Competition and the Boundaries of the Firm: Evidence from Offshoring 

Abstract

We examine the effects of product market competition on firms' incentives to offshore output and input. In a large sample of listed U.S. firms, competition stimulates output (sales) driven offshoring. The positive effect of competition on output offshoring is stronger when firms sustain profitability shortfalls and market share losses to rivals. Moreover, competition drives input cost minimization, inducing a substitution effect in which firms shift to outsourcing (purchase inputs from foreign suppliers) in replacement of internal sourcing (manufacturing inputs internally via foreign-owned subsidiaries). This substitution effect is stronger in financially constrained and cash-strapped firms, though weaker in R&D-intensive firms with unrealized innovations. Finally, competition encourages outsourcing from suppliers located in countries with cheaper labor. Our findings uncover a key role of competition in shaping the architecture and economic geography of global value chains, highlighting the importance of competition for the boundaries of the multinational firm.

Keywords: Competition, Offshoring, Outsourcing, Firm boundaries, Cost minimization JEL Classification Numbers: F23, G31

JEL Classification: F23, G31