Cultural Proximity and Local Firms’ catch up with Multinational Enterprises

Highlights

• We attempt to provide a theoretical foundation for the technology gap hypothesis.

• We emphasize the role of cultural proximity in local firms’ catch-up with MNEs.

• Cultural proximity facilitates local firms’ catch-up with overseas Chinese MNEs.

Summary

Integrating and extending new growth theory and resource-based views, this paper provides a theoretical foundation for the catch-up hypothesis. It examines the role of technology gap, technological capability, and cultural proximity in local firms’ catch-up with MNEs. Hypotheses are developed and tested with a dynamic model on a large firm-level panel dataset from Chinese manufacturing. The results confirm that catch-up is positively related to technology gap and technological capability. Furthermore, in the presence of cultural proximity, the speed of local Chinese firms’ catch-up with MNEs from Hong Kong, Macau, and Taiwan is not significantly lower than that with other MNEs.

Introduction

Catch-up has long been in the interests of managers, economists, and policymakers. Any catch-up implies an increase in productivity in the lagging firm, or a rise in gross domestic product (GDP) and possibly social welfare in the backward economy, and the emergence of new economic power helps lift the entire global economy (Mandel, 2004). The catch-up hypothesis (CUH) developed by Gerschenkron (1962), Abramovitz (1986) and Maddison (1979), among others, suggests that a firm or country behind the world innovation frontier can grow faster by imitating technologies already developed in technologically more advanced economies. The larger the technology gap between the firm or country and the world innovation frontier, the faster the catch up. In this sense, CUH is also known as the technology gap hypothesis (TGH) (Hussler, 2004).

The traditional catch-up literature is descriptive, focusing on historical analysis of cross-country income convergence (Fagerberg, 1995). Recent literature contains econometric analysis of convergence or catch-up mainly at the macro level (e.g., Archibugi and Filippetti, 2011, Cameron et al., 2005, Griffith et al., 2009, Parente and Prescott, 1999), though there are a small number of micro level studies (e.g., Aiello et al., 2011, Baily et al., 1992, Bartelsman and Doms, 2000, Disney et al., 2003, Lee et al., 2012). Knowledge diffusion and imitation are essential for catch-up, but they are by no means automatic (Fagerberg, 1995). Following Ohkawa and Rosovsky (1973) and Abramovitz (1994) adopts the concept of “social capability” to explain catch-up, and a key element is technology. However, TGH is at its early stage, lacks a sound theoretical foundation for the determinants of social capability.

More recent economic literature attempts to apply new growth theory (NGT) to explain convergence or catch-up between countries by emphasizing the role of externalities from not only international trade and foreign direct investment (FDI), but also a country’s own technological capability (TC) (Archibugi and Filippetti, 2011, Balasubramanyam et al., 1996). The business or management literature also emphasizes TC. As argued by Dyker and Radošević (2001), whether the follower can catch-up depends on its ability to assimilate technology and brings its own knowledge stock up.

CUH developed in the existing literature is culture-free. While there are several studies of the role of national culture in technology diffusion (e.g., Hussler, 2004, Palich and Gomez-Mejia, 1999) and innovation (Boschma, 2005, Mattes, 2012), they do not directly link this to catch-up. In the same vein as Steensma, Marino, Weaver, and Dickson (2000) discussion of the creation of technology alliances, technology is diffused and assimilated in a societal context. Therefore, cultural values affect the efficiency of technology diffusion and the speed of catch-up. Among the exceptions, Palich and Gomez-Mejia (1999) and Hussler (2004) argue that technology diffusion is culture dependent, and greater efficiency of knowledge sharing is achieved between culturally related firms than unrelated ones, although their studies are yet to be firmly linked to theories.

This paper departs from the mainstream catch-up literature as it focuses on the micro-level study of productivity catch-up of local firms with multinational enterprises (MNEs) in the presence of international trade and FDI within one emerging economy rather than a macro-level study of cross-country or cross-region per capita income or productivity convergence. This paper addresses two important issues. First, is there any catch-up of local firms with MNEs in an emerging economy like China? This question will be answered by comparing the productivity growth pattern and technology gap of local Chinese firms with those of MNEs during the sample period. Second, if there is catch-up, what are its determinants? Particularly, what is the role of cultural proximity in the catch-up? The second research question will be answered by testing two hypotheses with the first focusing on the general economic and business determinants, and the second on cultural proximity.

China provides an ideal context for addressing these questions. Since its economic reform and opening up in 1978, Chinese foreign trade has grown by approximately 15% per year, and FDI into China is now more than US$ 80 billion a year (Lau & Bruton, 2008). China has already become a major destination for FDI in the world and a trading country of global rank (OECD, 2008). There are two main sources of China’s inward FDI: MNEs from Hong Kong, Macau, and Taiwan (HMT-MNEs), and other MNEs mainly from OECD countries (Other-MNEs). Local Chinese firms have a greater technology gap with Other-MNEs than HMT-MNEs (Liu et al., 2009, Wei and Liu, 2001, Wei and Liu, 2006), but enjoy cultural proximity with the latter. In addition, China is emerging as a significant player in R&D and innovation, and increasingly becoming integrated in the global system of knowledge creation, diffusion, and adoption (OECD, 2008). This provides local Chinese firms with great opportunities for learning from advanced economies and developing their own TC. This context enables us to develop and test novel hypotheses regarding local firms’ catch-up with different types of MNEs.

This paper contributes to our understanding of catch-up in the following ways. First, it tries to ground CUH on a combination of new growth theory (NGT) and resource-based views (RBV). While NGT is sometimes used in previous macro-level studies, we argue that both NGT and RBV focus on TC, and their combination provides a better theoretical framework for CUH when this topic is researched at the firm level. Second, we explicitly incorporate cultural proximity into CUH. In our analytical framework, cultural proximity is seen as a special resource to facilitate technology spillovers. We not only incorporate a cultural determinant, but “identify how this change affects the accepted relationships between the variables” (Whetten, 1989, p. 492), i.e., how the addition of cultural proximity affects the accepted relationship between technology gap and catch-up as specified by the traditional TGH. The consideration of cultural proximity in this context should be a legitimate, value-added contribution to theory development (Whetten, 1989). Third, different from many existing studies which deal with cross-country or cross-region catch up, we compare the speeds of local firms’ catch up with culturally-close and culturally-distant MNEs in an emerging economy based on a very large firm-level panel dataset for the first time, and should contribute to the empirical literature.

The next section deals with theory and hypothesis development, integrating and extending NGT and RBV to explain CUH. Cultural proximity is incorporated into the analytical framework as a special resource facilitating technology diffusion and catch-up. We then discuss the data, model, measurement, estimation methods, and empirical results. The final section concludes.