Foreign direct investment and innovation in Estonia

The aim of this paper is to study the linkages between inward and outward foreign direct investment (FDI) and the innovation inputs and outputs of domestic and foreign owned companies in Estonia, a small economy in CEE.

The econometric analysis of the data about the linkages between FDI and innovation is made using the model by Crépon et al., which allows estimation of the innovation expenditure equation, the knowledge production function (with various innovation output variables as dependent variables) and the productivity equation (production function), with all the equations including company and industry level FDI variables.

The results show that the higher innovation output of foreign owned companies vanishes after various company characteristics are controlled for, but there were significant differences in innovation inputs such as the higher use of knowledge sourcing and the lower importance of various impeding factors. Outward investment has a positive influence on innovativeness among both domestic and foreign owned companies.

The managers can benefit from this study by tapping into a wider range of knowledge sources via diverse and active involvement in exporting and investing activities. Often they fail to realise that initiation of international activities can also serve as an important learning opportunity in becoming more innovative. The policy implications suggest that government policies as well as triple helix cooperation should be oriented not only towards attracting foreign interest, but also towards building opportunities for more extensive regional and international business networking by exporting and outward FDI.

The originality of the study lies in the usage of the data from a small open economy of Central and Eastern Europe. This region is a good candidate for studying the impacts of FDI; while CEE countries were closed to FDI before the onset of transition, since the beginning of transition they have witnessed massive FDI inflows. The present study seems to be one of the first ones to use three different waves of the Community Innovation Survey (CIS), specifically CIS3 covering 1998‐2000, CIS4 (2002‐2004) and CIS2006 (2004‐2006). Thereby the authors are able to study the impact of the changing economic environment on the link between FDI and innovativeness.