Do multinationals promote better pay and working conditions?

©Reuters/Crack Palinggi

The effect multinationals have on wages and working conditions can be positive, but there are conditions to bear in mind, not least for policymakers wishing to attract foreign direct investment.

If ever there was a question to provoke impassioned debate between supporters and opponents of globalisation, the title of this article may be it. A harbinger of progress and higher standards of living, will say the yeas, a cause of underdevelopment and Western-style exploitation, will roar the nays. The protagonists rarely agree.

Who is right? Before attempting an answer, let’s start by looking at what the term “multinational” actually means. Crudely speaking, multinational enterprises (MNEs) are corporations with headquarters in one country and affiliates, subsidiaries or merged operations in one or several others. These firms expand abroad to gain market share, or to tap into local resources like raw materials and cheaper labour. Think major US brands, such as Coca-Cola, Nike and Microsoft, or the French energy company, EDF, the British-Australian mining firm, Rio Tinto, and Japan’s Toyota.

Multinational enterprises have been a force on the world stage for a century or more–some say they have their roots in the British East India Company of the 18th century, though others point to the 17th century Dutch Verenigde Oost Indische Compagnie (VOC).

Today there are thousands of MNEs and not all are a symbol of Western economic dominance; just look at the FT’s top firms ranked by market value for 2008 which now includes firms from China, Russia, India and Brazil.

Regardless of impassioned opinions, the role of MNEs in the world economy will likely continue to grow, as governments everywhere compete hard to attract foreign investment to their country. Already in 2006, foreign direct investment, which is a good measure of the growing internationalisation of production, was worth about a quarter of world GDP, compared with less than 10% in 1990. Foreign affiliates of MNEs account for about a third of world exports.

But are these MNEs really likely to bring in more jobs, better pay, better conditions and better practices to host destinations or do they hold developing countries in their grip, with little hope for progress? Arguments can be found to support both points of view. Optimists emphasise how MNEs’ superior technical know-how and modern management practices provide them with the wherewithal to pay high wages, whereas pessimists doubt they actually will do so since they are typically in a strong bargaining position vis-à-vis local workers.

The only robust way to answer this question is to compare labour practices between local and foreign firms, and a recent report, “Do multinationals promote better pay and working conditions” attempts to do just that (see references). The authors compare and examine differences between foreign firms and local firms by looking at wages and conditions like working hours and training.

On the whole, the OECD report shows that MNEs do tend to pay more than local firms, though the difference lessens with local firms that compete in the same markets. In general, foreign multinationals pay 40% higher in average wages than local firms, and the differential is higher in low-income countries of Asia and Latin America. They may offer higher pay than their local counterparts because this helps to minimise worker turnover and reduce monitoring costs.

Besides paying higher wages, multinationals differ from local firms in many other ways, such as being much larger and more productive. This raises the possibility that MNEs pay higher wages only because they prefer to invest in capital-intensive sectors and rely on highly skilled employees. But the pattern would not imply that they offer better rewards to equally qualified workers performing similar work in other firms.

The authors argue that more precise comparisons are required to detect whether MNEs pay higher wages and offer better working conditions. For this purpose, they examine how conditions change if a local firm is taken over by a foreign one, as well as the experiences of workers that move from a local to a foreign firm.

When like is compared with like, it still seems that MNEs pay better, but the difference is quite muted. The OECD report focuses on three OECD countries (Germany, Portugal and the UK) and two emerging economies (Brazil and Indonesia) for these more exacting comparisons. Foreign takeovers lead to higher average wages within firms, with the effect being very small in Germany, 5% in the UK, 8% in Portugal, 11% in Brazil and 19% in Indonesia. Since MNEs tend to have a greater technological edge over local competitors in developing countries, it makes sense that wage gains from FDI would be larger there, than in more developed economies.

What is more, the pay gains following foreign acquisitions are likely to increase over time as modern production techniques are transferred from parent to affiliate and employees accumulate new skills. This kind of foreign direct investment raised average wages by 18% at first in Indonesia, and by some four points extra two years after the takeover. Similar patterns were seen in Brazil, Portugal and to a lesser extent the UK.

In short, these results suggest that the conventional wisdom about FDI’s wealth creating potential is probably not wrong, particularly in developing countries. However, this applies to average pay in firms affected by a takeover.

A closer look at individual rather than average wages enriches the picture. Comparing workers who stay on in firms that are taken over with their counterparts in domestic firms, shows that foreign takeovers had only a very slight or no effect at all on individual wages. This indicates that average wage gains due to foreign takeovers partly reflect changes in the skill composition of the workforce that tend to accompany such takeovers.

But what about workers who move from a domestic to a foreign-owned firm? The OECD Employment Outlook shows quite large wage gains for newly hired workers, with a rise of 6% in wages in the UK, 8% in Germany, 14% in Portugal and up to 21% in Brazil. In contrast, there were small losses or no effect on wages for those moving from foreign to domestic firms.

Certainly in the first few years after a foreign acquisition, the wage premia of working in foreign multinationals apply to workers who move to those firms, rather than to those who stayed on after a takeover. It is via this route that FDI initially enhances wages in host countries, the report concludes. Over time, wage gains are likely to benefit a growing share of the workforce.

But wages are only one side of the coin: what about working conditions? One argument used by proponents of FDI is that multinationals promote socially responsible investment, and some of the literature backs this view. However, the analysis of foreign takeovers in the report suggests that FDI might not have much effect on working conditions.

Several earlier studies have also concluded that multinationals tend to adapt to local practices rather than impose their own. In Europe, US firms were found to export management practices, but kept to local norms on matters concerning work-life balance of employees. This partly reflects social rules and agreements that firms are compelled to accept, though may also reflect a US business style, and may not be representative of multinationals from other countries.

There are of course other spill-over costs and benefits of FDI and multinationals, which the report examines, and these show up in productivity and pay improvements among suppliers of foreign-owned firms.

The authors also show that local firms that recruit managers with experience in multinationals enjoy higher productivity. Firms lacking direct links to MNEs are less likely to benefit from positive spillovers. Indeed, FDI can crowd out labour supply for local firms. Still, the wages of skilled workers in the same sector as a multinational will likely rise over time.

If working conditions among suppliers are slow to improve, it is not always for want of trying on the part of the multinationals. Take Nike, the sportswear producer which was much derided by the anti-globalisation movement with accusations of sweatshops and exploitation. Nike formulated its first code of conduct in 1992. By 2004, it employed 80 corporate social responsibility (CSR) and compliance managers. Footwear factories were inspected daily and apparel and equipment factories weekly. In addition, Nike employed about 1,000 production managers to work in close collaboration with its suppliers around the world. Despite these efforts, Nike reports that working conditions in almost 80% of its suppliers have failed to improve (and may have even worsened). A closer look shows that compliance programmes based on long-term production partnerships are more likely to bear fruit than those based on policing of working conditions alone.

But firms are not the only ones to make such efforts. Governments and international organisations can promote more responsible behaviour of MNEs, including in their role as employers. They can work with consumer groups and other stakeholders to improve practices. One example is the OECD Guidelines for Multinational Enterprises which provides a useful way for governments to encourage responsible business conduct, including in the area of employment relations. Though voluntary, adhering governments are required to provide mediation services when multinationals are alleged to have violated one or more of these guidelines. Most of the cases treated by such mediation have, in fact, dealt with MNEs behaviour as employers.

Governments in developing countries should also be encouraged to recognise and enforce internationally accepted labour standards. Indeed, to lift standards, local regulations and norms count as much as the activity of the multinational corporation itself.

The authors believe the way forward for policy also involves reducing the barriers to FDI, as recommended in the OECD Policy Framework for Investment, and promoting the overall investment climate. Economic and political stability, legal enforcement of contracts, anti-corruption measures and infrastructure, should all be priorities, but the report is clear on one thing: employment legislation may need to be made more flexible, but any deliberate lowering of labour standards to attract FDI would be ineffective. On the contrary, weakening workers’ core protection can discourage investment, instead of attracting it. In the end, whether multinationals help development depends on the firms in question, but also on public policy.


©OECD Observer No 269 October 2008

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