June 25, 2018
Are global firms good?
A small number of firms dominate international trade.
New research provides a framework for understanding global firms.
Only a handful of firms dominate international trade, and their decisions affect people around the world.
These global firms are massive, operate in many parts of the world, and account for a substantial share of trade between countries. They include GE, Apple, and Bose — firms that are constantly in the news. These characteristics make them different than most other firms, but economics research often overlooks their unique nature. Given the importance of global firms, economists need a better way to study them.
Researchers Andrew Bernard, J. Bradford Jensen, Stephen Redding, and Peter Schott might have found that better way. In the June issue of the Journal of Economic Literature, the researchers develop a framework that specifically looks at global firms. The resulting insights can help economists better understand what these firms looks like, how they behave, and why only a few have an outsized role in international trade.
We need to consider how all of the activities of a firm are linked.
Moreover, this framework can act as a “summary and focal point” for researchers to organize their thoughts on global firms, Schott said in an interview with the AEA. It can also be a “roadmap” that generates new information, sparks questions, and provides guidance for future research.
Only a subset of all firms participate in international markets. However, the model implies that these firms — the ones that either import or export — tend to perform better than those that are purely domestic. They are larger and more productive, and they are more likely to both import and export.
Of course, global firms can participate in the international economy in additional ways. They can choose production locations, export markets, products to export to each market, the countries from which to source inputs, and more. The authors predict that all of these decisions are interdependent. For example, a firm that saves money by sourcing inputs from one country can grow. With a larger operation, they will probably find it profitable to source inputs from other countries as well — a costly process to set up that other firms cannot afford.
The authors confirm this with empirical evidence: global firms export more of each product to each of their markets, export more products, export to more markets, import each product from each of their source countries, import more products, and import from more source countries.
This interdependence means that each decision a firm makes ripples across all other decisions, thereby magnifying the effect of small firm differences on performance. A firm that becomes a little more productive ultimately exports a lot more. And, a small decrease in trade costs can induce a global firm to significantly boost their exporting and importing.
Global firms not only participate in the international economy (and they do so intensively), but they also act as powerful players in it. Because global firms affect the entire market, they can strategically charge different amounts in different markets. They can also introduce new products differently in different markets.
This brings up an important question: are global firms good? They do increase countries’ abilities to produce more with less, which benefits much of the world. After all, their ability to source products more cheaply means that they can offer products at a lower cost to consumers. On the whole, most economists agree that global firms are welfare-enhancing.
At the same time, these productivity gains are not always fairly distributed. These challenges, as well as potential issues with antitrust regulation, are critical to consider when thinking about global firms.
As researchers and policymakers figure out how to mitigate these consequences while preserving the benefits, they must first understand the fundamentals.
“We need to consider how all of the activities of a firm are linked,” Schott said.
With this new framework, economists have taken a significant step toward achieving that understanding.
"Global Firms" appears in the June issue of the Journal of Economic Literature.