Trade Liberalization and Investment: Firm-level Evidence from Mexico

Abstract

Plant-level panel data from Mexico's Annual Industrial Survey is employed to evaluate the impact of reductions in tariffs and import license coverage on final goods, as well as intermediates, on firms' investment decisions. Using data from 1984 to 1990, a period during which a large scale trade liberalization occurred, a dynamic investment equation is estimated using the system-GMM estimator developed by Arellano and Bover (1995) and Blundell and Bond (1998). Consistent with theory, the empirical analyses show that a reduction in import protection on final goods leads to lower plant-level investment, whereas reductions in tariffs and import license coverage on intermediate inputs result in higher investment. Also, firms with larger import costs experience a larger increase in investment following a reduction in import protection. On the other hand, higher markup firms lower investment more aggressively following reductions in tariffs and import license coverage on final goods.

Trade Liberalisation and Capital Spending by US Manufacturers

“…In short, our results provide support for recent empirical studies that find that the impact of changes in input tariffs exceeds those generated by changes in tariffs on final goods. Consistent with Kandilov and Leblebicioglu (2012), we find that lower input tariffs result in increased investment, while our results provide little indication that reduced tariffs on final goods either spur or diminish 8 Wacziarg and Welch (2008) study the impact of trade liberalisation on economic growth in developing economies. They find that for many countries' investment surged following discrete shifts in trade policy, including countrywide reductions in tariffs, non-tariff barriers and other trade restrictions.…”

“…Although some studies have tested the impact of policy variables such as public investment on fixed private investment, there is very little empirical work investigating the link between trade liberalisation and capital investment, and none that we are aware of that focuses on the USA (For example, see Erenburg and Wohar (1995) and Ghali (1998). 8 The closest work to our study is Kandilov and Leblebicioglu (2012), which investigates the impact of trade liberalisation on capital accumulation inside Mexican manufacturing plants during 1984-90. 9 Like Amiti and Konings (2007), Topalova and Kandelwal (2011) and Kandilov and Leblebicioglu (2012) control for tariffs on both final goods and intermediate goods As mentioned above, lower tariffs on final goods may result in reduced investment if foreign competition sufficiently undermines domestic profitability.…”

“…8 The closest work to our study is Kandilov and Leblebicioglu (2012), which investigates the impact of trade liberalisation on capital accumulation inside Mexican manufacturing plants during 1984-90. 9 Like Amiti and Konings (2007), Topalova and Kandelwal (2011) and Kandilov and Leblebicioglu (2012) control for tariffs on both final goods and intermediate goods As mentioned above, lower tariffs on final goods may result in reduced investment if foreign competition sufficiently undermines domestic profitability. 10 In contrast, lower input tariffs may spur investment by lowering costs and increasing domestic profitability.…”

“…5 Lower tariffs may also allow firm's access to cheaper and/or better inputs from foreign suppliers, thus increasing their profitability and encouraging additional capital investment. In fact, recent empirical work, including Amiti and Konings (2007), Topalova andThe World Economy (2015) doi: 10.1111/twec.12285 The World Economy Kandelwal (2011), and Kandilov and Leblebicioglu (2012), has shown that reductions in import tariffs are more important than reductions in tariffs on final goods in increasing plantlevel productivity and investment. 6 This paper investigates the role of tariff and quota protection on fluctuations in capital spending across the manufacturing sector during the period .…”

“…Topalova and Kandelwal (2011) produce consistent results in their study of plant-level productivity in India. Finally, Kandilov and Leblebicioglu (2012) study investment behaviour at Mexican manufacturing plants and find that lower input tariffs stimulate investment while tariff reductions on final goods may actually hinder investment. See below for further discussion.…”