Intellectual property and the organization of the global value chain

This paper highlights the role of intangible assets in a property rights model of firm organization with sequential production. Empirical evidence based on foreign direct investment and transaction‐level trade data of Slovenian firms reveals that the strength of intellectual property rights (IPR) protection in the supplier's location affects firms' organizational choices whenever supplier investments are sequential complements. In this case, when a firm must transmit know‐how to each supplier, and more knowledge is accrued as production moves downstream, better IPR institutions lead to lower incidence of vertical integration over outsourcing, principally at more downstream stages. On the other hand, the organizational choice is far less responsive to IPR protection for sequential substitutes. Moreover, we show that improving IPR and contracting institutions (e.g. rule of law) may have the opposite effect on firm boundaries. Our findings conform with a property rights model in which the quality of the IPR regime governs knowledge transmission along the supply chain, ultimately driving firm organization through the suppliers' incentive structure. This paper is part of the Economica 100 Series. Economica, the LSE “house journal” is now 100 years old. To commemorate this achievement, we are publishing 100 papers by former students, as well as current and former faculty. Gianmarco Ottaviano was a Prof. within the Dept. of Economics, LSE from 2011–2018.