Complementarities between Outsourcing and Foreign
Sourcing
by
Gene M. Grossman
Princeton University
Elhanan Helpman
Harvard University
and
Adam Szeidl
University of California, Berkeley
October 5, 2004
Abstract
We examine the strategies of
rms that face an array of organizational choices. Each
rm must acquire intermediate inputs and assemble
nal products. It can perform these
activities internally or externally, and at home or abroad. We study the relative prevalence
of various organizational structures in industries that di¤er in
xed organizational costs
when
rms in each industry di¤er in their productivity levels. We identify conditions
under which outsourcing and foreign sourcing are positively correlated across industries.
This correlation results from two sources of complementarity between outsourcing and
foreign sourcing.
JEL Classi
cation: F23, F12, L22
Keywords: outsourcing, integration, foreign direct investment, complementarity.
We acknowledge with thanks the support of the National Science Foundation and the US-Israel Binational
Science Foundation.
1 Introduction
Outsourcing has been growing both domestically and internationally. So has foreign direct
investment (FDI). New models of international trade address these phenomena using recent
advances in the economic theory of organizations. The models help us to identify circum-
stances under which
rms choose to make their inputs themselves or buy them from third
parties, and when they choose to produce or procure their inputs locally or abroad.1 Some
authors investigate the organizational choices of homogeneous
rms in an industry with some
particular characteristics while others examine the relative prevalence of di¤erent organiza-
tional structures in industries with heterogeneous
rms.2
In this paper, we combine elements from Antràs and Helpman (2004) and Grossman,
Helpman and Szeidl (2004) to study the relationship between outsourcing and foreign sourcing
(or o¤shoring). Our analysis focuses on industries with heterogeneous
rms that make
i