Question

1. “Differences in factor intensity between stages of production are very important for firms engaged in vertical FDI than horizontal FDI” Explain why.

Answer 1

In case of a vertical FDI, a multinational company acquires firms in different countries for different stages of manufacturing. Imagine this way, the production process is simply fragmented to different countries where the cost of production is the least. So, a firm can be either a supplier or a distributor for the multinational corporation. For example, a company X can acquire a firm for supplying Nuts in country Y.

On the other hand, horizontal direct investment occurs when a multinational corporation sets up exactly the same production activities similar to its home country.

We need to understand that in horizontal direct investment, its the MNC itself which is setting up operations. So, the onus is on them to deliver products with optimal efficiency.

Differences in factor intensity necessary conveys us the difference in importance of one factor over another. At various stages, this directly gives an idea about the importance of factors such as capital, labor, etc, and throws light on the production rate of the firm overall. So, when a tire company has less capital and more labor, it means that the efficiency associated with them. Therefore the MNC won't be interested in acquiring the firm. The difference in factor intensity during various production levels should be as less as possible to bring out the most efficient outcome for the MNC.

On the other hand, these issues are not present in the case of horizontal FDI, because it's just one firm operating: the MNC itself. Hence there is not much of an importance of this indicator.

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