The spillover effects of foreign direct investment on the productivity and efficiency in Indonesian manufacturing industry

The study aims to examine foreign direct investment spillover effects on the firms’ productivity performances and to examine the most important component of total factor productivity growth in explaining output growth. This study employs a time-varying stochastic frontier approach for firm level panel data of Indonesian manufacturing industry and performs a non-parametric test of the closeness of two distributions. The results demonstrate that foreign firms achieve higher productivity but less efficient than domestic firms. Increasing degrees of foreign ownership is negatively related to firms’ productivity but positively related to firms’ efficiency. There are positive horizontal spillover effects of foreign direct investment on the firms’ productivity and efficiency. The backward spillovers have positive impact on firm’s efficiency, and the forward spillovers have positive impact on firm’s productivity. However, there are negative backward spillover effects on firms’ productivity and negative forward spillover effects on firms’ efficiency. Besides that, within the same market technology spillover from FDI are smaller with higher level of labour quality. In the upstream market, the degree of absorptive capacity of suppliers has a negative impact on firms’ productivity but have a positive impact on reducing inefficiency. In the downstream markets, the greater ability of the buyers to identify, assimilate and exploit knowledge spillovers, the greater the impact on increasing productivity but the lesser the impact on reducing inefficiency. Finally, this study finds that all components of productivity; technological progress, technical efficiency change and scale efficiency change significantly contribute in explaining the TFP growth