5 along it the elasticity of labor supply,n,is defined as the percentage change in the quantity of labor supplied by workers in response to a one-percent increase in the price of labor.Higher wages typically induce a greater quantity of labor supplied. The labor-demand curve is aggregated across firms,and at each point along it the elasticity of labor demand,nD,is defined as the percentage decline (in absolute value)in the quantity of labor demanded in response to a one-percent increase in the price of labor.This elasticity consists of two parts.The substitution effect tells,for a given level of output,how much firms substitute away from labor towards other factors of production when wages rise.The scale effect tells how much labor demand falls after a wage increase thanks to the rise in the firms'costs and thus the fall in their output and so demand for labor and all other factors.When wages rise,both the substitution and scale effects reduce the quantity of labor demanded. In accord with a wide range of empirical evidence,we introduce volatility into the labor market by assuming that the labor-demand schedule is stochastic.To see what forces drive this volatility,note that each firm's labor-demand schedule traces out the marginal revenue product of its workers as the wage rate varies.A profit-maximizing firm hires workers until the revenue generated by the last worker hired equals the market wage that firm must pay that last worker. For each firm,its product prices and technology are two key determinants of marginal revenue products.Aggregated across firms,then,the position of the labor-demand schedule depends crucially on all relevant product prices and production technologies.Define mrp as the percentage shift in the labor-demand schedule due to shocks to prices and/or technologies.It is straightforward to then show that the resulting percentage change in wages(w)and employment
5 along it the elasticity of labor supply, ηS, is defined as the percentage change in the quantity of labor supplied by workers in response to a one-percent increase in the price of labor. Higher wages typically induce a greater quantity of labor supplied. The labor-demand curve is aggregated across firms, and at each point along it the elasticity of labor demand, ηD, is defined as the percentage decline (in absolute value) in the quantity of labor demanded in response to a one-percent increase in the price of labor. This elasticity consists of two parts. The substitution effect tells, for a given level of output, how much firms substitute away from labor towards other factors of production when wages rise. The scale effect tells how much labor demand falls after a wage increase thanks to the rise in the firms’ costs and thus the fall in their output and so demand for labor and all other factors. When wages rise, both the substitution and scale effects reduce the quantity of labor demanded. In accord with a wide range of empirical evidence, we introduce volatility into the labor market by assuming that the labor-demand schedule is stochastic. To see what forces drive this volatility, note that each firm’s labor-demand schedule traces out the marginal revenue product of its workers as the wage rate varies. A profit-maximizing firm hires workers until the revenue generated by the last worker hired equals the market wage that firm must pay that last worker. For each firm, its product prices and technology are two key determinants of marginal revenue products. Aggregated across firms, then, the position of the labor-demand schedule depends crucially on all relevant product prices and production technologies. Define ∧ mrp as the percentage shift in the labor-demand schedule due to shocks to prices and/or technologies. It is straightforward to then show that the resulting percentage change in wages ( ∧ w ) and employment
6 (e)re repectively given byandIfsradom variable. then we can write Var(w)= Var(mrp)and Var(e)= Var(mrp). The above expressions demonstrate that greater volatility in labor-market outcomes-and thus greater economic insecurity-can arise either from greater aggregate volatility in prices and technology,Var(mrp),or from a higher elasticity of demand for labor,nD.The former can be thought of as the volatility of aggregate shocks to labor demand,and the latter can be thought of as the pass-through of those shocks into volatility of wages and employment.In this framework, the link between globalization and labor-market volatility depends on some component of globalization,such as trade or FDI,altering one of these quantities,Var(mrp)or nD. We argue that an important channel through which FDI can affect labor-market volatility is by increasing labor-demand elasticities via the substitution effect.Suppose that a firm is vertically integrated with a number of production stages.A multinational firm can move abroad some of these stages (e.g.,Helpman 1984).This globalization of production within multinationals gives access to foreign factors of production,either directly through foreign affiliates or indirectly through intermediate inputs.This expands the set of factors firms can substitute towards in response to higher domestic wages beyond just domestic non-labor factors to include foreign factors as well.Thus,greater FDI can raise labor-demand elasticities-and so worker insecurity because of more-volatile wage and employment outcomes This argument does not exclude other mechanisms through which globalization may increase economic insecurity.For example,openness to international trade may increase the volatility of aggregate shocks to labor demand (Var(mrp)).As discussed in the introduction,this is the link
6 ( ∧ e ) are respectively given by ∧ ∧ + w = mrp S D D η η η and ∧ ∧ + e = mrp S D D S η η η η . If ∧ mrp is a random variable, then we can write ( ) ( ) 2 ∧ + = ∧ Var w Var mrp S D D η η η and ( ) ( ) 2 ∧ + = ∧ Var e Var mrp S D D S η η η η . The above expressions demonstrate that greater volatility in labor-market outcomes—and thus greater economic insecurity—can arise either from greater aggregate volatility in prices and technology, ) ( ∧ Var mrp , or from a higher elasticity of demand for labor, ηD. The former can be thought of as the volatility of aggregate shocks to labor demand, and the latter can be thought of as the pass-through of those shocks into volatility of wages and employment. In this framework, the link between globalization and labor-market volatility depends on some component of globalization, such as trade or FDI, altering one of these quantities, ) ( ∧ Var mrp or ηD. We argue that an important channel through which FDI can affect labor-market volatility is by increasing labor-demand elasticities via the substitution effect. Suppose that a firm is vertically integrated with a number of production stages. A multinational firm can move abroad some of these stages (e.g., Helpman 1984). This globalization of production within multinationals gives access to foreign factors of production, either directly through foreign affiliates or indirectly through intermediate inputs. This expands the set of factors firms can substitute towards in response to higher domestic wages beyond just domestic non-labor factors to include foreign factors as well. Thus, greater FDI can raise labor-demand elasticities—and so worker insecurity because of more-volatile wage and employment outcomes. This argument does not exclude other mechanisms through which globalization may increase economic insecurity. For example, openness to international trade may increase the volatility of aggregate shocks to labor demand ( ) ( ∧ Var mrp ). As discussed in the introduction, this is the link
7 examined in much of the previous research on globalization and economic insecurity,and its empirical importance remains an open question.Another example is that theoretically, international trade in final goods-whether mediated by multinationals or not-could also affect insecurity by making labor demands more elastic through the scale effect.This pro-competitive effect of trade has been well-studied,and FDI can also work on the scale effect(e.g.,as foreign firms compete with domestic incumbents). We have focused on the substitution effect of FDI for several reasons.Most importantly,the substitution effect is direct in that it places domestic workers in competition with foreign labor for employment within the same firm.It is thus likely to have a larger effect on labor demand elasticities.2 Further,other researchers have emphasized in theory its possible role in generating insecurity(e.g.,Rodrik,1997),but no compelling empirical evidence has been produced. 2 There are several recent empirical studies documenting that MNEs and FDI do increase labor- demand elasticities through the substitution effect.Slaughter(2001)estimates that demand for U.S.production labor in manufacturing became more elastic from 1960 to the early 1990s,and that these increases were correlated with FDI outflows by U.S.-headquartered MNEs.Fabbri, Haskel,and Slaughter (2003)estimate that both U.K.-multinational plants and foreign-owned plants each had larger increases than did U.K.domestic plants in the elasticity of demand for production labor in manufacturing over 1973-1992.An important margin on which MNEs may affect elasticities is on the extensive margin of plant shutdowns.MNEs may be more likely than domestic firms to respond to shocks by closing entire plants.For the manufacturing sectors in at least three countries it has now been shown that plants that are part of an MNE are more likely to close than are their purely domestic counterparts:the United Kingdom(Fabbri,et al 2003);the United States(Bernard and Jensen 2002);and Ireland (Gorg and Strobl 2003)
7 examined in much of the previous research on globalization and economic insecurity, and its empirical importance remains an open question. Another example is that theoretically, international trade in final goods—whether mediated by multinationals or not—could also affect insecurity by making labor demands more elastic through the scale effect. This pro-competitive effect of trade has been well-studied, and FDI can also work on the scale effect (e.g., as foreign firms compete with domestic incumbents). We have focused on the substitution effect of FDI for several reasons. Most importantly, the substitution effect is direct in that it places domestic workers in competition with foreign labor for employment within the same firm. It is thus likely to have a larger effect on labor demand elasticities.2 Further, other researchers have emphasized in theory its possible role in generating insecurity (e.g., Rodrik, 1997), but no compelling empirical evidence has been produced. 2 There are several recent empirical studies documenting that MNEs and FDI do increase labordemand elasticities through the substitution effect. Slaughter (2001) estimates that demand for U.S. production labor in manufacturing became more elastic from 1960 to the early 1990s, and that these increases were correlated with FDI outflows by U.S.-headquartered MNEs. Fabbri, Haskel, and Slaughter (2003) estimate that both U.K.-multinational plants and foreign-owned plants each had larger increases than did U.K. domestic plants in the elasticity of demand for production labor in manufacturing over 1973-1992. An important margin on which MNEs may affect elasticities is on the extensive margin of plant shutdowns. MNEs may be more likely than domestic firms to respond to shocks by closing entire plants. For the manufacturing sectors in at least three countries it has now been shown that plants that are part of an MNE are more likely to close than are their purely domestic counterparts: the United Kingdom (Fabbri, et al 2003); the United States (Bernard and Jensen 2002); and Ireland (Gorg and Strobl 2003)
8 Before turning to an empirical test of the link between FDI and insecurity,we note one other important aspect of MNEs and labor markets.Many studies across a variety of countries have documented that establishments owned by MNEs pay higher wages than do domestically owned establishments.This is true even controlling for a wide range of observable worker and/or plant characteristics such as industry,region,and overall size.The magnitudes involved are usually quite big3 This multinational wage premium may reflect several forces.It could be accounted for by higher worker productivity due to superior technology and/or capital;or by higher worker productivity due to unobservable worker qualities;or by greater profits and therefore more rent sharing with workers.Our theory framework suggests another possibility:that MNEs pay more to compensate workers for the greater labor-market volatility associated with MNEs. Regardless of the cause(s)of the multinational wage premium,its existence is important for considering how the globalization of production affects economic insecurity.All else equal,this premium likely makes multinational employees feel more secure.Our focus on elasticities and labor-market volatility highlights MNE influences on different dimensions of the overall worker- firm relationship.These contrasting issues of labor-demand elasticities and wage premia suggest that the net impact of MNEs on worker insecurity is ex ante unclear.Whether wage premia fully compensate for increased risks from higher elasticities is an empirical question. 3 Doms and Jensen(1998)document that for U.S.manufacturing plants in 1987,multinational wages exceeded domestically owned wages by a range of 5%-15%,with larger differentials for production workers rather than non-production workers.Griffith (1999)presents similar evidence for the United Kingdom;Globerman,et al (1994)for Canada;Aitken et al (1996)for Mexico and Venezuela;and Te Velde and Morrissey(2001)for five African countries
8 Before turning to an empirical test of the link between FDI and insecurity, we note one other important aspect of MNEs and labor markets. Many studies across a variety of countries have documented that establishments owned by MNEs pay higher wages than do domestically owned establishments. This is true even controlling for a wide range of observable worker and/or plant characteristics such as industry, region, and overall size. The magnitudes involved are usually quite big.3 This multinational wage premium may reflect several forces. It could be accounted for by higher worker productivity due to superior technology and/or capital; or by higher worker productivity due to unobservable worker qualities; or by greater profits and therefore more rent sharing with workers. Our theory framework suggests another possibility: that MNEs pay more to compensate workers for the greater labor-market volatility associated with MNEs. Regardless of the cause(s) of the multinational wage premium, its existence is important for considering how the globalization of production affects economic insecurity. All else equal, this premium likely makes multinational employees feel more secure. Our focus on elasticities and labor-market volatility highlights MNE influences on different dimensions of the overall workerfirm relationship. These contrasting issues of labor-demand elasticities and wage premia suggest that the net impact of MNEs on worker insecurity is ex ante unclear. Whether wage premia fully compensate for increased risks from higher elasticities is an empirical question. 3 Doms and Jensen (1998) document that for U.S. manufacturing plants in 1987, multinational wages exceeded domestically owned wages by a range of 5%-15%, with larger differentials for production workers rather than non-production workers. Griffith (1999) presents similar evidence for the United Kingdom; Globerman, et al (1994) for Canada; Aitken et al (1996) for Mexico and Venezuela; and Te Velde and Morrissey (2001) for five African countries
9 3.Data Description and Empirical Specification 3.1 Data Description In light of our theory discussion of Section 2,the objective of our empirical work is to examine the impact of FDI on economic insecurity.Specifically,we will evaluate how individual self-assessments of economic insecurity correlate with the presence of mobile capital in the form of FDI in the industries in which individuals work.Our data cover Great Britain, which we think is an excellent case to examine both because inward and outward FDI have long figured prominently in the overall economy and because of the high quality of data available The individual data are from the British Household Panel Survey (BHPS)(2001).This survey is a nationally representative sample of more than 5,000 U.K.households and over 9,000 individuals questioned annually from 1991 to 1999.It records detailed information about each respondent's perceptions of economic insecurity,employment,wages,and many other characteristics.The most important pieces of survey information required for our analysis are a measure of economic insecurity,identification of the respondents'industry of employment,and repeated measurement of the same individual over time. We measure economic insecurity by responses to the following question asked in each of the nine years of the panel. "I'm going to read out a list of various aspects of jobs,and after each one I'd like you to tell me from this card which number best describes how satisfied or dissatisfied you are with that particular aspect of your own present job-job security.” 4 The BHPS is ongoing,but our data are through 1999 only
9 3. Data Description and Empirical Specification 3.1 Data Description In light of our theory discussion of Section 2, the objective of our empirical work is to examine the impact of FDI on economic insecurity. Specifically, we will evaluate how individual self-assessments of economic insecurity correlate with the presence of mobile capital in the form of FDI in the industries in which individuals work. Our data cover Great Britain, which we think is an excellent case to examine both because inward and outward FDI have long figured prominently in the overall economy and because of the high quality of data available. The individual data are from the British Household Panel Survey (BHPS) (2001). This survey is a nationally representative sample of more than 5,000 U.K. households and over 9,000 individuals questioned annually from 1991 to 1999.4 It records detailed information about each respondent’s perceptions of economic insecurity, employment, wages, and many other characteristics. The most important pieces of survey information required for our analysis are a measure of economic insecurity, identification of the respondents’ industry of employment, and repeated measurement of the same individual over time. We measure economic insecurity by responses to the following question asked in each of the nine years of the panel. “I’m going to read out a list of various aspects of jobs, and after each one I’d like you to tell me from this card which number best describes how satisfied or dissatisfied you are with that particular aspect of your own present job—job security.” 4 The BHPS is ongoing, but our data are through 1999 only