The impact of territorially concentrated FDI on local labor markets: Evidence from the Czech Republic☆
Introduction
Improving labor market outcomes is a key goal for most policymakers, and for many economies attracting foreign direct investment (FDI) is viewed as an important tool to improve local labor market conditions. After the collapse of communism, the Central and Eastern European countries (CEECs) have experienced a transition towards a market economy. This process involved a huge inflow of foreign investment,2 either due to a comparative advantage in low-skill and physical capital-intensive sectors or as a result of the privatization of banks and state-owned enterprises.
The main goal of this paper is to assess the impact of a large, territorially concentrated FDI inflow on local labor market outcomes, using the largest investment project in the Czech Republic during 1993–2006, the Toyota-Peugeot-Citroën joint investment into the automobile sector in Kolín, the Czech Republic. This project is used to quantify the effect of FDI on district unemployment outflow and inflow rates, aggregate unemployment exit hazard rates, and, consequently, both the unemployment and employment rates. Central and Eastern Europe is especially appropriate for such an analysis as there was a lack of FDI under the centrally-planned system up to 1989, and since 1989 it has experienced several huge greenfield investment projects. For policymaking purposes, it is crucial that the impact of such large projects is analyzed rigorously and this study focuses on one of the largest realized projects in the CEEC region. The most appropriate econometric techniques are used, ensuring that estimates are consistent and standard errors are not underestimated.
The motivation for this study is threefold. First, countries promote FDI inflow using various policy incentives — either direct (financial subsidies) or indirect (such as building infrastructure). These incentives require significant government spending,3 raising questions about the efficiency of such schemes. A rigorous analysis of FDI effects is necessary for a correct assessment of the efficiency of governmental investment policies.4 In other words, it remains an open question whether the real benefits arising from an investment project in a particular region outweigh the cost of the subsidies for the state budget.5 FDI subsidies are usually scaled according to the target region. Governments assume the effect of FDI inflow on the local economy is economically significant and thus, firms that invest in regions with higher unemployment rates are preferred and receive more favorable treatment (a higher level of financial incentives). From a social standpoint, this regional differentiation is justified only if concentrated FDI inflow substantially improves local labor market outcomes.
Second, while there seems to be a great deal of literature concerning the effects of FDI on firm performance, there are few studies analyzing the impact of large FDI inflows on local labor markets. Studies have focused on the implication of FDI on the productivity of domestic firms (Aitken and Harrison, 1999, Javorcik, 2004) and on regional development (Harris and Taylor, 2005) but there is limited research evaluating the impact of investment on local labor market outcomes (Mickiewicz et al., 2000). Third, the automobile investment project in Kolín was quite unique in its scale and therefore it provides a good opportunity to accurately evaluate the impact of a large one-off project.
The average effect of the investment project on the local labor market is estimated using matching techniques. The idea is to match a treated district with otherwise similar districts that did not undergo a large FDI inflow so that labor market dynamics can be compared to a counterfactual state for the treated district. We employ the method of propensity score matching as introduced by Rosenbaum and Rubin (1983) and the identification strategy is based on a conditional difference-in-differences estimation, following Heckman et al. (1997). The findings suggest that the one-off investment project has a statistically significant and economically sizeable impact on the unemployment rate and the employment rate, driven by an increase in short-term unemployed exit hazard rates.
Section snippets
Survey of the literature
Most literature analyzing FDI effects on a host country concentrates on technology spillovers to domestic firms. This paper focuses instead on the channels through which FDI affects employment. These channels work directly through creating jobs in new firms or indirectly through spillover effects (transferring technology and improving the efficiency of complementary or competing firms, leading to changes in labor force demand), crowding-out effects and distributional effects.
The direct effect
The TPCA investment
In December 2001, PSA Peugeot Citroën and Toyota Motor Corporation9
Methodology
Unemployment, commonly viewed as a leading labor market indicator, is an outcome of a dynamic process determined by flows to and out of unemployment. Specifically, a change in unemployment U is caused by changes in outflow O from unemployment and/or inflow S into unemployment. Following from this, a separate analysis of unemployment flows offers a more informative insight into unemployment dynamics than the aggregate unemployment rate. The number of reported unemployed at the end of period t is
Identification strategy
We assess the effect of the investment project on local labor market outcomes by propensity score matching (Rubin, 1974, Rosenbaum and Rubin, 1983), along with the difference-in-differences (DID) matching approach (Heckman et al., 1997). The main idea of the matching method is to approximate the counterfactual to identify the impact of a particular treatment on an outcome variable despite the unavailability of experimental data. The propensity score matching procedure involves two steps: the
Data
Detailed empirical analysis is based on unemployment data from the Unemployment Registry (UR), the Labor Force Survey (LFS) and FDI data from the Czech National Bank (CNB).
The UR data contain information from the District Labor Offices on the number of registered unemployed. The data cover the period 1998–2006 and include district-level information about unemployment flows into and out of unemployment on a monthly basis and the structure of unemployment by education, age, gender and
Results
We start the evaluation of the FDI impact on the local labor market with an analysis of overall unemployment and overall employment. The next step is to examine unemployment flows since these are the underlying processes behind changes in the stock of unemployed. Finally, we address the role of aggregate exit hazard rates and identify duration categories that contributed the most to the change in unemployment.
Conclusion
In this paper, we evaluate the impact of the TPCA investment project (the largest foreign investment project in the Czech Republic between 1993 and 2006) in the district of Kolín on local labor market performance. Our identification strategy rests on a comparison of Kolín with control groups of districts. Control group districts did not experience as large an FDI influx as Kolín, but otherwise resemble Kolín in terms of labor market structure and the propensity to attract a large one-off FDI
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The authors would like to thank Štěpán Jurajda for his valuable comments and Randall Filer for his feedback and suggestions. Also, many thanks go to Sarah Peck and Richard Stock for editing various versions of the paper. The authors are grateful to the Grant Agency of Charles University (Grant No. 7810/2007) and the Sasakawa Young Leaders Fellowship Fund of Charles University for financial support. The usual disclaimer applies.
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CERGE-EI is a joint workplace of the Center for Economic Research and Graduate Education, Charles University, and the Economics Institute of the Academy of Sciences of the Czech Republic.