Modeling The Dynamics of Firms’ International And Product Market Diversification Strategy: The Case of U.S. Firms’ Response to Late 20th Century Globalization

This paper derives and estimates a theory-based empirical specification that models a firm’s choices of its international diversification (ID) and product diversification (PD) and how they evolve over time in response to shocks that alter the relative cost and relative profitability of ID and PD. We use longitudinal data on U.S. manufacturing firms from 1984-1999, a period of intense shocks associated with rapid globalization, to estimate a dynamic panel data Tobit model that permits lags in a firm’s adjustment to its optimal mix of ID and PD over time. We find strong support for the theoretical framework underlying our empirical specifications and posited dynamics, with full adjustment estimated to require, on average, 1.5 years; a finding with implications for the time spacing of observations in empirical studies of ID and PD to avoid biased inferences. Among the globalization shocks during the time period studied, our results indicate that global competitive pressures and efficiency gains from global supply integration to be the more important factors driving U.S. firms toward greater ID relative to PD. Augmentation of firms’ organizational (managerial) and physical capital resources are also found important for supporting an expansion of ID relative to PD. Technological resources augmentation is instead found to favor expansion of PD relative to ID.