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The Impact of European Integration on FDI: the UK Food Industry in the 1990s

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In this article, the authors assess the impact of European integration on foreign direct investment (FDI) in the UK food industry over the last ten years from other EU Member States and from the rest of the world.
Abstract
The main objective of this study is to assess the impact of European integration on foreign direct investment (FDI). It focuses in particular on inward investment in the UK food industry over the last ten years from other EU Member States and from the rest of the world. FDI in the food industry, defined both in terms of total real assets and employment in foreign-owned firms, has increased considerably from other EU countries whilst stagnating from non-EU sources. An empirical model for the determinants of FDI is tested on 48 5-digit sectors in the food industry. We find price convergence in the EU to be an important factor in influencing FDI from both within and outside the EU. In addition, FDI from the rest of the EU appears to be determined by the level of firm-specific assets and skills in the sector and to be relatively cost-insensitive; it also takes place in sectors with a low propensity to export. Non-EU FDI is influenced by comparative advantage factors such as low costs and capital intensity, and by the effective tariff rate. Outline

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Centre for Research on Globalisation and Labour Markets, School of Economics,
University of Nottingham
The Centre acknowledges financial support from The Leverhulme Trust under
Programme Grant F114/BF
CENTRE FOR RESEARCH ON GLOBALISATION AND LABOUR MARKETS
Research Paper 99/10
The Impact of European Integration on
FDI: the UK Food Industry in the 1990s
by
Wyn Morgan and Katharine Wakelin

The Authors
Wyn Morgan is Senior Lecturer and Katharine Wakelin is Research Fellow in the School of
Economics, University of Nottingham.
Acknowledgements
The authors gratefully acknowledge financial support from The Leverhulme Trust under
Programme Grant F114/BF.

The Impact of European Integration on FDI:
the UK Food Industry in the 1990s
by
Wyn Morgan and Katharine Wakelin
Abstract
The main objective of this study is to assess the impact of European integration on foreign
direct investment (FDI). It focuses in particular on inward investment in the UK food industry
over the last ten years from other EU Member States and from the rest of the world. FDI in the
food industry, defined both in terms of total real assets and employment in foreign-owned
firms, has increased considerably from other EU countries whilst stagnating from non-EU
sources. An empirical model for the determinants of FDI is tested on 48 5-digit sectors in the
food industry. We find price convergence in the EU to be an important factor in influencing
FDI from both within and outside the EU. In addition, FDI from the rest of the EU appears to
be determined by the level of firm-specific assets and skills in the sector and to be relatively
cost-insensitive; it also takes place in sectors with a low propensity to export. Non-EU FDI is
influenced by comparative advantage factors such as low costs and capital intensity, and by the
effective tariff rate.
Outline
1. Introduction
2. FDI and European Integration
3. The UK Food Industry
4. The Empirical Model
5. The Results
6. Conclusions

1
1 Introduction
The main objective of this study is to assess the impact of European integration on foreign
direct investment (FDI). It focuses in particular on inward investment in the UK food
industry over the last ten years. This industry has seen a dramatic rise in FDI from other EU
countries recently, while FDI from non-EU sources has stagnated, reflecting an economy-
wide pattern of increased FDI from the rest of Europe. This has coincided with a step
change in integration among European countries, and it is our aim to evaluate if this has
been an important determinant of FDI. The key mechanism for integration has been the
Single Market Programme (SMP) which aimed to create a unified market within the EU
through the dismantling of trade barriers, including the harmonisation of standards among
countries, and the removal of barriers to FDI. Although the SMP has been associated with
the year 1992, it has been an ongoing process over much of the last ten years.
There has been little empirical work on the impact of EU integration on FDI, partly due to
the difficulty of measuring the process of integration, and partly due to the lack of
consistent data in the EU on FDI (Clegg, 1998). The evidence that does exist tends to be
highly aggregated and does not show how the different speeds of integration across sectors
have influenced the pattern of FDI. We have tried to overcome these obstacles in two ways.
First, we use detailed data on the change in the variation of prices for different goods across
the EU countries over the period under consideration in order to measure price
convergence. Second, we use a firm-level data set with information on foreign-ownership
to construct the level of employment and total assets in foreign firms at the 5-digit level.
The food industry provides an interesting case study as it has relatively high levels of FDI
(above the median for manufacturing in the UK), yet it is not a high-technology sector.
Rather than technology providing the firm-specific advantages associated with FDI
(Dunning, 1977; Buckley and Casson, 1976) in the case of the food industry it is branding
that is of key importance. Differences in tastes across countries and the importance of local
brands may therefore reinforce market fragmentation. It is therefore interesting to
investigate whether economic integration in the EU, combined with a common external
tariff, have had a positive influence on FDI in this sector.
The remainder of the paper is set out as follows. The next section gives an overview of the
existing evidence on the impact of European integration and the formation of the single
market on FDI from both within and outside the EU. Section 3 presents some descriptive

2
information on the UK food industry, including the importance and distribution of FDI
within the sector. Section 4 outlines the empirical model to be tested and sets out our
hypotheses concerning the determinants of FDI. Section 5 briefly describes the data to be
used and Section 6 presents the results. The last section gives a summary and some
suggestions for future research.
2 FDI and European Integration
2.1 FDI from Outside the EU
The creation of an integrated European market with a common external tariff was widely
expected to have a positive impact on FDI from outside the EU for a number of reasons.
First, the potential market is now larger, allowing European subsidiaries to reach minimum
efficient scale. Second, there were concerns over ‘Fortress Europe’. An increase in outside
protection, or the threat of protection, may act to encourage FDI in the EU. The recent use
of anti-dumping legislation as a form of protectionism is one example; it has been shown
that this has had a positive impact on FDI from Japan in a number of cases (Girma,
Greenaway and Wakelin, 1999; Belderbos and Sleuwaegen, 1998). One counterbalancing
factor that may reduce the level of FDI, however, is that existing affiliates may restructure
to take advantage of the larger market, where previously they aimed to serve a series of
fragmented national markets. This could lead to a process of rationalisation of existing
affiliates within the EU (Pearce and Papanastassiou, 1997). This may be particularly
relevant for US investment, which is generally of an older vintage than FDI from other
sources. Nevertheless, despite this anticipated rationalisation, the existing evidence
indicates that European integration has had a positive impact on FDI from outside the EU
(Baldwin, Forslid and Haaland, 1996).
Recent studies of US FDI have confirmed a role for trade barriers in attracting FDI
(Scarperlanda and Balough, 1983). Grubert and Mutti (1991), using a weighted average
tariff in manufactures, found tariffs (and taxes) to be important in determining the
allocation of US FDI across countries. They found that tariffs encouraged local sales, but
not sales to other countries through exports; in these cases FDI aimed to serve the local
market rather than exporting either back to the home country or to a third market. In the
presence of tariffs, it appears that FDI may substitute for exports. These results confirm that
trade barriers may be one determinant of FDI.

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