Productivity gap widens between multinationals and local firms
THE large productivity gap between Irish-owned businesses and multinationals has widened with home-grown firms held back by weak managerial skills, a global think tank has warned.
Productivity has “stagnated” among local businesses, with the multinational sector in some cases having “crowded-out” domestic businesses, according to the Organisation for Economic Cooperation and Development (OECD). There are also few trade links between the foreign and locally-owned firms, the Paris-based body said.
The OECD said most Irish firms have had declining productivity over the past decade.
“This has largely reflected the poor performance of local firms, with the large productivity gap between foreign–owned and local enterprises having widened,” the OECD said, in its latest assessment of the Irish economy.
“The resilience of the Irish economy hinges on unblocking the productivity potential of these local businesses.”
This is not the first time that the OECD has raised this issue.
In 2015, chief economist Dr Catherine Mann said the issue was striking, and the trend was not going in the right direction. Three years later, the international body says that the problem is getting worse.
The OECD said aggregate productivity has slowed over the past 15 years. Labour productivity rose by above 4pc in annual average terms between 1994 and 2006, which slowed to below 2.5pc between 2006 and 2014.
It said productivity spillovers can be enhanced by raising the “absorptive capacity of local businesses” and “the capacity of local firms to absorb and implement new technologies is impeded by relatively weak managerial skills”.
It added: “This partly reflects the low proportion of workers participating in lifelong learning activities. With burgeoning skill demand, there should be an increase in the share of training funding to those in employment.
“Innovation and the ability for Irish firms to fully utilise new technologies is also weakened by low research and development activities.”
The report also said that there are high regulatory barriers to entrepreneurship, including “costly” regulations relating to commercial property and legal services.
IN many ways, the growing chasm in productivity between domestic small and medium enterprises (SMEs) and the Irish arms of multinational corporations (MNCs), reported by the OECD, is not a surprise.
MNCs have long accrued a “human capital dividend” in attracting and retaining talent.
Compared to SMEs they have the scale and financial wherewithal to invest in assets and other capabilities such as ongoing development and onthe-job learning that accelerate productivity gains.
What is most startling about the OECD’s commentary is that it seems little progress has been made in the last decade in closing the productivity gap.
Why is this happening and what does it tell us about frequently touted positive spillover effects of FDI?
And is a lack of access to the most talented managerial talent a barrier to closing this gap?
For one, it suggests that the mere presence of MNCs doesn’t automatically translate into broader productivity gains. The transfer of knowledge, especially specialised knowledge that is hard to codify and communicate, doesn’t occur by osmosis.
If SMEs are to profit from the superior knowledge and technologies of MNCs, they must first increase their own capacity to absorb and assimilate new knowledge through investing in R&D, participating in collaborative R&D projects and focusing on continuous improvement.
We know from Harvard Business School Professor Michael Porter that the odds of successful knowledge transfer, and accordant gains for innovation, are greatest where agglomeration effects are present – scale advantages that accrue where SMEs and MNCs, in close proximity, are bound together in dense networks.
While building clusters in areas such as ICT, medical devices and software has long been a policy imperative, bridging the productivity divide calls for more than encouragement and incentives.
It requires a cluster-level strategy for scaling and deepening linkages among businesses, and carefully orchestrating opportunities to create shared value for SMEs and MNCs alike.
Moreover, it warrants investing in cluster-level management structures and systems to ensure that potential spill-overs and synergies are realised, and that the cluster stays fresh in light of evolving economic and competitive conditions.
For individual SMEs, the more vexing implication is whether managerial expertise (or lack of it) is a barrier to the absorption and development of new ideas and technologies, as suggested by Angel Gurria, OECD general secretary.
Ongoing managerial development and education and lifelong learning increases receptivity to new ideas and should be encouraged.
We also know from companies like Amazon and Google, that innovations are spawned from the seeds of small, sometimes unplanned, experiments throughout the company.
In his 2015 letter to shareholders, Jeff Bezos, CEO of Amazon, regaled how it is successful at innovation because it is willing to suffer a string of failed experiments.
Especially at a time when technological advances enable firms to gain productivity advantages irrespective of scale or scope, SMEs need to leverage their natural agility to outmanoeuvre their larger rivals in responding to opportunities emerging in the digitally-driven competitive landscape.
Above all, successfully developing and commercialising new technologies and innovations requires that management teams are open to new ideas and willing to redirect coveted resources towards the most promising ideas and experiments.
So, perhaps the solution is to pay more attention to how SMEs are managed.
According to a recent survey by McKinsey, only 8pc of companies surveyed believed their business models would remain economically viable if their industry continues to digitise. Research published by the UCD Michael Smurfit School last year indicates some reticence among managers to invest in digital capabilities.
SMEs may not win the war of attrition that exists in managerial labour markets, but they can increase their odds by developing their management capabilities to become more ambidextrous – exploiting their business models while exploring options for reinventing those models for new, alternative technological futures.
Ciaran Heavey (Associate Professor, UCD Smurfit School) and Patrick Gibbons (Jefferson Smurfit Professor of Strategic Management, UCD Smurfit School)