be foolish not to accept them, but the foreign venture must be feasible on i ts own merits and i t would constitute bad corporate pol icy, i f such incentives would be included in projected prof i tab i l i t ies rather than treated as incidental bonuses. All the promises, guarantees and grants can disappear 76 overnight with a change in government. When investing in foreign countries one must make a long-term decision and disregard rather temporary incentives. If this rule had been disregarded by firms that had invested in South America, many of those subsidiaries would probably have encountered tremendous d i f f i cu l t i es because of disappearing incentives." (An executive of a firm with extensive interests in South America.) Thus the notion that host government incentives and assurances entice oligopolists to invest in their countries cannot be accepted on the basis of the evidence obtained in this study. Further research in this area could possibly arrive at different conclusions from those presented here, and i t is clearly necessary to test the va l id i ty of such an argument. Import Restrictions A case can be made for host government restr ic t ive trade policies as being an important factor in forcing ol igopolists to undertake defensive investments in order to maintain a threatened market. In this section the attempt is made to verify this hypothesis. In i t ia l tests involving the use of ECIs by country or area fai led to produce any s ta t i s t i ca l l y significant results; further use of CECIs had to be abandoned, and instead ECIs by industry were used as dependent variables. At the outset a qualitative explanatory variable expressing the importance of protecting a threatened market, when individual investment decisions were made, was correlated with ECIs by industry. The results of this test are shown in Table 5-7. TABLE 5-7 77 Coefficients of Correlation of IECIs with Importance of Market Protection  (n=363) Spearman's r Kendal 1 's tau 3-year IECI 0.0961 (0.039) 0.0849(0.010) 5-year IECI 0.0961 (0.039) 0.0837(0.011) 7-year IECI 0.2847(0.001 ) 0.2297(0.001 ) 10-year IECI 0.2524(0.001) 0.2032(0.001) Average IECI 0.2847(0.001) 0.2297(0.001) This relationship was consistently significant in s tat is t ica l terms yielding positive correlation coefficients of somewhat low values. Thus there appears to be a positive linear association between the importance of defending a threatened market and the degree of entry concentration. The matter of defensive investment behaviour was pursued further, and firms were asked to provide their assessments of the importance of t a r i f f s and other trade barriers upon individual foreign investment decisions. The data obtained were then correlated with IECIs. The correlation coefficients resulting from this test are presented in Table 5-8. TABLE 5-8 Coefficients of Correlation of IECIs with Importance of Tariffs and Quotas  [ F 3 6 3 ] Spearman's r Kendall's tau 3-year IECI 0.2703(0.001 ) 0.2219(0.001 ) 5-year IECI 0.0615(0.121) 0.0488(0.082) 7-year IECI 0.3627(0.001 ) 0.3055(0.001 ) 10-year IECI 0.3316(0.001 ) 0.2768(0.001 ) Average IECI 0.3627(0.001) 0.3055(0.001) 78 These results showed consistently positive correlation coeff ic ients, some had f a i r l y good values, and most of these were s ta t i s t i ca l l y signif icant. This implies that, as a general rule, trade restrict ions imposed by the prospective host countries tend to force firms to react defensively by rushing into those countries and establishing local manufacturing units. The t a r i f f issue was tested further, as information was also received on levels of ta r i f fs that existed in some countries, before the respondent firms invested there. These data were correlated with IECIs, and the results of this analysis are presented in Table 5-9. This evidence suggests that a f a i r l y good case can be made in favour of the t a r i f f and quota argument. Thus high t a r i f f barriers that rest r ic t growth of the firms' sales in that market, or that even threaten the firms' market position, force firms to invest in manufacturing operations in the countries in question. Firms producing automobiles, electr ical equipment and machinery were part icularly affected by ta r i f f rates and other trade barriers which v i r tua l ly forced them to make decisions to invest in local production, particularly in South America, India, and to some extent Japan, Canada and the United States. The European automobile industry's export markets were particularly threatened by the introduction of local-content rules in 13 various countries. "When the South African government introduced local content requirements, we had the choice of either abandoning that market or assembling our automobiles loca l l y . We chose the lat ter course; later we had to change our assembly operation into a f u l l manufacturing unit , because the government had raised the local-content rules to a level which 14 made assembly of knocked-down units v i r tua l l y impossible." TABLE 5-9 Coefficients of Correlation of IECIs with Individual Tariff Rates  Tariff Rate of Country 3-year IECI 5-year IECI 7-year IECI 10-year IECI Average IECI A (n-43): ^T^'V^ v ' Kendall1s tau 0.2182(0.080) 0.1938(0.033) 0.2388(0.062) 0.2162(0.021 ) 0.2388(0.062) 0.2162(0.021) 0.2551(0.049) 0.1024(0.257) 0.2403(0.012) 0.1078(0.171 ) R (r,-r>7\. Spearman's r: B l n " J / > - Kendall's tau: 0.3736(0.011) 0.3297(0.002) 0.3302(0.023) 0.3002(0.004) 0.3302(0.023) 0.3002(0.004) 0.1115(0.256) 0.1078(0.174) 0.2818(0.046) 0.2573(0.013) r n^-•^ n^  Spearman's r: L W-™>' Kendall's tau: 0.4521(0.006) 0.4028(0.001 ) 0.4541(0.006) 0.4158(0.001) 0.4541 (0.006) 0.4158(0.001 ) 0.3596(0.025) 0.3434(0.004) 0.3760(0.020) 0.3405(0.004) n /„-o/n. Spearman 's r: D ( n " 2 4 ) : Kendall's tau: 0.2236(0.147) 0.1981(0.087) 0.2270(0.143) 0.2089(0.076) 0.2270(0.143) 0.2089(0.076) 0.1784(0.202) 0.1698(0.123) 0.1966(0.179) 0.1760(0.114) F / n = 9 9 \ . Spearman's r: L [ n C L ) ' Kendall's tau: 0.3174(0.075) 0.2859(0.031 ) 0.2846(0.100) 0.2667(0.041 ) 0.2846(0.100) 0.2667(0.041) 0.0998(0.329) 0.0982(0.261) 0.2590(0.122) 0.2421(0.057) 10 80 Complete or partial prohibition of imports by several countries during the early 1950's forced automobile and pharmaceutical firms in particular to invest in local operations. According to the executive of a major European automobile company "The Argentine government prohibited a l l further imports of motor vehicles during the early 1950's, and in Brazil ta r i f f s were raised to prohibitive levels . Our company did not want to lose these large and lucrative markets to our U. S. competitors, and we made the decision to manufacture at least our trucks in these countries while abandoning our less important Argentine passenger car market; we are s t i l l exporting passenger cars to Brazil despite the high t a r i f f s . This is due to the fact that our cars compete on the basis of quality and as status symbols, and they are thus products that are sold under pr ice- inelast ic demand conditions." The pharmaceutical industry is v i r tua l l y unable to export i t s products in signif icant amounts to foreign countries because of local government regulations differ ing from those in the home country with respect to composition, quality and usage. "We had to invest in the countries we are operating in today, including Canada, because pharmaceuticals have to be cert i f ied by the local authorit ies; i t is quite d i f f i c u l t for a foreign drug to obtain this cer t i f i cat ion . Thus incorporating local ly and manufacturing the products there is the only viable method for maintaining or expanding our market position in that country and preventing our competitors from 15 squeezing us out of that market entirely. In contrast to the evident lack of impact that direct government incentives had upon the firms' investment decisions, the evidence presented in this f inal section suggests that the import-restriction argument can be supported more effectively. Thus government action designed to force firms to substitute local manufacture for exports and to threaten them with loss of that market to competitors, unless the firms comply, appears to be an 81 effective measure only i f the particular market or i ts potential was suff ic ient ly large and important to the individual firm that i t could not afford to abandon i t and yield i t to competitors. This evidence contrasts with the findings of Scaperlanda and Maurer who presented the proposition in their study of U. S. direct investment in the European Economic Community.that U. S. firms invested in the EEC ch ief l y , because i t constituted a large market which could not be ignored and where USS. firms fe l t their presence was mandatory. The t a r i f f argument could not be suff ic ient ly substantiated in their study, which was based largely on relationships between macroeconomic variables. However, the large-market argument is by no means rejected in the present study; most firms stressed the importance of being present in certain markets. They d id , however, undertake mainly defensive investments in order to avoid losing individual markets due to restr ict ive trade policies or in order to enable them to expand their market positions which they could not achieve through exporting. Summary The above analysis showed that actionstaken by the firms' home country governments have not produced the desired effects, in particular investments in developing countries have not resulted from parent government incentives to any significant extent. Measures adopted by some home countries designed to curb further domestic expansion have only recently affected their industries' investment decisions. It is expected that these policies wi l l be more pronounced in their impact upon foreign investment decisions in the future. Similarly i t was shown that host government incentives did not appear to materially affect the sample's foreign investment decisions. Such incentives were merely regarded as incidental but welcome bonuses. However, the evidence presented above suggests that high t a r i f f rates and the erection of prohibitive non-tariff barriers seem to be f a i r l y effective in forcing ol igopolists to manufacture local ly in order to avoid losing their market positions to competitors that choose to manufacture loca l l y . The evidence presented in this chapter implies that government regulations involving penalties and/or threats appear to be more effective in 'enticing' ol igopolists to invest abroad than incentives. In other words the stick is more powerful than the carrot. Knickerbocker, in op_. c i t . pp. 171-191. 2 i b i d , p. 182 3 Bundesjrepubl ik Deutschland, Vermoegenssteuergesetz, Sec. 9, 9a BGBL. IS. 1856, Bonn (Germany), 1970. 4 Bundesrepubl ik Deutschland, Auslandsinvestitionengesetz, BGBL. IS. 1214, Bonn (Germany), 1 969. 5 Bundesrepubl ik Deutschland, Entwickl ungshilfe-Steuergesetz , BGBL. IS. 217, Bonn (Germany), 1968 Bundesrepublik Deutschland, Verordnung ueber Entwickl ungsl aender i .S . des Entwicklungshilfe-Steuergesetzes, BGBL. IS. 1173, Bonn (Germany), _67_ g "While our government encourages investment in French Af r i ca , for example, i ts attitude is one of neutrality toward investment in other developing nations. Our government does, however, take a dim view, i f a French firm invests in production f a c i l i t i e s in Belgium or Germany." (an executive of a major French automobile company). 83 The lack of success of such incentives provided by the German government was pointed out by Deutsche Gesellschaft fuer wirtschaftl iche Zusammenarbeit, in Jahresbericht 1 972, Bundersministerium fuer wirtschaftl iche Zusammenarbeit, Bonn (Germany), 1973. A more detailed description of some of the export credit and foreign investment insurance schemes of selected European countries was presented by: J . G. Brown in The Export Development Corporation, i ts  Role and Effectiveness in B. C. unpublished M.B.A. Thesis, University of B. C , 1971. An executive of a major Swiss electr ical equipment manufacturer made these comments: "Although we only received relat ively small compensation from the Polish and Rumanian governments, our investment in the a f f i l i a t e s there had been repatriated before the change in government; the payback periods were quite short, and we had even repatriated some profits. Thus losing our Polish and Rumanian a f f i l i a t e s was not a very painful matter". The Swiss government recently severly curtailed immigration into Switzerland; this policy further aggravated the already existing shortage of labour and wi l l ultimately force some of the Swiss firms surveyed to make investments in new plants abroad rather than at home. A Dutch executive made the following comments: "Our government would l ike to see Dutch firms invest anywhere in the world but in The Netherlands because of soc ia l , po l i t ica l and environmental problems associated with further expansion of industry". One German chemical firm employed f i f t y thousand people at i t s main plant, and the radius of i ts workers commuting daily to and from work covered approximately f i f t y to sixty miles. "There is no way we can materially add to our plant capacity here, because our labour-intake radius would then have to increase to eighty or one hundred miles, and no-one would be wi l l ing or able to commute over such distances. We are also unable to import and to accommodate additional foreign workers near our plant because of recently imposed restr ict ions of immigration of foreign labour, and because of severe housing shortages in this area brought about by measures designed to halt growth of urban areas. To set up new plants in other regions of Germany would not solve this problem either, thus we are v i r tual ly forced to make new investments abroad and to l imit our capital expenditures in Germany to improvements of existing f a c i l i t i e s " (an executive of one of the largest German chemical corporations). A personal friend of this writer sold his highly profitable firm in The Netherlands - - where the situation is similar to that in Germany - - precisely for this reason in the fa l l of 1973. He subsequently invested the monies he realized from the sale in Switzerland and Belgium whose governments are s t i l l committed to maintaining free market systems operating without excessive government regulation. The German automobile and chemical industries in particular are now at a disadvantage vis a vis their U. S. competitors because of higher labour costs in Germany and lower relative productivity of the German worker. 13 Some of the countries named by the respondents were: Canada, Brazil , Argentina and most other South American nations, South Af r i ca , Australia and some Asian countries. 1 4 This comment was made by an executive of a major European automobile company. 15 An executive of a major European producer of pharmaceuticals made these comments about his f irm's experiences with respect to local government pol ic ies ; this firm has had manufacturing operations in Canada since 1947. 85 CHAPTER SIX CONCLUSION In this study the attempt was made to assess the val id i ty of the o l igopol ist ic competition theory of foreign direct investment with the use of European examples. The evidence presented implies that the hypothesis formed at the outset of this thesis has essentially been ver i f ied. Summary of the Findings At least some weak l inks were established between oligopoly in factor markets and defensive investment behaviour. It was found in particular that high levels of technology controlled by individual firms were positively and signif icantly related to degrees of Entry Concentration. This test also revealed that ol igopol ists concentrate their Research and Development efforts in their home countries, and they spend relatively small sums on R & D abroad. Thus firms tend to invest defensively in order to protect their know-how and technology. The mainly conceptual evidence presented also tended to verify that companies concentrating their entries into foreign countries are usually endowed with a superior calibre of management vis a vis local enterprises. Links between degrees of o l igopol ist ic competition in output markets were also presented in this study. Some positive relationships were established between degrees of product differentiation and entry r ival ry . It was also demonstrated that firms having achieved strong market positions at home tend to r ival each other in investing in foreign countries in order to obtain similar market positions abroad. Thus o l igopol is t ic equi l ibr ia in the domestic markets tend to sp i l l over into the international scene. 86 A weak l ink was also established between economies of scale and entry r ivalry . This suggests that defensive investments are chiefly sizeable commitments on the part of the parent firms. Some evidence of firms rushing to integrate vert ical ly was also found to exist chief ly among metal producers and, to some extent, chemical corporations. It was also found that firms whose profit margins were low or declining tended to invest abroad in a more concentrated manner than companies enjoying high levels of p rof i tab i l i t y . Highly profitable firms are not necessarily inclined to accept added risks and possibly lower returns by investing abroad. Firms whose domestic prof i tab i l i ty is low or declining w i l l , however, attempt to defend their overall prof i tabi l i ty by investing in foreign countries. Product diversif ication and l icensing, believed to be alternatives to foreign direct investment, were analysed, and their relationships to o l igopol ist ic investment behaviour were assessed. These courses of action, however, were not found to be viable alternatives for o l igopol ists . In particular licensing was rejected, because such an arrangement does not offer the firm sufficient protection and control over i ts technology. Also royalties are insuff icient compensation for the know-how made available by the licensor. Final ly the evidence presented in this thesis only part ia l ly supports the notion that government policies have considerable impact upon the foreign investment decision process of oligopolies. Neither home nor host country government incentives appeared to spur investments to any significant degree. It was shown that .foreign aid policies of some capital exporting countries, notably Germany, did not materially affect their firms' decisions to invest in developing countries. Investment incentives offered by capital importing countries, although considered to have been welcome bonuses, did not appear to have had significant impact upon individual investment decisions. 87 'Negative incentives' provided by governments, however, appeared to have been more effective in spurring foreign direct investment. For example, the evidence suggests that policies adopted by some of the parent country governments designed to discourage domestic industrial expansion appear to have forced some firms to invest abroad extensively. Measures adopted by capital importing countries designed to inhibit imports and thus threatening the foreign firms' markets appeared to have been more effective in attracting foreign investment than generous investment incentives. In particular t a r i f f s , quotas and other import restrictions and local-content rules seemed to have forced firms to substitute local manufacture for exports. Implications for Capital Importing Countries, _ Canada in particular The country that must import capital in order to develop i ts industrial structure is faced with the situation where a few large foreign firms control the technology and s k i l l s that are needed for this purpose, and i t may fear to be at a disadvantage with i ts bargaining power vis a vis these ol igopol ists . However, df i ts market is suff ic ient ly large, and i f the foreign firm had already exported i t s products to that country, i ts government enjoys considerable leverage over the foreign firm's investment decision. It is not suggested here that Canada should raise her t a r i f f walls or tighten import quotas, this would not only contravene the GATT convention to which Canada is a signatory, i t would also result in retal iation on the part of her major trading partners which she could not afford. 88 There.may, however, be room for other policies through which investment can be attracted. As a general rule, this should not so much be done by way of generous incentives but through such measures as for example local-content rules and moral suasion. Canada's record of pol i t ica l s tab i l i t y is a further advantage that she can offer to investors. Since ol igopolists tend to rival each other in entering into a foreign market, Canada would have considerable bargaining power by attracting one member of the industry, as the other members may want " in" as wel l . A high entrance fee could be demanded from the others, possibly in the area of ownership, and the Foreign Investment Review Act appears to be an effective means by which such a fee can be extracted. Because, as mentioned ear l ie r , Canada may want to attract less U. S. investment in the future, European investment may be a counterbalancing force. It may also be easier to persuade European parent firms to make some equity in the venture available to Canadians, since European companies appear to be less r ig id in their ownership and control policies than U. S. firms. In order to prevent permanent dependence upon technology discovered and perfected in the foreign investors' home countries, special rewards should be offered and given to the firms, i f they conduct and expand Research and Development in Canada. This could be an important factor in Canada's drive toward development of more secondary industries.^ Such measures presuppose, however, the existence of a well-defined development strategy for Canada, and industries selected for that purpose must f i t that pattern. From Domestic to Multinational Oligopolies The evidence presented in this study suggests that oligopoly, once entrenched in domestic markets of the advancing countries, tends to expand internationally because of inter-company r iva l ry . Some of Canada's industrial 89 sectors, in particular the aluminum, agricultural machinery, mining and petroleum industries, have already entered that stage. It may be worth considering whether Canada wants to develop into a major base for international companies in the future. Hymer and Rowthorn went to the extreme in predicting that firms wi l l take part in a process of cross-investment in the important national and international markets, and this wi l l ultimately lead to multinational market structures, each of which wil l be dominated by a few multinational 2 firms and characterized by stable o l igopol ist ic equi l ibr ia . Such an extreme development in international business affai rs would, however, depend to a large extent upon government policies or a lack thereof, and such a prediction tends to be pure conjecture or speculation in that i t assumes away the countervailing power of governments. This study merely looked at one area of international investment theory. Further and more thorough analysis of this subject wi l l be necessary; in particular further refinement of the data and additional treatment of the variables used for testing the theory may be necessary. It i s suggested, however, that the use of more sophisticated and complex analytical methods, is l i k e l y to reinforce the general conclusions of this study by c lar i fy ing details; and directions of causation. P.W. Fischer, in Per Einfluss des Auslandskapitals auf die  Wirtschaftl iche Entwickl ung Argentinians 1880-1 964. Ibero-Amerika-Institut fuer Wirtschaftsforschung Umversitaet, Goettingen, Germany, 1970 reached a similar conclusion in the case of Argentina. 2 Hymer, Stephen and^  Rowthorn, Robert in "Multinational Corporations and International Oligopoly: "The Non-American Challenge", in Kindleberger (ed.) The International Corporation pp. 81-82. M.I.T. Press, Cambridge, Mass., 1970. 39 sectors, in particular the aluminum, agricultural machinery, mining and petroleum industries, have already entered that stage. It may be worth considering whether Canada wants to develop into a major base for international companies in the future. Hymer and Rowthorn went to the extreme in predicting that firms wi l l take part in a process of cross-investment in the important national and international markets, and this wi l l ultimately lead to multinational market structures, each of which wi l l be dominated by a few multinational 2 firms and characterized by stable o l igopol ist ic equi l ibr ia . Such an extreme development in international business affai rs would, however, depend to a large extent upon government policies or a lack thereof, and such a prediction tends to be pure conjecture or speculation in that i t assumes away the countervailing power of governments. This study merely looked at one area of international investment theory. Further and more thorough analysis of this subject wi l l be necessary; in particular further refinement of the data and additional treatment of the variables used for testing the theory may be necessary. It is suggested, however, that the use of more sophisticated and complex analytical methods, is l i ke l y to reinforce the general conclusions of this study by clar i fy ing details and directions of causation. P.W. Fischer, in Per Einfluss des Auslandskapitals auf die  Wirtschaftl iche Entwicklung Argentinians 1880-1 964. I be ro -Amer i ka -Institut fuer Wirtschaftsforschung Umversitaet, Goettingen, Germany, 1970 reached a similar conclusion in the case of Argentina. 2 Hymer, Stephen and Rowthorn, Robert in "Multinational Corporations and International Oligopoly: The Non-American Challenge", in Kindleberger (ed.) The International Corporation pp. 81-82. M.I.T. Press, Cambridge, Mass., 1970. ~ ~ ~ 91 Leftwich, Richard H. The Price System and Resource Al location. Holt-Rinehart & Winston, New York, 1966. Lipsey, Richard G. , Sparks, Gordon R. and Steiner, Peter 0. Economics. Harper & Row, New York, 1973. Markowitz, Harry. Portfolio Selection, Eff icient Diversification of  Investments. Wiley & Sons, New York, 1959. Nie, Norman H., Bent, Dale H. and Hul l , C. Hadlai. Stat ist ical Package for  the Social Sciences. McGraw-Hill, New York, 1 970. Norgren, Marie and Sjorgren, Ingeborg. Industry in Sweden. The Federation of Swedish Industries, Stockholm, 1968. Pr i t zko le i t , Kurt. Maenner, Maechte, Monopole. Karl Rauch Verlag, Duesseldorf, Germany, 1 953. R i t ter , PIanungsgruppe. Transfer von Technologie in Entwicklungsiaender. Koenigstein, Taunus (Germany), 1 973. Robinson, Richard D. International Business Policy. Holt, Rinehart & Winston, New York, 1964. Robock, Stefan H. and Simmonds, Kenneth. International Business and Multinational Enterprises. Richard D. Irwin, Homewood, 111., 1973. Salera, V i r g i l . Multinational Business. Houghton Mi f f l in Co., Boston, Mass., 1 969. Samuel son, Paul A. and Scott, Anthony. Economics, Third Canadian Edit ion, McGraw-Hil 1, Toronto, 1 971. Schweizerische Bankgesellschaft. Les Principales Enterprises de Suisse. Zurich, 1972. . Die groessten Unternehmen der Wei t . Zurich, 1971. . Schweizer Aktien fuehrer. Zurich, 1973. Schweizerischer Bankverein. Kleines Handbuch der Schweizer Aktien 1973. Zurich, 1973. Snider, Del bert A. Introduction to International Economics (5th ed.) Richard D. Irwin, Homewood, 111., 1971. Stopford, John M. and Wells, Louis T. Managing the Multinational Enterprise;  Organization of the Firm and Ownership of the Subsidiaries. Basic Books, New York, 1972. Sweden, General Export Association of. Swedish Export Directory 1 972 (54th ed.) . Kungl Boktrykeriet Norsted & Soner, Stockholm, 1973. Tomlinson, J . W. C. The Joint Venture Process in International Business:  India and Pakistan. M.I.T. Press, Cambridge, Mass., 1970. 92 Van Home, James. Financial Management and Policy. Prentice-Hall , Englewood ,C1 i f f s , N. J . , 1968. Watkins, Melv i l le . Foreign Ownership and the Structure of Canadian Industry. Information Canada, Ottawa, 1968. Wormald, Avison. International Business. Pan Books, London (England), 1973. Zenoff, David B. and Zwick, Jack. International Financial Management. Prentice-Hall , Englewood C l i f f s , N. J . , 1969. Art ic les Caves, Richard. "International Corporations: The Industrial Economics of Foreign Investment" in Dunning, John H. (ed.) International Investment Penguin Books, Harmondsworth (England), 1972, pp. 2bb-3UI. Frankfurter Allgemeine Zeitung. "Ein VW-Werk in den Staaten", May 14, 1974. Hederer, C. , Hoffmann, C. D. and Kumar, B. "The Internationalization of German Business" Columbia Journal of World Business (September/October 1 972) pp. 38-44. Hymer, Stephen H. and Rowthorn, Robert. "Multinational Corporations and International Oligopoly: The Non-American Challenge", in Kindleberger, Charles P. (ed.) The International Corporation, M.I.T. Press, Cambridge, Mass. (1970), pp. 57-91. Rose, Sandford. "Multinational Corporations in a tough New World" Fortune (August 1 973) pp. 52-56, 134. Scaperlanda, Anthony E. and Maurer, Laurence J . "The Determinants of U. S. Direct Investment in the E.E.C.", American Economic Review, Vol. LIX, No. 4, Part 1 (September 1969) pp. 558-568. Stobaugh, Robert B. and Robbins, Sidney M. "How the Multinationals play the Money Game" Fortune (August 1973), pp. 59-62, 138, 144. Uttal , Bro. "A Return Flow of Technology from Abroad" Fortune (August 1973), P. 63. Vancouver Province. "VW to Build in U. S. New Car Plants", May 14, T974. Vernon, Raymond. "International Investment and International Trade in the Product Cycle" in Dunning, John H. (ed.) International Investment Penguin Books, Harmondsworth (England), 1 972, pp. 305-325. Government Publiciations and Legislation 93 Deutschland, Bundesrepubl i k . Gesetz ueber steuerl iche Massnahmen bei Auslandsinvestitionen der deutschen Wirtschaft. Bundesgesetzblatt I. S. 1214, Bonn, Germany, August 18, 1969. . Vermeogenssteuergesetz: Bundesgesetzbl att I. S. 1856, Bonn, Germany, December 12, 1970. . Gesetz ueber steuerliche Massmahmen zur Foerderung von privaten Kapitalanlagen in Entwicklungslaendern. (Entwickl ungshil fe-Steuergesetz) Bundesgesetzbl att I. S. 217, Bonn , Germany, March 15, 1968. . Verordnung ueber Entwickl ungslaender i .S . des Entwickl ungshil fe-Steuergesetzes. Bundesgesetzbl att I. S. 318, Bonn, Germany, May 13, 1964; I. S. 1173, November 24 , 1 967. United Nations. Multinational Corporations in World Development, Department of Economic and Social A f fa i r s , New York, 1973. Unpublished Material Brown, James G. The Export Development Corporation, i ts Role and Effectiveness  in B. C. unpublished M.B.A. thesis , The University of Br i t ish Columbia, Vancouver, B. C., 1971. Eng, Chua T. Direct Private Investment: A Survey and Reconsideration of Traditional Theory, unpublished M.B.A. thes is , The University of Br i t ish Columbia, Vancouver, B. C. , 1971. Hymer, Stephen H. The International Operations of National Firms: A Study  of Direct Investment, unpublished Doctoral Dissertation, M. I.T., Cambridge, Mass., 1960. Toml inson, J.W.C. and Hirmiel sbach, Hans-Joachim. Foreign Trade and Investment  Decisions of Canadian Companies, unpublished Working Paper No. 182. Division of International Business Studies, Faculty of Commerce and Business Administration, The University of Br i t ish Columbia, Vancouver, B. C. , March 1973. Toml inson, J.W.C. and Himnel sbach, Hans-Joachim. Foreign Trade and Investment  Decisions of European Companies, unpublished Working;Paper No. 260. Division of International Business Studies, Faculty of Commerce and Business Administration, The University of Br i t ish Columbia, Vancouver, B. C , May 1 974. 94 A P P E N D I X 95 APPENDIX A SELECTION OF THE SAMPLE AND RESEARCH METHOD Preliminary Research For the purpose of obtaining a l i s t of European firms that maintain subsidiaries outside their home countries, several sources of information were used. As a starting point, the various European Trade Missions or Consular Offices in Vancouver, B. C , were contacted to provide some information either in the form of additional contacts1 or reference 2 materials. Two Trade Commissioners through their home offices established contacts with firms and cleared the way for interview appointments. Three Trade Commissioners produced l i s t s of internationally operating firms domiciled in their countries, thus making additional search for a sample of firms unnecessary. Number of Firms Selected and Breakdown by Countries A total of one hundred firms were approached located in the following countries: Austria 14 Belgium 11 France 11 Germany 24 Netherlands * 5 Sweden 1g Switzerland 16 Total 100 Fifty-two firms participated, and of those, three answered questionnaires while executives of the remaining forty-nine firms were 3 personally interviewed. 96 The net sample of the firms was broken down into the following 4 countries: Austria 5 Bel gi urn 4 France 5 Germany 14 Netherlands 2 Sweden 10 Switzerland T2_ Total 52 Research Method An extensive questionnaire was prepared in English and German, but i t was not mailed to the interviewees in advance. Based on previous experience in similar studies, a poor participation rate and an inferior quality of responses would have been expected. Executives generally displayed unfavour-able attitudes toward questionnaires that have been flooding their off ices. Some executives stated, that, while they were generally favourable toward personal discussions about their f irms, they refused to even consider 5 answering questionnaires mailed to them. Questionnaires, either in English or German, were, however, mailed to thirty-two firms in France (4), Germany (15) and Switzerland (13), which could not be visited because of time constraints. As expected, the results were rather meagre; of the six firms that replied acknowledging receipt of the questionnaires, only two companies answered the questions, while the remainder refused to participate. Thus, instead of mailing questionnaires to the participating firms, their top executives were personnally interviewed, while the question-naire was merely used as a guide and framework within which the interviews were conducted. These interviews were between ninety minutes and four hours in duration. 97 APPENDIX B Calculation of Entry Concentration Indices In order to be able to compute Entry Concentration Indices, i t was necessary to obtain the following information from the respondent f i rms: 1. The firm's nature of business, 2. the countries where the firm's subsidiaries are located, and 3. the years in which each individual foreign a f f i l i a t e was established. While the f i r s t two sets of data were relat ively easi ly obtained, exact information on the dates, when the firms' individual subsidiaries were established, was not always readily available. As mentioned in Chapter One, the analysis was restricted to foreign investments made during the period following World War II. ECI by Industry Entry Concentration Indices (ECIs) were computed for five industry groups: 1. Primary Metals and Metal Fabrication 2. Machinery 3. Automobiles and Transportation Equipment 4. Electrical Equipment and Electronics, and 5. Chemicals and Pharmaceuticals. Because of small sample s izes, individual countries had to be grouped into the following six broad geographical regions for the purpose of this computation: 1. Canada and U.S.A. 2. Latin America 3. Europe 4. Africa 5. Southwestern As ia , and 6. Australasia and Japan. 98 A minimum of two entries per country was necessary for the computation of an ECI by industry. Using the subsample Chemicals and Pharmaceuticals as an example, the computation of an ECI is demonstrated. The largest numbers of entries into the individual geographical regions are determined for any 3-year, 5-year, 7-year and 10-year period. These figures are then total led up and divided by the total number of entries. The figures obtained represent the percentages of total interactions that occurred during any given 3-year, 5-year, 7-year or 10-year interval. F inal ly , a simple average of these four figures is computed representing the Average Entry Concentration Index for the period. Table B-l presents the calculation method and results obtained for the industry group Chemicals and Pharmaceuticals. ECI by Country or Area The procedure used for computing ECIs by country or area is essentially the same as the method used for determining ECIs by industry. Nineteen countries or geographical regions were established, and individual entries of a l l industries into these regions were used for the computation. The data obtained are shown in Table B-3. Tor example: Bundesverband der Deutschen Industrie. 2 Such reference materials used were published by German and Swiss banks and by the General Export Association of Sweden. 3 The research method wil l be described below. 4 For a more detailed description of the respondent firms and their foreign a f f i l i a tes see Tomlinson and Himmelsbach, Foreign Trade and Investment  Decisions of European Firms. 5 . . Tomlinson and Himmelsbach, in Foreign Trade and Investment Decisions of Canadian Firms, found similar reactions among Canadian executives. Table B-l Example of Construction of Entry Concentration Indices (Chemical and Pharmaceutical Industry) Year* Maximum Maximum No. of Subs. No. of Subs. Maximum No. of Subs. Maximum to. of Subs. r j i r j • u l ™ . UT 3 U D S . Formed 1n any Formed in any Fo r med 1n any Formed 1n any Total Entries Entry Into Area Lll^lkL^lllU.]llll±]l]l]L]3.]l?l?^LlL?l^.^lt§.?Lll^l^.^L 3-year Period 5-year Period 7-year Period 10-year Period U.S.A. ' Canada Latin America Europe Africa** Southwestern Asia Australia 1 Japan Total Regions 3 1 1 4 1 1 1 1 1 3 1 2 2 3 5 1 1 1 1 2 1 3 5 10 2 _2_ 22 5 5 12 2 _2 26 6 7 14 2 _3 32 6 9 18 2 _3_ 38 9 17 25 • 4 _4_ 59 Three-Year Entry Concentration Index F1ve-Year Entry Concentration Index Seven-Year Entry Concentration Index Ten-Year Entry Concentration Index Average Concentration Index 22 59 26 5T 32_ 59 38 55" 0.3729 0.4407 0.5424 0.6441 0.3729 + 0.4407 + 0.5424 + 0.6441 JJ 0.5000 * Year 1 • 1945, Year 31 * 1975 **Africa was excluded from the computation, because there was only one entry into that area. Table B-2 Entry Concentration Indices (by Industry) 100 Industry 3-year ECI -year ECI 7-year ECI 10-year ECI Average ECI Metals 0.3415 0.4634 0.5123 0.6341 0.4878 Machinery 0.5625 0.5625 0.6875 0.6875 0.6250 Automobiles 0.6364 0.7727 0.7727 0.7727 0.7386 Electrical & Electronics 0.4571 0.5714 0.6000 0.7143 0.5857 Chemicals & Pharmaceuticals 0.3729 0.4407 0.5424 0.6441 0.5000 Table B-3 Entry Concentration Indices (by Country or Areas) Country or Area 3-year 5-year 7-year 10-year Average ECI ECI ECI ECI ECI Canada 0.2222 0.3333 0.4444 0.6667 0.4167 U.S.A. 0.2500 0.3750 0.5000 0.6250 0.4375 Brazil 0.3684 0.3684 0.4211 0.4737 0.4079 Argentina 0.2000 0.3000 0.3000 0.5000 0.3250 Mexico 0.5000 0.5000 0.6250 0.7500 0.5938 Other Latin America 0.3333 0.4444 0.5556 0.6667 0.5000 Benelux 0.2941 0.4118 0.5882 0.7647 0.5147 France 0.3077 0.4615 0.6923 0.6923 0.5385 England & Ireland 0.4286 0.4286 0.5714 0.5714 0.5000 Scandinavia 0.5000 0.6250 0.6250 0.6250 0.5938 I taly , Spain, Portugal 0.3158 0.4737 0.4737 0.5789 0.4605 Yugoslavia, Greece, Turkey 0.6667 0.8333 0.8333 0.8333 0.7917 Germany 0.2500 0.4167 0.5000 0.5000 0.4167 Austria, Switzerland 0.3333 0.4167 0.5000 0.7500 0.5000 South Africa 0.3333 0.4444 0.4444 0.5556 0.4444 Other Africa 0.2500 0.2500 0.5000 0.5000 0.3750 Austral ia 0.3333 0.5000 0.6667 0.8333 0.5833 Japan 0.2500 0.5000 0.5000 0.5000 0.4375 Other Asia 0.3125 0.3750 0.4375 0.5000 0.4063 

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