The Gains from Foreign Multinationals in an Economy with Distortions

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We study the local and aggregate welfare effects of the expansion of foreign multinational enterprises (MNEs) in an economy with distortions. To that end, we propose a guiding general equilibrium (GE) framework that we combine with rich administrative and survey data from Mexico. We highlight the role distortions can play in GE, their ex-ante ambiguous welfare effect, and the elasticities needed to take the theory to the data. These elasticities govern the reallocation effects from foreign MNE expansions within and across commuting zones (CZs). In the data, we track domestically-owned establishments (split into formal or informal) and foreign MNEs (split into maquila and non-maquila) and measures of distortions such as crime, labor taxes, subsidies, and credit constraints (which vary across establishment types and CZs). We show that Mexico faces substantial distortions that can generate resource misallocation within and across CZs. Then, using an instrumental variable strategy, we find that increases in foreign MNE employment lead to expansions of the local domestic economy. This effect is mainly driven by the growth of the formal domestic sector. We also find that foreign MNEs in the maquila program have more muted positive effects on the domestic economy than non-maquila MNEs. Finally, we use the reduced-form estimates and the microdata to calibrate the model and quantify the GE effects. We simulate a 10% productivity shock and find that the expansion of MNEs in Mexico between 1994 and 2019 led to an aggregate 6% welfare gain. A quarter of this gain comes from reallocation effects in the presence of distortions and a fifth comes from the productivity spillovers that MNEs generate to the local economy.