Foreign Direct Investment and Small Countries || Multinationals' Strategies and the Economic Development of Small Economies: A Tale of Two Transitions

Multinationals' Strategies and the Economic Development of Small Economies: A Tale of TwoTransitionsAuthor(s): Robert PearceSource: MIR: Management International Review, Vol. 49, No. 1, Foreign Direct Investment andSmall Countries (2009), pp. 81-94Published by: SpringerStable URL: http://www.jstor.org/stable/40658302 .

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MIR (2009) 49:81-94 DOI 10.1007/S11575-008-0126-5

RESEARCH ARTICLE

Multinationals9 Strategies and the Economic Development of Small Economies: A Tale of Two Transitions

mir Management InTBinuiiOnOI If 6VIGW

Robert Pearce

Abstract and Key Results:

• The processes of globalisation open up new potentials for MNE participation in the development of small economies. Thus the pursuit of global competitiveness by MNEs, operating through a range of strategic motivations, can be supported by different types of affiliates that can be based on the potentials of small economies.

• Efficiency seeking operations of MNEs can benefit from cost-effective inputs of small economies (as, for example, in export processing zones) and activate their export potentials.

• Knowledge seeking by MNEs can be generated interdependently with the creation of localised systems of innovation that support bases of sustainable development in small economies.

Keywords: Subsidiary Development • Export Processing Zones • Creative Transition •

Dynamic Clusters

Received: 01.10.2008 /Revised: 01.11.2008 /Accepted: 01.11.2008 © Gabler- Verlag 2009

R. Pearce (El) School of Economics, Henley Business School, University of Reading, Reading, UK



82 R. Pearce

Introduction

One important effect of the growth in economic liberalisation and internationalisation of markets in recent decades has been a significant impetus to the viability of self-sustaining development in the economies of small countries. The argument here draws together two elements of these processes. Firstly, the growing freedom in international trade has allowed an access to wider (regional or global) markets to facilitate development of a competitive industrial sector. Secondly, that liberalisation in domestic economies has allowed foreign direct investment (FDI) to provide vital inputs to the export-oriented industrialisation. Furthermore, it is then central to this argument that the freedoms and flexibilities facilitated by globalisation have led to MNEs generating networked strategies that allow them to pursue different aspects of a growing strategic heterogeneity in different locations worldwide. This, in turn, means that the strategic purpose of a MNE's operation in a particular location can evolve in ways that can embed it beneficially in the competitive progress of both the location and the firm. We here develop these themes in terms of the twin propositions that MNEs can find valid roles for operations in small-country economies and that these roles can evolve over time so as to be compatible with these countries' economic development.

It is innate to any development process that the competitive bases underpinning its achievement must change over time, normally in ways considered as an upgrading of capabilities. To relate this to the form of MNE involvement and its evolution over time we here elaborate two transitions that, firstly, secures the implementation of export-oriented industrialisation and, secondly, moves this towards a new more dynamic basis incorpo- rating new knowledge and innovation. The next section, therefore, introduces the under- lying view of the MNE as a dynamic differentiated network. Then the two transitions are described in detail, to emphasise how an increasingly embedded and self-sustaining development process can be derived from a creative interaction between MNE strategic diversity and the renewed sources of host-location competitiveness.

MNEs' Strategic Heterogeneity

The scope for international business to be involved, on a sustainable basis, in the development of small economies can be realistically found in the increased geographical dis- persion and fragmentation of its operations over the past forty or so years, and the crucial interrelatedness of this with the growing internationalisation of most elements of MNEs' value-chains. Here we can discern this in a typology of three different strategic motivations that can be encompassed within particular affiliated operations. Also important in the emphasis on the economic development of individual locations is the scope for MNEs' operations to evolve through the different types of motivations, so as to play changing roles in companies' global networks and to expand (by encompassing emerging host-economy competitiveness) the parts of the value-chain embodied in their scopes. The three motivations (market seeking; efficiency seeking; knowledge seeking) can be seen as a plausible (though by no means immutable or irreversible) sequence, both in



Multinationals' Strategies and the Economic Development of Small Economies 83

terms of the evolution of a subsidiary within the competitive scope of an MNE and in terms of how this interfaces with the development of its host location.

In the traditional articulation of the motivation typologies market seeking (MS) invol- ves MNEs' producing significant parts of their mature product range in a country for supply, probably exclusively, to that country's market.1 Though the adoption of MS supply would be perceived by MNEs as the best (albeit defensive or satisficing) means of reali- sing adequate profitability from a viable market under particular constrained conditions, it is usually seen as involving endemic inefficiencies (Pearce 2001, 2006, Papanastas- siou/Pearce 1999) that mean it does not represent part of a globally-optimal production structure for the firm.

By contrast, efficiency seeking (ES), responding to the absence of the constraints con- ditioning MS (notably moves to freer international trade), does allow for the attempt to build an optimal global supply network for the MNE's existing range of price-competitive goods. Thus an ES subsidiary focuses on production that utilizes those factor inputs that represent the host-location's current sources of static comparative advantage. This, taken with realisation of economies of scale through access to external markets (albeit usually internal to the MNE group) allow the ES subsidiary to target a distinctive position in its parent's supply network. Crucially, whereas MS would normally require a large host-country market to secure acceptable contributions to group profitability, ES can spe- cialise on quite discrete parts of MNE supply programmes (individual products; specific components; stages in a vertically-integrated manufacturing sequence; assembly) that are not conditioned by the size of the host economy.

Both MS and ES represent contingent responses to a MNE's need to secure the best available profitability from its existing competitive assets as embodied in its current product range. But to fully address the needs of strategic competitiveness (Pearce 1999) the firm also has to be continuously and systematically addressing the need to regenerate these capabilities and renew the product range. The internationalisation of the pursuit of such sources of regeneration, in the form of knowledge seeking (KS), has been a vital element in the strategic evolution of MNEs in recent decades.2 At the subsidiary level KS can be manifest in product mandates (PM) (Poynter/Rugman 1982, Crookell/Morrison 1990, Roth/Morrison 1992, Birkinshaw/Morrison 1995, Birkinshaw 1996, Papanastas- siou/Pearce 1999) that are given, often quite autonomous, responsibility for the development of additions to the group's product scope.3 The basis for this would be expected to derive from access to distinctive locally-available creative capabilities. Though the viability of KS may to some degree reflect national government policies (e.g., in science, technology, education), the specific creativity of a PM is likely to derive from internalisation of particular capacities of a much more individualised location, and to not otherwise depend on the size of the country.

First Transition: Efficiency Seeking

The first transition can be seen as being essentially exogenous to the economic development process itself. Firstly, in the sense that it was not directly provoked or triggered by the specific content of the development process; except in terms of being a response to the



84 R. Pearce

very absence of significant and sustainable change4 in small economies when their limi- ted size was exposed as a severe economic constraint in the absence of integration with external markets (and suppliers). Secondly, in the sense that whilst the logical pursuit of integration with international markets (export orientation replacing import substitution as a growth strategy) become clear in reflection of the previous constraints, it became most realistically viable in the context of an internationally-agreed movement towards free trade, economic integration and, ultimately, globalisation. Thus in small countries (even more than in larger ones) the sequence of GATT trade rounds beginning with the Kennedy Round, in the mid-1960s, and regional integration schemes (pioneered in Europe in the 1950s) provided a decisive external facilitating context to the realisation of previously thwarted sources of development.

The essence of the first transition is that the small economy does possess sources of potential competitiveness (positive location advantages); predominantly a labour supply and other complementary inputs (energy, raw materials) that can support its participation in significant export-oriented value-added operations.5 The implicitly antecedent import- substitution context of protectionism, taken with the small local market (and low-income local demand patterns), meant that drawing of these sources of comparative advantage into competitive use had not yet been realised (in what would, for MNEs, have been MS operations). But alongside these existing macro-level potentials (i.e., the sources of latent comparative advantage), realisation of export-oriented competitiveness will also be dependent on access to micro-level, firm-specific, capabilities able to turn these inputs into internationally-competitive goods. These can include product technologies whose factor proportions require the input mix that defines the host-country potentials; management skills applicable to effective operationalisation of these inputs (notably abilities in organising and motivating a large labour force that is new to industrial employment practices); and, crucially, access to already established and receptive international markets. Both the low level of the small economy's development, and the forms taken by any existing economic activity, implies the likely absence of such indigenous enterprise competences. However, these attributes (as OAs) are precisely those possessed by MNEs that are pursuing the ES sharpening of the global competitiveness of an international supply network through the accessing of more cost-effective inputs (i.e., LAs). Therefore, we can presume that for a small economy the leveraging of its first transition potentials into competitive entry into the international economy is most likely to be secured through an opening to participation of international business.

The initial manifestation of first transition success would be a high rate of economic growth as the previously unemployed, or severely underutilised, inputs are drawn into fully-competitive value-adding activity. At this stage it would be expected that the local inputs would be mainly, or ideally, operationalised in their existing forms, since the MNEs are assumed to select these parts of their varied production technologies (and, thereby, implied products for supply) that match the input availabilities.6 This quite swift movement to an economy's current production possibility frontier is then often argued to constitute an endemic constraint in industrialisation strategy, since full-employment of at least some key inputs will lead to increases in their rewards (e.g., real wage rates) that remove the bases of their international competitiveness. For ES MNEs, with an innate need and ability to compare production costs in their range of supply locations, this is




often viewed as being a basis for 'footloose' behaviour. Thus, once a location is perceived to be losing those attributes that initially attracted it, the MNE is argued to possess the scope and motivation to close its operation down and relocate it to another economy that, in effect, now replicates the original LAs of the initial country. In this scenario MNE's flexibility in global supply options allows it to 'hollow out' an industrial growth process that it was able to initially drive and benefit from.

But it can also be argued that the negative 'footloose' scenario underestimates both the wider dimension of MNEs' strategic flexibility and also their willingness to perceive dynamic evolutionary potentials of locations even while they are surrendering their immediate sources of short-term static competitiveness. Whereas external flexibility is manifest in a range of established or potential production locations whose characteristics (LAs) are changing over time, MNEs also possess internal flexibility in terms of a range of current products with different production technologies (OAs) and concomitant different factor input needs.7 In the contemporary MNE we can see the global-supply strategy as involving a continual reconfiguration of the matching of the existing portfolio of OAs with evolving LAs of locations. In this context, once a MNE has fully realised the generally positive nature of a country as a production location it will also react positively to specific changes in that country's LAs. Once a country's changing input characteristics have rendered it a suboptimal location for manufacture of a particular good, supply of this can be relocated elsewhere. But by the same token the upgraded LAs of the original country can now themselves attract supply of other higher-value-added parts of the MNE's range (through inward transfer of new firm-specific competitiveness, a new package of OAs). Thus whilst production of particular goods may indeed be footloose, this certainly need not be reflected in MNEs' reaction to locations themselves.

Realisation of this MNE-based potential is predicated around the movement from quantitative growth, driven by the absorption of underdeveloped standardised inputs, to a less automatic process of development deriving from qualitative enhancement of the value of the host-country's inputs.8 Thus the policy basis for these two phases changes. Initially the strategic opening to international competition (essentially the first transition itself) allows basically unchanged inputs to be drawn into operation. Then, however, policies need to be adopted to improve the productive value of inputs. Now a strong commitment to education and training is necessary to build the capacity for labour to assimilate MNEs' more advanced skill-based technologies, without placing too much of the costly teaching burden on these companies. Similarly improved infrastructure in terms, for example, of more reliable and cheaper energy supplies or better port or airport facilities (to allow more effective integration of a local subsidiary into its group's supply network) can be vital in embedding MNE commitment to ES upgrading processes. Deepening of local value-added might also sometimes occur through MNEs' use of previously underdeveloped raw material potentials, especially if processing of these is implemented so as to provide these inputs in forms suitable to a subsidiary's already implementable ES scopes.

It is certainly possible to argue that the desired upgrading of MNEs' ES commitments may be easier (or more naturally market-driven) in larger host economies where a wider range of inputs can provide far greater flexibility. However, these subsidiaries' growth potentials are in practice likely to be determined by changes in their current input sources which will be mainly in close geographical proximity. Thus developmental potentials are



86 R. Pearce

unlikely to be severely compromised in a small economy, whose policy-based renewals (of the types outlined above) can be tailored to MNEs' expected needs. We can here discern two sets of institutional arrangements that have served to illustrate a geographically- focused emphasis in relating FDI attraction to development.

Firstly, even in large and relatively developed economies (e.g., UK), there has been a clear tendency to devolve the attraction and nurturing of inward investment to a num- ber of smaller, geographically-focused, Regional Development Agencies. Whereas these agencies need to operate within certain confines of national macro and other policies, they focus most decisively on articulating the very explicit attributes and potentials that distinguish their specific region. Crucially, analysis of such Inward Investment Agen- cies (II As), (Young/Hood/Wilson 1994, Young/Hood 1994) increasingly emphasise the importance of 'after-care' in their responsibilities, seeking to recognise the developmental needs of subsidiaries and to thereby embed them in the competitive evolution of the small economy (region).9 Thus Young and Hood (1994, p. 52) suggest that II As expli- citly take account of the fact that MNE subsidiaries "evolve and develop over time in response to a wide variety of variables from global and regional strategies of the parent through the interplay of corporate networks" and, notably, their own performance and competitiveness.10

A second institutional arrangement that has, predominantly, served to generate international competitiveness in small, policy-defined, geographical areas has been the export processing (or free trade) zones that proliferated as poor economies began to experi- ment with export-oriented development.11 Export processing zones (EPZs) are defined by Balasubramanyam (1988, p. 157) "as an enclave outside the customs territory of a country". Goods are allowed to enter an EPZ for processing, manufacture and storage without payment of customs duties and local taxes, and can then subsequently be re-exported without payment of duties. With access to, in particular, low-cost labour, and the support of tax holidays and other financial incentives, these EPZs therefore target the ES aims of MNEs' global strategies and seek, in effect, to underpin the first transition. Interestingly economists have argued that such EPZs can represent a policy compromise that serves as a "second-best method of attracting FDI into export industries for countries wedded to protecting their import-competing industries" with less than optimal developmental results (Balasubramanyam 1988). But, significantly for our purposes, the extension of this argument (Balasubramanyam 1988) is to see the small (city state) economies of Hong Kong and Singapore as exemplifying EPZ success, since "the entire economy . . . could be regarded as a duty-free zone" and thus suggestive of the first transition potential for such geographically-constrained economies to benefit from entry into "a liberal foreign trade regime bereft of tariffs and quotas on imports".

Second Transition: Knowledge Seeking

Continuation of the developmental processes initiated by the first transition needs to com- prise, we have argued, the ability of MNE subsidiaries to upgrade their efficiency-oriented role, so as to secure the competitive potentials of enhanced host-country inputs. To operationalise the improved value-added scope of the country's factors the ES subsidiary




will aspire to carry out more advanced production responsibilities within the current competitive network of the parent MNE. Thus a subsidiary-level upgrading of competences (deriving from assimilation of existing MNE technologies that underpin higher-value parts of its current capacities) is needed in order to match and benefit from the competitive revitalisation of local input. But, our argument here suggests, the prolongation of the mutually beneficial, and increasingly interdependent, upgrading of local inputs and subsidiary capabilities sets up forces that can ultimately lead to a second transition and a fundamental reconfiguration of the subsidiary's strategic role. Thus we can now predict a creative transition for the subsidiary, which is this time endogenous to the development process, since its drivers are the factor and technology upgradings built into efficiency- driven growth.12

From the point-of-view of LAs the upgrading that has the decisive potential to help provoke a subsequent creative transition is in the capacities of human capital (though supportive secondary improvements in other factors may also be significant). Labour that has been increasingly well educated and trained, in reflection of its country's developmental commitments, deepen this expertise and knowledge in context-specific forms as an embedded component of their MNE subsidiary's sequential technological upgradings. But the confidence and ambition engendered in labour in a subsidiary that is asserting ever more significant positions in its group's competitive progress may encourage the aspiration to move beyond dependence on existing technologies and products. Building on their knowledge of the group's more advanced technological scopes, talented and creative subsidiary personnel may perceive new evolutionary potentials (perhaps also embo- dying distinctive local characteristics) beyond their current ES-supply role. With growing entrepreneurial ambitions amongst confident subsidiary management, the desire to articu- late a creative and individualised position in the group's progress (rather than inherit new capabilities generated elsewhere) increasingly drives subsidiary evolution.

On the side of OAs the scenario sees a successful subsidiary gradually acquiring new technologies and product responsibilities that take it ever closer to its MNE's most evol- ved competitive scopes. At a certain point such a subsidiary may become an adjunct to its group's creative processes, by receiving access to new OAs that underpin products whose competitive embodiment is far from finalised. The subsidiary may then be asked to provide general insights towards the completion of the new product innovation or, more specifically, be given a mandate to develop a variant of the new good that is responsive to its own markets and conditions.13 A subsidiary that demonstrates the competences to play this role effectively may soon aspire to a more complete and self-contained innovation responsibility, tapping into host-country technological and marketing perceptions to initi- ate and drive product development. This would represent the creative transition (Papanas- tassiou/Pearce 1999, Pearce 2001) from ES to KS14 as the subsidiary's central role.

Thus the second transition brings together elements of development in both the host economy and the MNE group in a way that changes the status of technology in subsidiary-level positioning. Before the transition the subsidiary had attained its ES role in reflection of its host economy's strengths in standardised production inputs (sources of static comparative advantage) and was then allocated the established group technology that would allow it to fulfil these supply responsibilities; i.e., the role determines the technologies utilised. After the creative transition it is the subsidiary's ability to generate



88 R. Pearce

its own individualised technological capacities (by internalising elements of emerging dynamic comparative advantage in the host-country economy) that determines the role it can accede to in its group's innovation programmes.

Securing the perpetuation of this growth process will then require the product mandate subsidiary to continually reassert its dynamic positioning in its MNE group's creative networks. The most powerful sources of its ability to project these strong developmental scopes will then come from demonstration of particularly distinctive and individualised creative potentials. These, in turn, are likely to derive from the KS subsidiary's ability to detect and internalise strong and distinctive sources of developmental potentials emerging in its host location's markets and science base. But recent research on such subsidiary- level learning processes suggests that they are most effective within a relatively small geographical area around their location. Thus small economies, with carefully-articulated science, technology and innovation-supporting policies, can host, in a mutually-beneficial fashion, an MNE's operations that are a valued part of the group's programmes for competitive development.

A now prominent and much-debated exemplar of creativity focused in a relatively small and self-contained geographical space is the 'cluster' (Porter 1990, 1998, Rugman/ Verbeke 2003, Birkinshaw/Sölvell 2000). These are "geographic concentrations of interconnected companies, specialised suppliers, service providers, firms in related industries and associated institutions (e.g., universities, standards agencies and trade associations) in particular fields that compete but also cooperate" (Porter 1998, pp. 197 et seq.). Porter (1998, p. 198) indicates that clusters are now "a striking feature of virtually every national, regional, state and even metropolitan economy". The central importance of externalities and spillovers within the "system of interconnected firms and institutions" comprising a cluster results in it having a "value as a whole [that] is greater than the sum of its parts" (Porter 1998, p. 213).15

Whereas the EPZs of the ES phase are based around the activation of standardised inputs, that are not themselves generated by the development process, knowledge-based clusters can both generate and apply created and creative assets.16 Thus knowledge that is generated and used by an agent in a cluster can spillover and achieve synergy with other elements in the cluster to enhance knowledge and achieve new competitive applications. The participation of a MNE's KS facilities in a cluster clearly targets the group's creative and learning processes, whether in the form of innovation of a new immediate source of competitiveness (PMs)17 or more speculative tapping into new scientific potentials (R&D that is more oriented towards basic research). But it will do this from a technological background (the group's) which means its own spillovers into the cluster will be distinctive and, therefore, potentially challenging and enriching.18

A detailed and careful discussion of the role of MNEs in clusters has been developed around the concept of the 'flagship' firm (Rugman/Verbeke/D'Cruz 1995, Rugman/ D'Cruz 2000, Rugman/Verbeke 2003).19Here the flagship firm's 'visible hand' is seen to guide "its partners toward a strategy of global competitiveness for the cluster as a whole" (RugmanVerbeke 2003, p. 164), with the flagship's parent MNE's experience in international markets a key determinant of this leadership role. Exercising strategic leadership in the cluster is seen (Rugman/Verbeke 2003, pp. 164 et seq.) to involve three functions. Firstly, to stimulate the development of the "common resource and knowledge" base




that drives the cluster, and generate the necessary shared relationships and routines.20 Secondly, to re-engineer the division of labour among cluster participants, particularly so as to support generation of innovation-oriented activities. Thirdly, to underwrite the cluster's competitiveness by benchmarking its participant's key value-added activities against international best practices.

The cluster that encompasses a MNE operation as its flagship will also involve "key customers; selected competitors; and the non-business infrastructure" (Rugman/Ver- beke 2003, p. 164). Here the expected interaction with the non-business infrastructure ("government, the non-traded service sectors, educational institutions, social services, trade unions, trade associations, and non-profit cultural organisations") indicates the wider developmental potentials of a MNE-driven knowledge-oriented cluster. To a similar effect Rugman and Verbeke (2003, p. 164) emphasise that an MNE's cluster partners may also operate independently in business systems beyond the cluster (i.e., the co-evolution of cluster participants is "always partial") providing wider spillover potentials to development.21

In a complementary strand of analysis the increasing interest in regional systems of innovation (RSI) as providing more subtle and nuanced understanding of location of knowledge generation as a developmental force (Cantwell/Iammarino 2003, Howells 1999) also underwrites the view that small economies need not suffer in terms of competitive positioning in an evolving global economy. Refining the concept of a national system of innovation, itself derived from evolutionary theory (Freeman 1987, Lundvall 1988, Nelson/Rosenberg 1993), Cantwell and Iammarino (2003, p. 11) define the RSI as a "localised network of actors and institutions in the public and private sectors whose activities and interactions generate, import, modify and diffuse new technologies".

In terms of an understanding of central characteristics of the innovation process Cant- well and Iammarino (2003, p. 10) suggest three factors that support the "rising function of local and regional innovation contexts". Firstly, relations with sources of information that are external to the firm, but strongly influenced by spatial proximity. Second, the importance of informal channels for the diffusion of crucial tacit knowledge determines the tendency of innovation to be geographically polarised. Thirdly, the essentially cumu- lative and path-dependent nature of innovative capabilities.

From this background Cantwell and Iammarino's (2003, p. 157) investigation of RSI within the EU provides support for the view that KS MNEs' innovation networks are sensitive to the characteristics of regional systems, and perceive a hierarchy of distinct regional centres within national boundaries. Public support for a regional system's (and by extension a small economy's) ability to develop in a globalised knowledge economy (led by MNEs) can beneficially take two forms (Cantwell/Iammarino 2003, pp. 158 et seq.). Firstly, generation of an "endogenous capacity to produce knowledge and to absorb knowledge generated outside the regional environment". Secondly, increasing the attrac- tiveness of the economy as a means of capturing global flows of innovation. Here the pursuit of a "collective learning capacity" can be supported through technology agencies, consortia, entrepreneurs' associations and generation of public-private cooperations.



90 R. Pearce

Summary

The essence of the strategic aims of contemporary MNEs can be seen as seeking to use the increasing freedoms of international transfers, made available by the processes of globalisation, in order to leverage the differences between economic areas for their overall competitiveness (Pearce 2006). The heterarchical organisational structures generated to achieve this can be characterised as 'dynamic differentiated networks', in which individual affiliates (whether supply subsidiaries, R&D labs or market research units) offer their own distinctive contribution to the competitiveness of the global networks. But these networks are dynamic, since MNEs will continually seek to reconfigure them in order to get best value from all units. Whereas this can involve closure of units, or creation of new ones, it crucially also allows wide scope for upgrading (or diminishing) the roles played by continuing facilities.

Here we argue that this perspective on MNEs' strategic evolution provides two aspects that allow for their increasing participation in the economic progress of small economies. Firstly, whereas the earlier dominant strategic motivation of market seeking was clearly more viable, in terms of immediate profitability, the larger the host-country economy, the motivations that have succeeded it can be seen as depending on conditions that are likely to be defined by quite small economic locations. For efficiency seeking, targeting competitive supply of established goods, the relevant quantitative spatial influence is access to export markets. The qualitative input factors that determine the location of ES subsidiaries, by contrast, are likely to be reflective of quite small geographical areas. For knowledge seeking, pursuing renewed sources of group competitiveness, the types of learning processes that are most relevant normally benefit from localised interdependencies and externalities in a manner that innately positions MNEs' facilities in clusterings of operations that require close spatial contiguity.

Whilst MNEs can be seen to operationalise their ES and KS facilities in ways that aim to make effective use of small economies' current competitive attributes, the second, dynamic, facet of their networks can also sustain and, hopefully, deepen their participation in such economies' development programmes. Whilst development is naturally based on positive changes in the characteristics of a country's input factors (LAs), it is a central argument here that there is also a comparable, and hopefully complementary, pursuit of renewed sources of competitiveness by MNEs. Upgraded inputs into immediate supply should be capable of attracting higher-value-added parts of MNEs' production networks. The later inculcation of distinctive knowledge-based and creative attributes into a small economy's development process can attract the innovation-oriented facets of a MNE's strategic needs, in ways that can provide an embedded interdependency to their competitive progress.

Overall, therefore, three factors suggest a vital role for MNEs' participation in the competitive development of a small economy. Firstly, that opening up to exporting remo- ves the problem of a small market and allows the competitive operationalisation of the economy's sources of comparative advantage. Secondly, that adoption of global-network strategies by MNEs allows for strong participation of facilities (either ES or KS) that can derive their contribution from small local economies. Thirdly, that it is plausible for there to be a strong and natural overlap between the developmental needs of MNEs and the small economies; such that MNE affiliates can be an embedded contributor to the competitive progress of both.




Endnotes

1 This then acts as a component of what Porter ( 1 986) describes as a multidomestic strategy. The two remaining variants of subsidiary motivation applied here then represent elements of the emerging global strategic perspectives described by Porter.

2 Central to their reformulation as heterarchies (Hedlund 1986, 1993, Hedlund/Rolander 1990, Birkinshaw 1994) or transnational (Bartlett/Ghoshal 1989, 1990).

3 Also a logical part of MNEs' KS networks would be 'stand-alone' R&D labs, focusing mainly on precompetitive basic research and R&D collaborations with similarly oriented local university labs.

4 For the purposes of this schematic analysis it is assumed that small economies have remained at very low levels of economic development until the first transition facilitates their involvement with the wider international economy. Thus whatever sources of potential competitiveness the economy may possess it is assumed these cannot be developed significantly when there is, in effect, only access to the very small local market. In parallel with this it is then logical to also assume that there is no MS motivation for MNEs to be involved with small economies.

5 The obvious potential of primary product/raw material supply is excluded here as a defining impetus in the first (industrialisation) transition. Firstly, because sustainable and wide-ranging development needs to encompass labour-intensive manufacturing activities. Secondly, because even before the changes in global trade regimes driving our first transition exports of primary products that were essential to the industrial production of developed economies had been relatively viable (due to escalating tariff structures), but with constrained impacts on economy- wide development.

6 In terms of labour, for example, the aim would be to secure the targeted cost-effective productivity levels through on-site instruction rather than requiring any more profound (time consu- ming) levels of training.

7 The need to also be continually regenerating this range of technologies is what we are here describing as the KS motivation.

8 Thus whilst we have suggested that the 'easy' growth phase represents a movement to the production possibility frontier, the development phase requires outward movement of the frontier itself.

9 A crucial advantage of an ILA representing a small economic area (by comparison with a wider much more diversified and developmentally less coherent space) is that it can feed back into local policy the understood needs of MNE subsidiaries. Thus, for example, Scottish Enterprise "has provided carefully articulated support for training, industry associations, R&D centres, and the generation of new University courses in the context of a full range of after care" (Pearce2001,p.66).

1 0 Thus Young and Hood ( 1 994, p. 53) indicate that HAs' after-care services can help a subsidiary to present a case to corporate HQ for new investment, or support for a bid for significant new projects proposed by the group. These II A activities can, they suggest, seek to omit the adverse effects of intra-group rationalisation of production (in our terms secure ES progress beyond the first transition and avoid 'footloose' exit) or support the more positive ambition of the second 'creative' transition by underwriting attempts to secure the new roles and strategic scope of product mandate innovation.

1 1 Though the Special Economic Zones established in the Coastal States of China are by no means geographically small the principles are very much those dealt with here.



92 R. Pearce

12 In an important contribution to understanding these processes Birkinshaw and Hood (1997, 1998) distinguish between parent-company drivers, subsidiary drivers and host-country drivers in the evolutionary development of subsidiaries.

13 For a formalised view of a global innovation strategy, in which regional product mandate subsidiaries generate variants of a broadly defined 'new product concept' to respond to the differentiated circumstances of their different components of the global market place see Papa- nastassiou and Pearce (1999, pp. 93 et seq.) and Pearce and Papanastassiou (2006).

14 In their study of regional systems of innovation Cantwell and Iammarino (2003, p. 160) discern a similar transformation of a "regional production system into a learning system".

15 Porter notes that earlier views of clusters had emphasised the way agglomeration economies stressed cost minimisation resulting from participants' shared proximity to inputs and to markets. But these, he notes (1998, p. 213) have been "undercut by the globalisation of markets, technology, and supply sources, increase mobility, and lower transportation and communication costs". Thus increasingly "some of the most important agglomeration economies represent dynamic rather than static efficiencies and revolve around innovation and rate of learning" so that "clusters occupy a more complex and integral role in the modern economy" (Porter 1998, p. 208).

16 There should be no expectation that EPZ have a natural impetus towards creative cluster status. If free trade zones "begin as enclaves in an otherwise inefficient business environment, with virtually all inputs imported, all outputs exported, and little or no contact with the rest of the economy" (Porter 1998, p. 253) there is no built in dynamic to generate endogenous sources of competitive evolution. So cluster-type links, including those outside the geographical confines of the original EPZ, need to be encouraged including "the use and development of local suppliers" and "the forging of links with local educational and training institutions". This emphasises that whilst the spatial borders of an EPZ are institutionally defined, those of a 'creative cluster' reflect the economic forces determining the relevant interdependencies and are generally more malleable and open to valuable expansion.

1 7 By coming from the technological heritage of its MNE a PM can contribute an element of dis- tinctiveness to a cluster, whilst at the same time establishing its own individualistic position in its group from what it learns in the cluster. By thus asserting its own position in the MNE group the PM adds its own dimension to the competitiveness of the cluster/small economy. Porter (1998, p. 224) observes that "many firms have relocated entire business units to a cluster location or have designated their cluster-based subsidiary as their regional or world headquarters for that particular line of business".

18 Of course, it is by no means axiomatic that foreign-firm participation increases the dynamism and sustainability of a cluster, and indeed negative scenarios can be suggested (e.g., Ferreira/ Tavares/Hesterly 2006, pp. 94 et seq.). Here Birkinshaw and Hood's (2000) study often leading-edge clusters in Canada (3), Sweden (5) and Scotland (2) suggest a negative relationship between the proportionate level of foreign ownership in a cluster and its dynamism. A con- ventional 'footloose' interpretation would be that "foreign subsidiaries tend to be less deeply embedded in the local economy, and more prone to move, than indigenous firms" so that they are 'bad' for cluster development and sustainability. However, when subsidiaries' characteristics are brought into this strand of Birkinshaw/Hood's analysis it is then found that proxies for a subsidiary decision-making autonomy and local embeddedness are strongly positively related to cluster dynamism. Also, elsewhere in the study, Birkinshaw and Hood analysed 229 MNEs' subsidiaries in the three countries, of which 119 were in one of the ten leading-edge clusters and 1 10 in other sectors. From the analysis of these subsidiaries it was concluded that those "in leading-edge clusters are more strongly embedded in their local cluster, are more autonomous, and are more internationally oriented than subsidiaries in other industry sectors".




19 Using a modified definition of the flagship Ferreira, Tavares, and Hesterly (2006) show how spin-offs from a leading firm can drive the growth and enrichment of a cluster. These leading firms can be MNE subsidiaries or indigenous enterprises.

20 Rugman and Verbeke (2003, p. 165) emphasise that the dynamic "managerial interaction and joint working teams", that are central to cluster organisational practices, supersede" static contractual arrangements" in order to "encourage co-operation and knowledge development". Thus it is suggested (Rugman/Verbeke/D'Cruz 1995, p. 124) that such a cluster-based network driven by a flagship firm" can be a substitute for internalisation outside core processes by the MNE".

2 1 Birkinshaw and Hood (2000, see note 1 8 here) suggest that cluster dynamism may be compromised by a high proportionate level of foreign-firm participation, but supported by subsidiaries that are strongly embedded in the cluster and have significant autonomy in their MNE group. This may be compatible with 'flagship' behaviour, since such subsidiaries should not be quan- titatively dominant in a cluster but use local embeddedness and creative autonomy to drive an extensive network of (mainly local) partners.

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Foreign Direct Investment and Small Countries || Multinationals' Strategies and the Economic Development of Small Economies: A Tale of Two Transitions