Horizontal versus Vertical Foreign Direct Investment: Evidence from U.S. Multinationals

We use firm-level data from the Bureau of Economic Analysis to document a new set of facts on the motives for foreign direct investment. We document that a key difference between ‘’horizontal” and ‘’vertical” affiliates is their size: Intra-firm trade is concentrated among a small number of large affiliates, while the median affiliate, smaller in size, reports no shipments to the parent and directs the bulk of its sales to unaffiliated parties in its country of operation. We find that the input-output coefficient between the industries of operation of the parent and the affiliate—a characteristic commonly used to signal a vertical relationship—is not related to the corresponding intra-firm flows of physical goods, raising doubts about input-output based characterizations of affiliates. Using the affiliate-level data, we construct novel industry-country indexes for the intensity of vertical and horizontal activities of U.S. multinational firms. These indexes will make it possible, without directly having data on the destination of affiliate sales, to characterize the predominant type of affiliates in a particular country and industry. We are thankful for helpful comments from David Atkin, Pablo Fajgelbaum, Fritz Foley, Nicholas Sly, and Stephen Yeaple, as well as seminar participants at the European Economic Association Annual Meetings, London School of Economics, NBER ITI Spring Meeting, Columbia University, Princeton University, Society of Economic Dynamics, Rocky Mountain Empirical Trade Conference, Stanford University, Dartmouth College, UBC, Federal Reserve Bank of Chicago, and UC San Diego. We would also like to thank William Zeile for help with the multinational affiliate data and comments on an early draft. Ruhl thanks the National Science Foundation for support under grant SES-0536970. The statistical analysis of firm-level data on U.S. multinational companies was conducted at the Bureau of Economic Analysis, U.S. Department of Commerce, under arrangements that maintain legal confidentiality requirements. The views expressed are those of the authors and do not reflect official positions of the U.S. Department of Commerce.