The Effect of Direct Foreign Investment on Domestic Firms: Evidence from Firm Level Panel Data in Emerging Economies

This paper uses firm level panel data to investigate empirically the effects of direct foreign investment (DFI) on the productivity performance of domestic firms in three emerging economies of Central and Eastern Europe, Bulgaria, Romania and Poland. To this end a unique firm level panel data set is used with detailed information on foreign ownership at the firm level. Three key questions are addressed in the present paper: (1) do foreign firms perform better than their domestic counterparts? (2) do foreign firms generate positive spillovers to domestic firms? (3) Do technological spillovers from foreign firms depend on the absorptive capacity of domestic firms? I find that firms with some foreign investment perform better than firms without foreign participation. I find no evidence of positive spillovers to domestic firms on average. In contrast, on average there are no spillovers to domestic firms in Bulgaria and Romania, while there are negative spillovers to domestic firms in Poland. In addition, for Bulgaria and Poland, I find evidence that the absorptive capacity of domestic firms might matter to benefit from foreign investors. The results are consistent with recent theories of R&D spillovers through DFI.