A Study on the Impact of Offshoring on Total Factor Productivity

Abstract

Purpose - The purpose of this study is to investigate the effect of offshoring on manufacturing firms’ total factor productivity (TFP) by establishment size. Design/Methodology/Approach - Using data on manufacturing enterprises in Korea between 2014 and 2018, we first apply Levinsohn and Petrin’s (2003) method to construct firm-level total factor productivity (TFP). Then we examine the effect of offshoring activities on manufacturing firms’ productivity by comparing regression results from pooled OLS, random effect panel analysis, and system GMM. Findings - When estimated for the entire manufacturing industry, the effect of offshoring is found to be positive, indicating offshoring activities can be considered as productivity-enhancing. When estimated by establishment size, the offshoring activity was not found to be associated with total factor productivity among large-sized manufacturing firms, while the effect remained to be positive and statistically significant among small and medium-sized firms. Research Implications - The results from various estimation exercises show that the effect of offshoring activities on total factor productivity varies by establishment size. We confirm that the effect of offshoring is concentrated among small and medium-sized enterprises, indicating that the benefits associated with engaging in offshoring activity are greater for smaller firms, perhaps due to (relatively) higher opportunity costs of participating in the vertically integrated supply chain.