Global knowledge flow and Japanese multinational firms’ offshore R&D allocation and innovation

•Offshore R&D expenditure of Japanese multinational enterprises (MNEs) has increased.•The number of patent applications by Japanese MNEs has been falling.•The quality of Japanese MNEs’ patent applications did not improve during the 2000s.•The allocation of offshore R&D does matter for high quality innovation.•Shifting R&D toward places with a higher knowledge network centrality is beneficial. This paper examines whether allocating more research and development (R&D) activities to a country-industry pair with a higher intensity of knowledge flows improves the innovation performance of multinational enterprises (MNEs). We use firm-patent-matched data for Japanese manufacturing MNEs, including data on MNEs’ offshore R&D expenditure and information on patents filed by both parent firms and overseas affiliates. Moreover, as a proxy for the intensity of knowledge flows, we use the eigenvector centrality of each country-industry pair in the global knowledge flow network, utilizing patent citation information. We find that the quality-adjusted number of patent applications tends to be higher for MNEs that allocate more R&D activities to country-industry pairs that are more central in the network of global knowledge flows. However, we did not find any significant relationship between the country and industry distribution of offshore R&D and the number of patent applications.