A developing country may attract foreign direct investment (FDI) for (1) technology transfer that increases local firm profits or for (2) wage premiums that benefit workers. The two never occur together but if the country can attract FDI, it is guaranteed either the technology transfer or the greater pay for workers—although those benefits may not be great enough to make FDI more attractive than exporting.
Glass and Saggi construct an oligopoly model in which a multinational firm has a technology superior to those of local firms in the host country. Workers employed by the multinational acquire knowledge of the superior technology and can spread their knowledge to local firms by switching employers. The multinational chooses to pay a wage premium to prevent local firms from hiring away its workers if the local firms are sufficiently disadvantaged or if there are enough local firms.
Diffusion of the superior technology benefits local firms at the expense of workers, whose wages suffer.
The host government might have an incentive to attract foreign direct investment even when technology transfer will not result, because of the wage premium local employees of the multinational firm earn.
Also, foreign direct investment with technology transfer may reduce the total economic rent the host country earns.
This paper—a product of Trade, Development Research Group—is part of a larger effort in the department to better understand the role of multinational firms in international technology transfer. Copies of the paper are available free from the World Bank, 1818 H Street NW, Washington, DC 20433. Please contact Lili Tabada, room MC3-333, telephone 202-473-6896, fax 202-522-1159, Internet address ltabada@worldbank.org. Kamal Saggi may be contacted at ksaggi@worldbank.org. (32 pages)
The full report is available in PDF format.