Evidence from BEEPS V and MENA ES suggests that the first of these effects tends to dominate in the transition region and that foreign ownership is associated with an increased likelihood of innovation and higher levels of spending on in-house R&D. Foreign-owned firms are defined here as firms where foreign investors hold a stake of 25 per cent or more – that is to say, at least a blocking minority. The percentage of such firms that have introduced new products is significantly higher than the percentage of locally owned firms that have done so. The same is true of process innovations, as well as marketing and organisational innovations (see Chart 3.4).

Indeed, in the case of marketing and organisational innovation, the impact of foreign ownership is pronounced even when foreign investors own a small stake that falls short of a blocking minority (in other words, between 0 and 25 per cent), while foreign ownership does not have a clear impact on product and process innovations until that stake reaches the 25 per cent mark. This suggests that foreign owners may be an important source of information about new organisational arrangements and marketing methods. At the same time, sharing technological know-how requires stronger incentives and assurances, which come with a stake of a certain size in a company.

The results also suggest that increased innovation by foreign-owned firms is a result of a mixture of “make” and “buy” strategies when it comes to acquiring external knowledge. The percentage of foreign-owned firms that invest in R&D (thereby pursuing a “make” strategy) tends to be higher than the percentage of domestic firms that follow this strategy (see Chart 3.5). This is the case in virtually every country in the transition region. Foreign-owned firms also tend to spend more on R&D (see Case study 3.1 for details of a joint venture in the Turkish automotive sector with an active domestic R&D programme). Overall, these findings run counter to the view that foreign takeovers undermine domestic R&D.

Not only do foreign firms “make” more knowledge, they are also more likely to engage in the acquisition of external knowledge (through the purchasing or licensing of patents and non-patented inventions and know-how) than locally owned firms (see Chart 3.5).

The formal regression results in Table 3.1 confirm that the relationship between foreign ownership and innovation holds when other firm-level characteristics are also taken into account. Everything else being equal, a majority foreign-owned firm is, on average, 2.3 percentage points more likely to introduce new products or processes (see column 2) and 4.3 percentage points more likely to introduce organisational or marketing innovations (see column 3).7 This is a sizeable difference, given that the average probability of a majority domestic-owned firm introducing new or improved products or processes is 17.5 per cent, while the probability of it introducing organisational or marketing innovations is almost 27 per cent.

In contrast, majority state-owned firms are significantly less likely to introduce new products or processes than locally owned private firms or foreign firms, and this effect is even larger in the case of new processes. This may reflect the fact that managers of state-owned firms have weaker incentives to achieve efficiency savings and improve productivity. Their remuneration, for example, is not necessarily linked to their firm’s performance, and these firms can typically rely on the state to bail them out in the event of poor performance.

Exporting can also expose domestic producers to stronger competition from foreign products, thereby providing an incentive to innovate (see Box 3.3 for a discussion of the complex relationship between competition and innovation).8 Furthermore, firms’ participation in global value chains, which involves the exporting of either intermediate or final goods, facilitates the adoption of foreign technologies, particularly in emerging markets9 (see Box 3.2).

BEEPS V and MENA ES data confirm the importance of export markets for innovation. Firms that export their products directly appear to be more likely to engage in R&D and introduce new products, processes, marketing methods and organisational innovations than firms that only serve their domestic markets (see Chart 3.6).

Similar differences can be observed in firm-level regressions. The estimates in Table 3.1 suggest that once various other firm-level characteristics are taken into account, exporters are around 3 percentage points more likely to innovate than non-exporters. This is a sizeable impact, as the probability of a non-exporter introducing a new or improved product or process is 15 per cent.

The differences between exporters and non-exporters are particularly large when it comes to in-house R&D and process innovation.10 Regression results indicate that exporters are 6 percentage points more likely to engage in R&D. This may be explained by the fact that exporting and entering new markets can help firms to improve their knowledge of production processes, while R&D can help firms improve their ability to absorb new technologies.11

Of the firms that do not export, those that primarily sell in the national market are more likely to introduce new products, processes and marketing methods than firms that operate primarily in the local market. Similar forces may be at play here: a national market provides a broader customer base, making it easier to justify the fixed costs of developing new products and processes, while the higher levels of competition in the national market provide stronger incentives to seek productivity gains.

Investing in R&D has the largest impact on the probability of introducing a new product in high-tech manufacturing sectors such as electrical equipment or pharmaceuticals (see Chart 3.7). In these sectors R&D increases the probability of product innovation on average by 26 percentage points, while in less knowledge-intensive service sectors (such as catering or sales) R&D has virtually no impact on the probability of introducing a new product.

While R&D is closely linked to product innovation in high-tech manufacturing sectors, R&D in low-tech manufacturing has a large impact on process innovation, which involves the optimisation of the production of existing products (for instance, a clothing manufacturer that replaces the manual cutting of fabric with an automatic fabric-cutting machine). Conducting R&D in these sectors increases the probability of introducing a new process by an average of 20 percentage points (compared with an average of 11 percentage points in high-tech manufacturing sectors).

While a firm’s human capital reflects its recruitment decisions, it is also, to a large extent, shaped by the availability of skills in the market. There is further cross-country analysis of this issue later in the chapter.

Information and communication technology Firms that use email to communicate with their clients or suppliers are, on average, 9 percentage points more likely to introduce new products or processes and 14 percentage points more likely to introduce organisational or marketing innovations (see Table 3.1, column 3). This attests to the importance of both modern organisational practices and supporting information and communication technology (ICT) infrastructure in facilitating innovation.

ICT’s largest impact is on the probability of introducing product and process innovations in high-tech and medium-high-tech manufacturing sectors (see Chart 3.8). At the same time, in low-tech manufacturing sectors (such as textiles or food and beverages) and less knowledge-intensive services (such as catering or sales), use of ICT has a large impact on the probability of implementing marketing and organisational innovations.

When it comes to innovation, firms may also benefit from the expert advice of external consultants (see Box 3.4). Lastly, the availability of finance also plays an important role, as firms may abandon the development of new products if the requisite funding cannot be obtained. Chapter 4 discusses these issues in more detail.