Firm-specific advantages, multinational joint ventures, and host country tariff policy.

• Author: Purkayastha, D.

1. Introduction

   In recent years multinational firms have shown a tendency to vertically disintegrate the production process into a number of plants across different countries. These firms have also shown an increasing willingness to form joint ventures with local firms. For example, some U.S.-Japanese joint ventures now assemble U.S. and Japanese autoparts in the U.S. to sell the final products in the North American market. The phenomenon is especially important in less developed countries (LDCS) where, in some cases, as much as 80 percent of total foreign capital may be in the form of joint ventures [9].

   The literature on vertically integrated multinationals is voluminous (see Rugman and Eden [12] for a survey), but very few authors have explored the implications of vertically disintegrated joint ventures between an upstream input supplier and a downstream final goods producer. While Hirshleifer [8] analyzed the transfer price implications of a vertically integrated industry, Monteverde and Teece [11] were the first to point out that quasi-vertical integration may be a stable organizational form when appropriable quasi-rents exist between the downstream and the upstream firms.(1) Recently, Contractor and Lorange [4], Beamish [2], and Harrigan [7] have pointed out that quasi-vertical integration has evolved as an organizational form because both firms have some firm-specific advantages which make joint ventures mutually beneficial.(2) In the Japanese market, for example, some U.S. firms tend to collaborate with local Japanese partners simply because the Japanese firms have much better knowledge of the local distribution networks [9].(3)

   This paper constructs a model of multinational operation which has the choice of forming a joint venture with a downstream firm in another country. I assume that the downstream "local" firm is interested in establishing an alliance with the multinational because the multinational has some firm specific advantages. More specifically, the multinational can produce an input in its upstream plant that is not available to the local firm. Similarly, the multinational also finds it advantageous to form an alliance with the local firm because the local firm has unique entrepreneurial knowledge of local conditions, offers cheaper inputs and has better ties to the government and the important buyers. Welfare implications of government tariff policy are explored and it is shown that under certain circumstances, an import-restricting tariff may indeed increase the welfare of the domestic consumers.

2. The Model

   Assume that a multinational firm has an upstream plant located in Country 1. This plant produces a technologically complex input X with the help of skilled labor [L.sup.s] and other inputs not available in Country 2. With regard to Country 2, the firm now faces two choices:

   (a) Produce good [Q.sub.m] in a facility in Country I and export [Q.sub.m] to Country 2. Country 2 has a high tariff barrier against all final goods imports.

   (b) Produce [Q.sub.h] in a location inside Country 2 and sell it in Country 2's domestic market. In this case the multinational will have to export X to Country 2 to produce [Q.sub.h] We assume that X has a lower tariff than [Q.sub.m].

   (c) If the firm chooses option (b), it must also decide whether or not to engage in a joint venture with a local firm. We assume that the government does not impose any restrictions on foreign equity holdings.

   A crucial assumption of the model is that in all cases, the high technology intermediate inputs are produced by the multinational in a location outside Country 2's territory. Clearly, options (a) and (b) are not mutually exclusive. Assume that [Q.sub.m] and [Q.sub.h] are closely related on the production side (i.e., [Q.sub.m] stands for luxury cars and [Q.sub.h] stands for economy cars: both use similar intermediate inputs), but [Q.sub.m] has a less elastic demand compared to the demand for [Q.sub.h] in Country 2's domestic market.

   In the case of (c), the possibility of a joint venture raises some conceptual issues...