R&D and Foreign Subsidiary Performance at or Below the Technology Frontier

We examine the effect of R&D on foreign subsidiaries’ productivity performance. We argue that both local R&D expenditures in the subsidiary and R&D conducted in the wider network of the multinational enterprise (MNE) for the subsidiary improve productivity but that their respective roles depend on whether the host country of the subsidiary is at or below the global technology frontier. Local R&D is more effective if the host country is at the frontier, while R&D conducted in the MNE network is more effective if the host country is behind the frontier. In the latter case, both types of R&D are complementary and reinforce each other’s effect on productivity performance. We test hypotheses on fine-grained longitudinal micro data on affiliate productivity and R&D investments. We estimate dynamic productivity models controlling for endogeneity and allowing for declining returns to R&D and productivity convergence.