Foreign Direct Investment and Wage Spillovers in The Indonesian Manufacturing Industry

Bulletin of Monetary Economics and Banking, Special Issue 2022, pp.
125 - 160
p-ISSN: 1410 8046, e-ISSN: 2460 9196
FOREIGN DIRECT INVESTMENT AND WAGE SPILLOVERS IN

THE INDONESIAN MANUFACTURING INDUSTRY
Mohammad Zeqi Yasin*,**, Miguel Angel Esquivias**, and Nur Arifin***

*Corresponding author: Research Institute of Socio-Economic Development (RISED), Surabaya,
Indonesia. Email: mohammad.zeqi-13@feb.unair.ac.id
**
Department of Economics, Universitas Airlangga, Surabaya, Indonesia
***
BPS Statistics, Indonesia.
ABSTRACT
We examine whether Foreign Direct Investment (FDI) influences wage spillover
in the manufacturing sector in Indonesia from the perspective of three recipients
(dimensions): industry, province, and technology intensity. Annual data of Indonesian
manufacturing firms from 2011 to 2015 is employed. Using the Fixed Effect Model,
we found the spatial (province) dimension to matter the most as it consistently
indicates that inward FDI depresses wages in the recipient province. When we split the
observation based on firm size, FDI inflows within the technology intensive subsectors
were found to discourage wages. Only FDI inflows within the host industries support
higher salaries for smaller domestic firms and gains in labour productivity. The
coordination between central and local governments remains essential to ensure that
local companies are sufficiently competitive with foreign companies.
Keywords: FDI; Wage Spillover; Manufacturing industry; Indonesia.

JEL Classifications: J31; F23; L60.
Article history:
Received : October 05, 2021
Revised : November 24 2021
Accepted : December 07, 2021
Available Online : January 31, 2022
https://doi.org/10.21098/bemp.v25i0.1821
Bulletin of Monetary Economics and Banking,
126 Volume 25, 15th BMEB Call for Papers Special Issue (2022)
I. INTRODUCTION
The debate on whether incoming FDI benefits the host country has attracted
substantial attention, resulting in a plethora of studies. FDI may affect the host
economy by increasing labour demand, enhancing international markets, and
escalating production capacity (Li and Tanna, 2018; Ni et al., 2017). Most of the
recent studies in Indonesia have studied FDI spillovers from the perspective
of productivity and efficiency gains of firms through which incoming foreign
companies might motivate (positive spillover) or, conversely, demotivate
(negative spillover) local companies (see Sari et al., 2016; Sari, 2019; Suyanto et al.,
2014). However, little is discussed about the impact of such spillovers (presence of
multinational enterprises, henceforth MNEs) on the markets for capital and labor
resources, specifically wages.
The hypothesis of this paper is motivated by a theoretical argument which
postulates that FDI spillovers might not only affect productivity and efficiency,
but also have implications in the market for production factors. Krugman et al.
(2018) proposed that incoming FDI, commonly via MNEs, influences the market
for factors of production by inducing income distribution effects. International
companies are likely to attract high-skilled workers as MNEs possess advanced
technological levels, higher capital intensity, more advanced management systems,
and often offer higher wages than local firms (Chen et al., 2011; Javorcik et al.,
2012). Consequently, FDI may widen the wage gap between foreign and domestic
firms in the host country, leading to worse-off local companies losing skilled
workers or increasing labor costs. A widening inequality gap might occur if local
companies lack competitiveness or are unable to attract talent. Chen et al. (2011)
argued that the competition between foreign companies and local firms enables
labour demand to increase, obliging local companies to raise wages to attract high-
skilled labour in a race to narrow the wage gap with foreign companies.
To test our hypothesis, we employ a panel dataset of Statistik Industri of
Indonesia covering the 2011-2015 period. We employ a fixed-effect model to
test whether wage gaps are related to FDI spillovers across sectors, tech groups,
and provinces. We use the proxy of Javorcik’s (2004) horizontal spillovers that
estimates the share of firm’s output produced by foreign firms. As studies using
the horizontal spillover measure may suffer from cross-sectional dependence
(Baltagi and Pesaran, 2007), we use the standard error of Driscoll and Kraay (1998).
Hypothetically, output growth is linked to increased demand for workers, while
increases in the market share of foreign-owned firms indicate a higher demand
for skilled workers. A larger growth in the market share of foreign firms means
higher demand for skilled workers, which is linked to wage gaps, in line with the
predictions in Indonesia (Javorcik et al., 2012; Sjöholm and Lipsey, 2006; Lee and
Wie, 2015). We classify firms according to the OECD (2011) guidelines to account
for heterogeneity in technological diffusion effects across different sectors (Table
A2). Our approach differs from Chen et al. (2011): they used capital-ownership,
such as foreign-owned and government-owned capital, to capture FDI spillover.
The results of our study reveal that only horizontal spillover within the host
province significantly affects wages. When we split the data sample based on firm
size, most of the spillover dimensions show negative effects from FDI inflows, so
we conclude that incoming foreign investment does not stimulate higher wages
Foreign Direct Investment and Wage Spillovers in the Indonesian Manufacturing Industry 127
in domestic firms. These findings are robust for our sub-sample (domestic firms,
wage-gap group, and Java & Sumatra regions).
As a robustness test, we have applied three different strategies. First, to capture
the effect of FDI spillover on domestic companies, we provide estimates for all
firms and only for domestic firms. By removing foreign companies, we remove
the possibility of accruing effects captured by MNE to domestic ones, as suggested
by Sjöholm and Lipsey (2006). Second, we group firms based on the wage gap
between foreign and domestic firms. The Low-gap group consists of firms with
wages below the sectoral average wage gap of 50%. Meanwhile, the high-gap group
consists of firms paying wages above the average wage gap. Third, we test the
effects for firms located on the Java and Sumatra Islands, referred to by Tomohara
and Takii (2011), who found FDI spillover within those Islands in Indonesia.
Prior studies have identified that foreign firms offer wage premia (Lipsey
and Sjöholm, 2004; Sjöholm and Lipsey, 2006). Tomohara and Takii (2011) found
wage inequality due to increasing FDI inflows in Indonesia, Lee and Wie (2015)
examined the source of wage inequality in Indonesia by looking into the effects
of FDI on technological progress and workers’ education, finding that FDI
increased demand for high-skilled workers. Higher inflows of FDI led to wage
inequality as demand for skilled labour was more pronounced than for low-skilled
workers. Previous studies in Indonesia identified that MNE pays higher wages
than domestic firms (Wage gap). However, little is said on whether the presence
of MNE leads to an increase in wages in the labor market in the host province,
recipient industry, or technologically related sub-sectors. Meanwhile, similar to
the evidence found in other countries in Southeast Asia (Nguyen, 2019), Chen et
al. (2011) found evidence of negative FDI spillover in wages for domestic firms in
China, suggesting that FDI discourages wage growth in local firms. In Vietnam,
Nguyen et al. (2019) demonstrated that FDI inflows put downward pressure on
the wage rates of domestic firms via spillover effects and cut-off capability, finding
that a 1 percent increase in foreign capital leads to a 2.03 percent drop in wages
for domestic firms. Chen et al. (2011), Nguyen (2019), and Nguyen et al. (2019) all
found that industry-specific and firm-specific characteristics explain substantial
differences in the impact of FDI on wages in some Asian countries. Similarly, in an
Italian case (Pittiglio et al., 2014), technological differences between domestic and
foreign companies were found to be too large, suggesting that firm-specific and
industry-specific characteristics need to be considered when estimating spillover
effects from FDI in wages, In the context of Indonesia, earlier studies (e.g., Lee
and Wie, 2015) generally missed examining the effects of foreign investment at
industry-specific level or across groups of tech-related firms. We aim to fill that
empirical gap. Additionally, we group firms according to size to distinguish the
impact of FDI within firm size groups, a novel approach in the literature.
This study contributes to the literature in several ways. First, we capture the
effects of FDI spillover in wages across different sectors, technology intensity
levels, and locations. Studies such as Chen et al. (2011) mainly focus on horizontal
spillovers within the industry and province, but not on the possible effects within
groups of similar technology intensity. Theoretically, FDI may impact high and
low technology intensity sectors differently. The technology diffusion driven by
FDI is greater in the high technology sectors than in the low-technology ones as
high-tech firms rely on innovation, research, and development (Keller, 2010). In

this sense, the proportion of skilled workers hired in high technology subsectors is
larger than in labor-intensive (low-tech) firms. Secondly, in theoretical arguments,
there is a different effect of inward FDI on the wages paid by domestic firms. As
large firms can employ more sophisticated technology (Charoenrat et al., 2013;
Ciani et al., 2020; Toma, 2020), they may compete with foreign firms in wage
bargaining in the labour market for high-skill workers. Hence, we differentiate
the impacts of spillover effects in firms according to the size, which is important
in assessing policies about foreign direct investment and liberalization of markets
The case of Indonesia is intriguing, as incoming FDI into the manufacturing
sector has increased progressively since the 1980s, when trade and industrial
policies provided stronger incentives for investment (Pangestu et al., 2015). From
the mid-1980s to 2019, FDI expanded more than 90 fold to reach nearly US$25
billion in 2019 (Suyanto et al., 2021). This progressive growth of FDI in Indonesia
may contribute to wage inequality between local and foreign companies. Javorcik
et al. (2012) revealed that foreign firms offered, on average, a 39% higher level
of wages for their workers in 1990-2009 in Indonesia. However, as there is high
heterogeneity among Indonesian manufacturing firms (e.g., level of technology,
location, and size), domestic firms in each subsector may respond differently to
the inward FDI regarding their wage levels. However, this potential heterogeneity
in FDI impacts on wages has not been observed across technology groups in earlier
studies on FDI in Indonesia.
The following section explains the data, methodology, and econometric
specifications of spillover measurements. Section III presents the findings of this
study and offers further discussion. Finally, the conclusion and policy implications
are provided in Section IV.
II. DATA AND METHODOLOGY

A. Data and Variables
This study uses annual firm-level data spanning from 2011 to 2015, sourced from
the Large and Medium Industrial Survey by Statistics Indonesia, representing more
than 74% of the population. We use an unbalanced panel dataset. To categorize
firms by size, we refer to the definition of Statistics Indonesia, classifying a firm
as a large firm if it has more than 99 workers; otherwise, the firm is classified as
a medium-size firm. However, we also used an output-based measure for firm
size, the ratio of a firm’s output (in Rupiah) to the total output in the subsector (in
Rupiah), to provide estimates based on firm size quartiles.
This study uses the proxy of labour cost per worker as a proxy of wages. Labour
cost refers to the cost of both production and non-production workers in Rupiah.
Meanwhile, we follow Javorcik (2004) in using horizontal spillovers as the measure
indicating the foreign share of production (output) on a specific dimension. This
study distinguishes the horizontal spillover in different dimensions: within the
industry (two-digits subsector of the Indonesia Standard Industrial Classification
or KBLI), the province, and technology intensity (OECD, 2011). The general
formula is specified below:
(1)
where i denotes the firm, and j indicates the subsector/province/technology

intensity. HSpill represent the horizontal spillover effect, FSh is the share of a
firm’s foreign capital ownership, Yit is the total output in the manufacturing sector.
Control variables are considered, such as the dummy of foreign-capital ownership
(FOR) and the interaction between FOR and FSh. The control of FOR is referred
to in earlier studies (Arnold and Javorcik, 2009; Esquivias and Harianto, 2020;
Javorcik et al., 2012) that argue that foreign firms are more likely to offer a higher
wage. There are several thresholds of FOR. This study uses 10% as a threshold,
which is referred to the 2009 OECD study and Javorcik et al. (2012). Meanwhile,
the interaction between FOR and FSh refers to the study by Sari et al. (2016). The
coefficient of this interaction variable will reflect the impact of higher percentages
of foreign ownership on firms’ wage levels.
Other control variables included are imported material intensity, firm size,
market concentration, and labour productivity, referred to in some prior studies
(Chen et al., 2011; Pittiglio et al., 2014). We expect firms employing imported
raw materials or having a larger share of the market (proxy by the Herfindahl-
Hirschman Index - HHI) to demand higher skills in workers. The resource-based
theory explains that firms may create a comparative advantage on production cost,
product, or service. In that logic, imports may be expected to help firms’ lower
production costs, improve product quality or diversification, or help deliver better
service (shorten the delivery time, production, guarantee, or so on). Similarly,
maintaining market power requires employing more efficient resources. Labour
productivity might affect positively to the wage level as more productive labour is
stimulated by higher wages. Table 1 summarizes the description of these variables.
Table 1.
Variable Description
This table provides a detailed description of the variables considered in this study.
Variable Proxy
Labour cost (in Rupiah) per worker (labour cost includes salary, overtime wage,
Wage
bonus in cash, insurance, and accident allowance).
Share of outputs (in Rupiah) of the foreign-owned company. Horizontal
spillover is computed per subsector (23 groups), province (32 regions), and
Horizontal Spillover
technology intensity groups (High, Medium High, Medium Low, and Low
Technology)
Dummy of a foreign company (1 if a firm possesses more than 10% share of
FOR
foreign capital, 0 if otherwise).
Imported material intensity measured by the ratio of imported material (in
Import
Rupiah) to the total material (in Rupiah).
Number of labour: 1 (large firm) if the firm has more than 99 workers, 0
Firm Size
otherwise (medium firm).
Foreign Share The share of firm foreign capital ownership.
Herfindahl-Hirschman Index (HHI) is measured by squaring the market share
Market Concentration
of each firm competing in a subsector and then summing the resulting numbers.
Value added per labour (Value added equals total sales minus expenditures for
Labour Productivity
energy and raw materials inputs).
There might be a biased analysis if the monetary-value variables such as

labour cost, total output, imported materials, and value added are directly used.
Therefore, this study adjusts monetary variables by the price index to make the
data constant. This study uses the deflating approach with the Wholesale Price
Indices of Indonesia of 2010 as the base year.
B. Methodology
This study arranges several specifications to capture the wage spillovers in such
ways: within the industry, within the province, and within technology intensity.
The specifications (2-6) are set as follow:
(2)
(3)
(4)
(5)
(6)
where wit is the natural logarithm of labour cost per worker, HSpill_Indj,t is the
horizontal spillover of subsector j in period t, HSpill_Provk,t is the horizontal spillover
of province k in period t, HSpill_Techl,t is the horizontal spillover of technology
intensity group l in period t. Zmit is a set of control variables and consists of the
dummy of foreign-owned company, the interaction of FOR and foreign share,
imported material intensity, firm size (labour-based), market concentration, and
labour productivity. µi is an unobserved individual effect that is time-invariant. uit
is the idiosyncratic error.
The least-squares estimators of βj are biased and inconsistent when introducing
individual heterogeneity, µi, that is correlated with all independent variables. In
addition, that may be consistent, albeit inefficient, when µi is uncorrelated with all
regressors. Fixed Effect Model (FEM) estimates the coefficient of each variable for
the first case and Random Effect Model (REM) for the latter one. In other words,
the critical issue of determining whether FEM or REM is employed is dependent
on whether we can reasonably believe that µi is correlated with all regressors
(Wooldridge, 2016). According to the data structure, which has numerous
individual units (N) and a short period of time (T), it is reasonable that has
a separate intercept for each cross-sectional unit. In that case, FEM is plausibly
employed. Moreover, when it comes to policy analysis utilizing aggregate data,
FEM generally outperforms REM (Wooldridge, 2016).
The premises of serially uncorrelated errors and homoscedasticity are critical
for executing inference using the FEM and REM approach to panel data models.
Moreover, it is necessary to check classical assumptions consisting of non-
autocorrelation, non-multicollinearity, normality, and homoscedasticity tests. We
can rely on asymptotic approximations that require large N and small T in the
absence of normality assumptions (Wooldridge, 2016).
The model with spillover and spatial effects may cause cross-sectional
dependence (Baltagi and Pesaran, 2007). Cross-sectional dependence may also
stem from unobserved common factors. When unobserved factors lead to cross-
sectional dependency, the standard FE and RE estimators will be biased and
inconsistent (De Hoyos and Sarafidis, 2006)1. In this regard, it is essential to use
an alternative estimator for the model with cross-sectional dependency. As our
model accommodates the spillovers effect, cross-sectional dependence is likely to
occur. In this regard, we employ an FE estimator using Driscoll and Kraay (1998)
standard errors, proven as having well-calibrated results when cross-sectional
dependence exists (Hoechle, 2007).
III. RESULTS AND DISCUSSION

The analysis starts by looking at the descriptive statistics in Table 2. According
to Table 2, the average wage of a worker in the manufacturing sector was Rp
15.4 million a year. However, when looking into wages across groups of firms,
substantial differences emerge (Figure 1). Large firms can pay 55% higher salaries
and MNEs 97% higher wages compared to an average domestic firm. Differences
across sectors and technology intensity are also important (see Figure 1-3). The
average values of horizontal spillovers for each dimension (industry, province,
and technology) are respectively 28.35%, 29.62%, and 29.56%. Within our dataset,
approximately 8.9% of firms are foreign-owned companies, with about 7.72% of
foreign capital ownership. Imported material intensity has an average of 7.5%,
although in specific sectors the share of imports increases. The HHI index has
an average of 586, suggesting a generally competitive environment. However, at
some sub-sectors the HHI index can increase to moderate or high levels of market
concentration.
1
There are several tests to identify cross-sectional dependence: Pesaran’s CD test of (Pesaran, 2004),
Friedman’s test of (Friedman, 1937), Frees test of (Frees, 1995). However, due to limited availability
of the software needed to examine cross-sectional dependency for our large dataset, we assume that
cross-sectional dependency exists.
Table 2.
132
Descriptive Statistics
This table summarises descriptive statistics. We report mean, maximum, minimum, and Standard Deviation (SD) of main variables used in the study. All variables are defined in Table 2.
Variable Observation Unit Mean Std. Dev. Min Max

Wage 67194 Million Rupiah 3.832 20.516 0 1446.632
Horizontal Spillover within industry 67194 Percentage 28.359 14.336 0.329 90.63
Horizontal Spillover within province 67194 Percentage 29.625 16.953 0 93.399
Horizontal Spillover within technology 67194 Percentage 29.568 9.192 18.234 73.842
Foreign Companies 67194 Dummy 0.089 0.285 0 1
Foreign Share 67194 Percentage 7.72 25.53 0 100
Imported Material Intensity 67194 Percentage 7.503 22.678 0 100
Firm Size 67194 Dummy 0.283 0.451 0 1
Market Concentration (HHI) 67194 Ratio 586.042 852.752 101.562 4962.318
Labour Productivity (LabProd) 67194 Ratio 17.163 1.375 9.597 26.732
Volume 25, 15th BMEB Call for Papers Special Issue (2022)
Figure 1.
Wage Premia
This figure illustrates the different magnitude of wages between each category: 1) technology intensity consisting of
High Technology (HT), Medium High Technology (MHT), Medium Low Technology (MLT), and Low Technology
(LT); 2) capital ownership, consisting of foreign company (FOR) and domestic company (Domestic); 3) Importer vs.
non-importer firms; 4) Large vs. Medium firms.
140% 130%
120%
104%
100% 97%
81%
80% 76%
61%
60% 55%
40%
27%
20%
0%
-11%
-20%
HT/MHT
HT/MLT
HT/LT
MHT/MLT
MHT/LT
MLT/LT
FOR/Domestic
Large/Medium
Importer/Non Importer
Technology Ownership Import Firm Size
Figure 2.
Employment Premia
This figure illustrates the different magnitudes of employed production workers between each category: 1) technology
intensity, consisting of High Technology (HT), Medium High Technology (MHT), Medium Low Technology (MLT),
and Low Technology (LT); 2) capital ownership, consisting of foreign company (FOR) and domestic company
(Domestic); 3) Importer vs. non-importer firms; 4) Large vs. Medium firms.
1600%
1394%
1400%
1200%
1000%
800%
600%
330% 367%
400%
200% 111%
28% 71% 64% 33%
0%
-19%
-200%
HT/MHT
HT/MLT
HT/LT
MHT/MLT
MHT/LT
MLT/LT
FOR/Domestic
Large/Medium
Importer/Non Importer
Technology Ownership Import Firm Size

Figure 3.
Employment Premia
This figure illustrates the different magnitude of the wages gap between foreign and domestic firms differentiated by
three quartiles of firm size.
Gap of Foreign and Local Wages

25%
Foods 21%
20% 18%
15%
10%
6%
5%
0%
Q1 Q2 Q3

100% 95%
90% Beverages
80%
70%
60%
50%
40% 32%
30%
20%
10% 0%
0%
Q1 Q2 Q3

100%
12% 32%
0%
-100%
-200%
-300%
-400%
-500%
-600% Tobacco
-605%
-700%
Q1 Q2 Q3
Figure 3.
Employment Premia (Continued)
35%
Textile 30%
30%
24%
25%
20%
16%
15%
10%
5%
0%
Q1 Q2 Q3

15% 14%
Apparel 11%
10%
5%
0%
-5%
-10%
-11%
-15%
Q1 Q2 Q3

40%
28%
16%
20%
0%
-20%
-40%
-60% Leather & Footwear

-66%
-80%
Q1 Q2 Q3
Figure 3.
30% 27% 27%
25% Woods
20%
15%
10%
5%
0%
-5%
-10%
-15%
-15%
-20%
Q1 Q2 Q3

25%
22%
Paper & Printing
20%
15%
15%
10%
5%
0%
0%
Q1 Q2 Q3

30%
Printing & Recording
24%
25%
20%
15%
10%
5%
0% 0%
0%
Q1 Q2 Q3
Figure 3.
70%
62%
Product Coal & Reﬁnary
60%
50%
40%
30%
20%
10%
0% 0%
0%
Q1 Q2 Q3

60%
Chemical
48%
50%
40%
30%
21% 20%
20%
10%
0%
Q1 Q2 Q3

35%
30%
Pharmaceutical
30%
25%
20%
15%
10%
5%
0% 0%
0%
Q1 Q2 Q3
Figure 3.
33%
32%
33% Rubber & Plastic
32%
32%
31%
31% 30%
30% 30%
30%
29%
29%
28%
Q1 Q2 Q3

40%
36%
Fabricated Metal
35%
31%
30%
25%
20%
15%
8%
10%
5%
0%
Q1 Q2 Q3

60%
Metal Based
48%
50%
43%
40%
30%
18%
20%
10%
0%
Q1 Q2 Q3
Figure 3.
30% 28%
Metal
25% 23%
20%
15%
10%
5%
0%
0%
Q1 Q2 Q3

60%
Computer
50%
50%
41%
40%
30% 27%
20%
10%
0%
Q1 Q2 Q3

25%
21%
Electrical Equipment
20%
15%
10%
5%
0%
0%
-5%
-5%
-10%
Q1 Q2 Q3
Figure 3.
50%
45%
45% Machinery
40%
35% 32%
30% 26%
25%
20%
15%
10%
5%
0%
Q1 Q2 Q3

100%
34% 26%
50%
0%
-50%
-100%
-150%
-200%
-250%
-300% Motor & trailer

-320%
-350%
Q1 Q2 Q3

30% 28%
Other Transport
25%
20% 18%
15%
10%
5%
0%
0%
Q1 Q2 Q3
Figure 3.
50%
8%
5%
0%
-50%
-100%
-150%
Furniture
-200%
-193%
-250%
Q1 Q2 Q3

30%
Other Manufacturing 24%
25%
20%
15%
10%
6%
5%
0%
0%
Q1 Q2 Q3
Furthermore, this section discusses our main findings obtained by estimating

equations (2-6). First, we estimate the three basic models, namely Pooled OLS,
Fixed Effect Model (FEM), and Random Effect Model (REM) from Equation (6),
employing standard panel estimators (see Table 3). Three models are proposed.
However, we do not refer to POLS as heterogeneity effect is ignored in this model.
Hence, either FEM or REM are preferred and selected using Hausman test. The
result suggests that the FEM is the most suitable model to be employed (Table
4). Table 5 reports the estimate of the fixed-effect model. Table A3 reports the
multicollinearity test and Table A4 displays the correlation matrix. We apply
the Driscoll-Kraay standard errors to accommodate models with cross-sectional
dependency. Comparing the FEM estimates of Tables 4 and 5, the magnitude and
sign of the coefficients are similar, although the significance varies.
Table 3.
Regression Results of Three Basic Models
This table reports the estimates of Pooled Ordinary Least Square (POLS), Fixed Effect Model (FEM), and Random
Effect Model (REM). In this result, robust standard errors have not been employed to identify a suitable specification
using F-test and Hausman test. POLS = Pooled OLS, FEM = Fixed Effect Model, REM: Random Effect Model; Standard
errors are in parentheses. ***, **. * : significances at alpha 1%, 5%, and 10%.
POLS FEM REM

HSpill_Ind 0.001*** 0.005*** 0.001***
(0.000) (0.001) (0.000)
HSpill_Provi -0.002*** -0.026*** -0.004***
(0.000) (0.001) (0.000)
HSpill_Tech 0.008*** -0.005*** 0.007***
(0.001) (0.001) (0.001)
FOR 0.230*** 0.249 0.230***
(0.061) (0.171) (0.071)
FOR×Foreign Share -0.103 -0.179 -0.083
(0.068) (0.194) (0.079)
Imported Materials 0.115*** -0.273*** 0.102***
(0.022) (0.061) (0.026)
Firm Size 0.196*** 0.145*** 0.200***
(0.011) (0.034) (0.013)
HHI -0.000*** -0.000*** -0.000***
(0.000) (0.000) (0.000)
LabProd 0.402*** 0.405*** 0.414***
(0.004) (0.006) (0.004)
Constant 8.887*** 9.934*** 8.788***
(0.060) (0.111) (0.066)
Observations 67194 67194 67194
R2 (Within) 0.22 0.12 0.09
Table 4.
Hausman Test
This table reports the result of the Hausman test for selecting a suitable model.
Hausman Test
Chi-square test value 1655.84
p-value 0.000
To capture the impact of FDI spillover on domestic companies, we estimate

Horizontal Spillover separately for All firms (including foreign companies) and
only Domestic Firms (excluding foreign firms). We compare the impact of FDI on
domestic firms, splitting the results associated with foreign companies within the
same sector and the same province following (Nguyen, 2019; Suyanto and Salim,
2011). For instance, the coefficient FOR is excluded when estimating effects for
Domestic firms as no foreign firms are included in the sample (Table 5-6).
Table 5.
Regression Results of Wage Spillovers
This table reports the estimates using FEM. Model 1-5 refers to equations (2)-(6). The column of All Firms refers to all observations (both foreign and local firms), while the Domestic
Firms column only includes observation for local firms. In this result, robust standard errors are employed. Driscoll-Kraay standard errors are in parentheses. ***, **. * : significances at
alpha 1%, 5%, and 10%.
Model 1 Model 2 Model 3 Model 4 Model 5

Domestic Domestic Domestic Domestic Domestic
All Firms All Firms All Firms All Firms All Firms
Firms Firms Firms Firms Firms
HSpillInd 0.003 0.005 0.004 0.005 0.005 0.007
(0.005) (0.006) (0.006) (0.007) (0.006) (0.006)
HSpillProvi -0.029*** -0.033*** -0.026*** -0.029*** -0.026*** -0.029***
(0.008) (0.008) (0.006) (0.006) (0.006) (0.005)
HSpillTech -0.005 -0.005 -0.001 -0.001 -0.005* -0.005**
(0.006) (0.006) (0.003) (0.004) (0.002) (0.003)
FOR 0.188*** - 0.250*** - 0.185*** - 0.249*** -
(0.042) (0.090) (0.037) (0.095)
FOR×FShare -0.195*** - -0.181*** - -0.188*** - -0.179*** -
(0.028) (0.059) (0.023) (0.065)
Imported
-0.325* -0.503* -0.274* -0.421* -0.326* -0.502* -0.273* -0.422*
Materials
(0.177) (0.262) (0.146) (0.220) (0.179) (0.261) (0.145) (0.222)
Firm Size 0.167*** 0.158*** 0.149*** 0.127*** 0.169*** 0.161*** 0.145*** 0.122***
(0.051) (0.055) (0.045) (0.044) (0.056) (0.060) (0.041) (0.040)
HHI -0.000* -0.000* -0.000** -0.000** -0.000** -0.000** -0.000** -0.000**
(0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000)
LabProd 0.417*** 0.443*** 0.406*** 0.429*** 0.418*** 0.444*** 0.405*** 0.428***
(0.105) (0.114) (0.094) (0.101) (0.105) (0.115) (0.092) (0.100)
Foreign Direct Investment and Wage Spillovers in the Indonesian Manufacturing Industry
Constant 16.945*** 16.930*** 8.899*** 8.422*** 9.935*** 9.614*** 9.019*** 8.560*** 9.934*** 9.594***
(0.227) (0.230) (2.054) (2.223) (1.602) (1.740) (2.015) (2.181) (1.693) (1.842)
Observation 67194 61191 67194 61191 67194 61191 67194 61191 67194 61191
R2 (within) 0.036 0.042 0.096 0.102 0.123 0.133 0.095 0.101 0.123 0.134
143
According to Table 5, Models 1 to 5 reveal findings similar to one another.

Horizontal Spillover within the recipient industry (HSpill_Ind) has a positive but
not significant effect on wages. This result implies that the larger output produced
by MNEs has a positive impact on wages in domestic companies within the same
subsector. However, the effects are not significant. Meanwhile, Horizontal Spillover
within the province (HSpill_Provi) reveals a significant, negative trend in the wage
rate. The negative spillover impact is more pronounced for Domestic Firms than
for the entire sample (All Firms). The result indicates that greater participation by
foreign companies negatively influences the wages in domestic firms within the
provinces where MNEs work. In this sense, wages for workers in local firms do not
increase due to the greater presence of MNEs (inward FDI). Instead, MNEs’ larger
market share diminishes wage growth within the region where they operate. As
the coefficient for foreign firms is positive (FOR), it indicates that workers in MNE
earn larger salaries than others. This suggests that the presence of MNE has an
impact on wage inequality between domestic firms and MNE. The results are in
line with the case of Vietnam (Nguyen, 2019; Nguyen et al., 2019) and China (Chen
et al., 2011), who find that FDI has a negative impact on wages in domestic firms.
Furthermore, the finding is relevant to the arguments of Li et al. (2013) and
Suyanto et al. (2021), who stated that the spillover effects might be geographically
clustered, as such agglomeration as occurs with MNEs, crowds out labor costs
and augments competitive pressures for workers within the clusters. In this
sense, the impact of HSpill_Provi is more relevant (negative) than the effect of
HSpill_Ind. Sjöholm (2017) pointed out that foreign firms in Indonesia generally
pay higher wages than domestic ones, either due to lack of knowledge of the
local labor market, to avoid labor mobility (in terms of turnover or to avoid tech
and knowledge leakages), or as a result of volatility in the demand for labor. In
that sense, the practice of paying higher wages to workers within MNEs does not
lead to an increase in wages for the entire sector or region, contrary to what was
commonly assumed in earlier studies in Indonesia, which argued the case for the
crowding out of labor due to MNE (Suyanto et al., 2021; Sari et al., 2016).
Additionally, we consider whether the technology intensity of firms has an
impact on wage premia (HSpillTech). The results of a horizontal spillover within
a specific technology intensity group (HSpill_Tech) show negative, although
insignificant effects for Models 1 to 4. This result signals that the presence of MNE
will not crowd out the market for labor within the specific technology intensity
group. The relationship between the magnitude of spillover and the technological
gap has been theoretically studied in the literature. Wang and Blomström (1992)
argued that the extent of the spillovers from FDI increases with the technological
gap. By contrast, Cantwell (1989) supported the idea that FDI encourages wages
in high-tech firms as companies seek workers with high skills in related sectors
rather than workers from unrelated tech areas (e.g., unskilled workers). Our
findings contrast with those of Pittiglio et al. (2014), who pointed out that effects
from incoming FDI are not homogeneously distributed among firms, being highly
related to the technological level of firms and less relevant for low tech. We find no
evidence of different impacts across tech groups.
Initially, we may expect that when the technology intensity gap between the
domestic and foreign firms is large, FDI inflows within high-tech sectors will lead
to higher wages for high-skill workers. Possibly a large tech gap could also lead
to lower wages for labor in low-tech sectors (decrease in demand). However, in
our findings, no significant effect of Horizontal spillover within technology is
detected. These findings suggest that FDI spillovers in wages are not different
across technology intensity groups. In this sense, although foreign firms in the
pharmaceutical industry (for example) offer higher salaries, it will not significantly
affect the wages of local firms in a similar technology group, e.g., the chemical
industry.
The dummy variable to identify foreign companies (FOR) shows positive and
significant magnitude for Models 2-5, strengthening the argument that foreign
companies offer relatively higher wage rates than domestic firms. As noted in
Figure 1, the wage premia of production workers are 1.96 times larger in foreign
firms than in domestically owned enterprises. Similarly, employment premia
(all workers included) are 3.49 larger in foreign-owned firms than domestic ones
(Figure 2). High-skill workers may benefit from the presence of foreign companies
to a larger extent than production workers, as the wage premia suggest, in line
with earlier studies in Indonesia (Sjöholm, 2017; Javorcik et al., 2012; Lee and
Wie, 2015). Higher wages signal that foreign companies may attract the most
skilled workers, leading to a workforce migration from domestic companies to
foreign ones. However, if ever that effect takes place, it does not crowd out the
labor market. A similar effect has been pointed out in earlier studies in Indonesia,
where foreign firms and exporters reported greater productivity, allowing them
to offer higher wage premia to workers (Arnold and Javorcik, 2009; Esquivias and
Harianto, 2020; Javorcik et al., 2012). However, we argue that higher wages paid by
foreign firms do not crowd out the labor market, as generally presumed in studies
in Indonesia.
Studies on other geographies (Beenstock et al., 2017) also pointed out
polarization on wages for workers in high-skill and capital-intensive sectors
compared to labor-intensive industries. We found contrasting impacts in the
interaction terms (FOR×FShare). This indicates that if foreign ownership is higher,
the firm is more likely to offer lower wages than firms with foreign ownership
below 10%. This finding signals those wages are not directly associated linearly
with the foreign share of the firm. Instead, it may rather be the status of the firms
that suggests payments of higher salaries2. As noted in Sjöholm (2017), MNEs in
Indonesia pay higher wages than domestic firms, due to a lack of knowledge of
the local labor market, high turnover, to avoid knowledge leakages, among other
reasons.
Other control variables show similar findings between Models 2 to 5. A higher
intensity of imported material is associated with a lower wage rate for firms.
This finding contrasts with our hypothesis that intensifying import activities
may require high-skill workers, forcing firms to increase wages. By contrast, the
results suggest that imports may substitute for jobs in Indonesia and lead to less
pressure for a rise in wages. It is noticeable that the magnitude of the imported
2
Study of (Sari et al., 2016) also found the similar result for the case of firm’s productivity. Sari et al.
(2016) found that for the foreign firms with threshold 10% perform a better productivity, but a larger
foreign share in the foreign firm associates to the lower productivity.
material of domestic firms is greater than the share of imports for the sample of
All Firms. This indicates that their lower wage rate may be associated with high
imports, mainly for domestic firms that may be less efficient. Imports by foreign
firms may be related to a higher quality of inputs, increasing the competitiveness
of workers and the wage rate (complementary). A plausible reason for this finding
is that domestic firms might employ less-skilled workers and utilize imported
materials as a way of substituting for skills via imported goods. In earlier studies,
domestic firms often displayed lower technical efficiency than large and foreign
firms, likely connected to their less efficient workers (Sari et al., 2016; Yasin, 2021).
In this regard, Yasin (2020) highlighted that domestic companies should instead
employ more domestic resources (labor) to increase firm performance as they are
more efficient. Nevertheless, hiring skilled workers is related to a higher cost of
inputs (e.g., higher wages), requiring domestic firms to increase productivity (e.g.,
technology capability) to be profitable.
Furthermore, market concentration (HHI) negatively and significantly impacts
the wage rate, albeit in a relatively small way. The results indicate that higher
concentration in the subsector leads to a decrease in the wage premia. Higher
market concentration also refers to the market power of firms, suggesting that
firms holding a substantial share of output may maintain dominance over the most
efficient resources (high skill labor), an insight pointed out in earlier studies, both
in Indonesia (Arnold and Javorcik, 2009; Esquivias and Harianto, 2020; Javorcik et
al., 2012) and other geographies (Bayraktar-Sağlam and Böke, 2017; Beenstock et
al., 2017; Pittiglio et al., 2014). It may be important to maintain competitive markets
to allow wage adjustments and avoid excessive market power to put pressure on
wages.
Firm size positively affects the wage rate. This finding is not surprising as we
expect larger companies often allocate more sophisticated technology to boost
production, employing higher-skilled labour. Larger firms hire more workers,
utilize higher capital, and use more advanced technology to achieve higher
efficiency and productivity, supporting previous studies that measures the impact
of FDI spillovers in wages is the categorization of firm size according to the number
of workers (e.g., Wiboonchutikula et al., 2016; Widodo et al., 2015).
The finding of firm size is strengthened by the impact of labour productivity
(LabProd) on wages. Labor productivity has a positive impact on wages in
Indonesian companies. Increasing the productivity of labour is likely to drive
earnings up. The positive link of labor productivity on wages suggests that not
only the firm’s status (foreign-owned, large, or high tech) that matters to push
wages up but also workers’ productivity. The welfare of workers may improve
as labour becomes more productive, suggesting that policymakers should place
more attention to labour productivity programs. The literature points out that
labour cost in Indonesia has increased rapidly, although not always accompanied
by gains in productivity (Sugiharti et al., 2019). Growth in wages expanding due
to minimum wage policies rather than based on labor productivity may lead to a
decline in competitiveness rather than an improvement on welfare for workers.
A. Wage Spillovers based on Firm Size Quantiles

Our finding in Table 5 demonstrates that, in general, spillovers from spatial
dimensions matter more than sectoral or technological dimensions. In this
regard, it is essential to disclose whether the insignificant findings from other
dimensions, i.e., within the industry and within technology, are affected by the
output-based firm size. Table 6 reports the estimates of effects of FDI spillovers on
wages classified in terms of three groups of output-based firm size (Q1 as smallest
firms, Q2 as medium firms, and Q3 as largest firms). As we employ a panel data
approach, the indicator of firm size is time-variant. In this regard, the groups are
based on the average firm size from 2011-2015.
According to Table 6, there are significant changes in the spillover effects when
we split the observation based on the firm size. A point to observe is that most
firms are domestic among the smallest size group of firms (Q1). Similarly, as noted
in Figure 3, the large gaps between the wages of foreign and domestic firms of the
same size occur in firms within Q2 and Q3 groups.
We found that positive spillovers within the industry (HSpillInd) occur in the
first quantile (Q1) group of firms (smallest size). Meanwhile, the other quantiles
reveal a negative magnitude. This result indicates that the presence of MNE may
lead to an increase in wages in smaller size firms (Q1). However, that increase in
wages is not transmitted to salaries from larger firms in groups Q2 and Q3. The
presence of MNE may then raise the wage level in small-size firms (Q1) within the
industry while having only a small impact on wages in Q2 and Q3.
In terms of Horizontal Spillover within the province (HSpillProvi), we identify a
similar effect across quantiles, where incoming FDI leads to a lower wage level in
domestic companies than in All Firms. Interestingly, the positive impact that firms
within Q1 experience from horizontal spillovers within the industry is canceled out
by the adverse effects from horizontal spillover effects within the host province.
Table 6.
Regression Results of Wage Spillovers based on Firm Size Quantiles
This table reports the estimates of effects of FDI spillovers on wages classified by three quantiles of output-based firm
size (Q1-Q3). Equation (6) is used in this table. The column of All Firms refers to all observation (both foreign and local
firms), while the Domestic Firms column only includes observation with local firms. Driscoll-Kraay Standard errors
are in parentheses. ***, **. * : significances at alpha 1%, 5%, and 10%.
Q1 Q2 Q3
All Domestic Domestic Domestic
All Firms All Firms
Firms Firms Firms Firms
HSpill_Ind 0.043* 0.007 -0.008*** -0.008*** -0.005*** -0.005***
(0.022) (0.010) (0.002) (0.002) (0.001) (0.001)
HSpill_Provi -0.050*** -0.007* -0.027*** -0.029*** -0.006*** -0.008***
(0.007) (0.004) (0.006) (0.005) (0.002) (0.002)
HSpill_Tech -0.052*** -0.006*** 0.014*** 0.015*** 0.000 0.001
(0.013) (0.002) (0.005) (0.005) (0.002) (0.002)
FOR -0.079 - 0.004 - 0.226*** -
(0.376) (0.055) (0.066)
FOR×FShare 0.059 - 0.235 - -0.235*** -
(0.470) (0.254) (0.024)
Table 6.
Regression Results of Wage Spillovers based on Firm Size Quantiles (Continued)
Q1 Q2 Q3
All Domestic Domestic Domestic
All Firms All Firms
Firms Firms Firms Firms
Imported Materials -1.436*** -0.478 -0.179* -0.259* 0.095*** 0.093***
(0.490) (0.344) (0.095) (0.146) (0.036) (0.032)
Firm Size 0.337*** 0.348** 0.047*** 0.028 0.139*** 0.145**
(0.076) (0.137) (0.017) (0.019) (0.049) (0.063)
HHI -0.000** 0.000 0.000 0.000 -0.000*** -0.000***
(0.000) (0.000) (0.000) (0.000) (0.000) (0.000)
LabProd 0.604*** 0.560*** 0.414*** 0.419*** 0.250*** 0.267***
(0.132) (0.161) (0.104) (0.107) (0.047) (0.048)
Constant 7.542*** 6.575** 9.620*** 9.574*** 12.389*** 12.014***
(2.479) (3.173) (1.871) (1.936) (0.833) (0.874)
Observation 22398 22259 22398 21553 22398 17379
R2 (within) 0.2 0.203 0.154 0.159 0.08 0.09
An intriguing result is revealed by the Horizontal spillover within technology

intensity (HSpill_Tech). The result shows that Q1 has negative spillovers, while Q2
shows significant positive spillovers. This finding indicates that incoming FDI for
small-size firms (Q1) in similar technology intensity might adversely affect wages.
By contrast, firms within Q2 (medium-size firms) will experience a rise in salaries
derived from horizontal spillovers. As such, competition for workers (revealed
by an increase in wages) may be more intense among firms within Q2 than in Q1.
For the Q3 group (largest firms), no significant effect is identified. This finding is
plausible as large firms have sophisticated technology and enjoy specific market
power, which allows them to pay higher wages and even compete with foreign
rivals (Ciani et al., 2020). In this sense, the wage spillover effect is not related
to the presence of foreign firms for Q3. Another consideration for the negative
magnitude of spillover effects within the technology group for smaller firms (Q1)
suggests that the presence of foreign companies is less relevant for smaller firms
than larger ones. Smaller firms might be unlikely to compete for skilled workers
once wages in the labour market increase.
The contrasting findings between pooled and size-group observations indicate
that FDI spillover effects, notably within the industry and within technology,
cannot be generalized. The impact of wage stimulation is not homogeneous across
firm size. A robust finding of Horizontal spillover implies that spatial spillovers
matter the most amongst all, supporting the finding of Li et al. (2013) and Suyanto
et al. (2021).
The dummy variable employed for foreign-owned companies does not
significantly affect wage levels for Q1 and Q2. It means that the wage level
between foreign and domestic firms is only significant for the largest size group
of the firms (Q3). Furthermore, an intriguing result is shown by the intensity of
imported materials. This result indicates that the utilization of imported materials
by smaller firms reduces wage levels. Firms might compensate for the imported
material costs by substituting them for the cost of labour, as they are produced
more efficiently abroad. As for the largest firms, access to imported intermediate
goods helps firms be more competitive, reflected in higher returns for workers.
Policymaking then may need to be differently related to inputs for production.
At Q1, larger import penetration may indicate a reduction in returns for workers
(substitution and possibly a loss in the competitiveness of domestic suppliers),
while for Q3, it relates to higher competitiveness.
The effect of firm size is more pronounced in Q1. A large impact of firm size on
wages may capture the bargaining power of labor as the size of companies increases.
Small firms may have to attract skilled workers by increasing wages. As smaller
firms have more flexibility and the ability to develop and adopt new capabilities
(Drbevich and Kriauciunas, 2011; Hernández-linares et al., 2018), it might allow them
to adjust wages in more flexible ways and to a significant magnitude compared to
larger firms. This argument supports the finding of Diaz and Sanchez (2008), who
postulated that smaller firms have lower complexity and face fewer barriers than
large firms in terms of organisational and managerial controls.
B. Robustness Test
This study conducts three approaches to examine the robustness test to compare
our findings in Table 63. The first approach is to group firms in each subsector
based on size and average wage level (high gap relative to MNE or low gap). The
second strategy is to estimate spillover effects for firms within Java – Sumatra
Island (largest industrial corridors in Indonesia) and compare the results against
all firms. The third approach estimates spillover effects by computing wages based
on production workers alone (wages do not include non-production workers). The
third approach intends to proxy the possibility of different spillover effects for
lower-skilled workers (production labour). However, the results of the sample
of including all workers and only-production workers (Appendix, Table A1)
are consistent, having only slight differences in magnitude. The results suggest
that differences in job positions (production and non-production) do not lead to
different spillover effects.
As for the first approach, we cluster firms according to the wage gap between
domestic and foreign firms in the sub-sector. The Low-gap group consists of firms
that pay 50% or less on average, relative to the wages paid by MNEs. Meanwhile,
the high-gap group consists of subsectors with an average wage gap of more than
50% relative to MNEs. The results in Table 7 indicate that the sign of the spillover
effects is similar across firms with low or high wage gaps, suggesting that results
are consistent. Results in Table 7 support the estimates in Table 6, suggesting that
the size of firms matters, adding that the level of wages also matters. We identify
that the most consistent effects stem from Horizontal spillover within the host
province. Spillover within the industry reinforces the results from Table 6. It
suggests that small firms may experience an increase in wages while large firms
may, by contrast, experience adverse spillover effects in wages. On the other hand,
spillovers related to the technology group discourage wages in Q1 (mostly in low-
wage firms) and increase wages in Q2 and Q3. Additional variables for foreign
ownership (FOR), Firm Size, HHI, labour productivity reveal similar estimates.
3
We test robustness for Table 6 as the impact of group-size matters in determining spillover effects.
Table 7.
150
Robustness Test 1: Group Size Findings and Wage Gap Group for All Observations
This table reports the estimates of the robustness test of FDI spillovers on the wages differentiated primary finding in Table 6 and the wage gap group. The wage gap group is determined
by the wage gap between foreign and domestic firms in each subsector. The Low-gap group consists of subsectors with an average wage gap of less than 50%, while the high-gap group
consists of subsectors with more than 50%. Driscoll-Kraay Standard errors are in parentheses. ***, **. * : significances at alpha 1%, 5%, and 10%.
Q1 Q2 Q3
All Low Gap High Gap All Low Gap High Gap All Low Gap High Gap
HSpill_Ind 0.043* 0.032** 0.046* -0.008*** -0.001 -0.007** -0.005*** -0.007** 0.002
(0.022) (0.013) (0.024) (0.002) (0.002) (0.003) (0.001) (0.003) (0.003)
HSpill_Provi -0.050*** -0.074*** -0.049*** -0.027*** -0.038*** -0.019*** -0.006*** -0.011*** -0.002***
(0.007) (0.009) (0.007) (0.006) (0.006) (0.004) (0.002) (0.003) (0.000)
HSpill_Tech -0.052*** -0.017*** -0.057*** 0.014*** 0.031*** 0.003 0.000 0.009*** -0.016***
(0.013) (0.004) (0.014) (0.005) (0.005) (0.004) (0.002) (0.002) (0.003)
FOR -0.079 0.091 -0.024 0.004 0.194* 0.059*** 0.226*** 0.338** 0.118*
(0.376) (0.285) (0.409) (0.055) (0.117) (0.012) (0.066) (0.134) (0.067)
FOR×FShare 0.059 -0.663 0.064 0.235 -0.018 0.128 -0.235*** -0.353*** -0.122
(0.470) (0.524) (0.499) (0.254) (0.180) (0.208) (0.024) (0.076) (0.086)
Imported Materials -1.436*** -0.926** -1.456*** -0.179* -0.049 -0.276*** 0.095*** 0.151*** 0.009
(0.490) (0.398) (0.530) (0.095) (0.134) (0.093) (0.036) (0.056) (0.048)
Firm Size 0.337*** 1.029*** 0.311*** 0.047*** 0.029 0.048 0.139*** 0.055** 0.219***
(0.076) (0.330) (0.079) (0.017) (0.042) (0.029) (0.049) (0.025) (0.084)
HHI -0.000** 0.000 -0.000*** 0.000 0.000 -0.000* -0.000*** -0.000*** -0.000***
(0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000)
LabProd 0.604*** 0.640** 0.600*** 0.414*** 0.554*** 0.350*** 0.250*** 0.286*** 0.215***
(0.132) (0.248) (0.127) (0.104) (0.147) (0.081) (0.047) (0.054) (0.040)
Constant 7.542*** 6.05 7.664*** 9.620*** 6.758** 10.886*** 12.389*** 11.755*** 13.075***
(2.479) (4.323) (2.376) (1.871) (2.691) (1.493) (0.833) (0.900) (0.794)
Observation 22398 1255 21143 22398 8889 13509 22398 11104 11294
R2 (Within) 0.200 0.282 0.200 0.154 0.19 0.154 0.080 0.102 0.077
Table 8.
Robustness Test 2: Nationwide Panel and Java & Sumatra Islands
This table reports the estimates of the robustness test of FDI spillovers on wages differentiated by Nationwide and Java & Sumatera Islands. Driscoll-Kraay Standard errors are in
parentheses. ***, **. * : significances at alpha 1%, 5%, and 10%.
Q1 Q2 Q3
Nationwide Java & Sumatera Nationwide Java & Sumatera Nationwide Java & Sumatera
All Domestic All Domestic All Domestic All Domestic All Domestic All Domestic
HSpill_Ind 0.043* 0.044** 0.053** 0.053** -0.008*** -0.008*** -0.004*** -0.004*** -0.005*** -0.005*** -0.002*** -0.002***
(0.022) (0.022) (0.026) (0.026) (0.002) (0.002) (0.001) (0.001) (0.001) (0.001) (0.001) (0.000)
HSpill_Provi -0.050*** -0.051*** -0.050*** -0.050*** -0.027*** -0.029*** -0.022*** -0.024*** -0.006*** -0.008*** -0.004*** -0.005***
(0.007) (0.007) (0.004) (0.004) (0.006) (0.005) (0.004) (0.003) (0.002) (0.002) (0.001) (0.001)
HSpill_Tech -0.052*** -0.053*** -0.015** -0.016** 0.014*** 0.015*** 0.010*** 0.010*** 0.000 0.001 0.002 0.004*
(0.013) (0.013) (0.007) (0.007) (0.005) (0.005) (0.003) (0.003) (0.002) (0.002) (0.002) (0.002)
FOR -0.079 - 0.787 - 0.004 - 0.103** - 0.226*** - 0.156* -
(0.376) (0.711) (0.055) (0.043) (0.066) (0.082)
FOR×FShare 0.059 - -0.736 - 0.235 - 0.187 - -0.235*** - -0.167*** -
(0.470) (0.868) (0.254) (0.347) (0.024) (0.052)
Imported Materials -1.436*** -1.464*** -1.651*** -1.660*** -0.179* -0.259* -0.193 -0.247 0.095*** 0.093*** 0.053 0.038
(0.490) (0.503) (0.594) (0.601) (0.095) (0.146) (0.139) (0.162) (0.036) (0.032) (0.037) (0.031)
Firm Size 0.337*** 0.311*** 0.534*** 0.506*** 0.047*** 0.028 0.167*** 0.149*** 0.139*** 0.145** 0.119** 0.093
(0.076) (0.079) (0.104) (0.098) (0.017) (0.019) (0.057) (0.046) (0.049) (0.063) (0.057) (0.071)
HHI -0.000** -0.000** -0.002*** -0.002*** 0.000 0.000 -0.000*** -0.000*** -0.000*** -0.000*** -0.000*** -0.000***
(0.000) (0.000) (0.001) (0.001) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000)
LabProd 0.604*** 0.608*** 0.623*** 0.625*** 0.414*** 0.419*** 0.529*** 0.536*** 0.250*** 0.267*** 0.231*** 0.248***
(0.132) (0.134) (0.109) (0.109) (0.104) (0.107) (0.111) (0.116) (0.047) (0.048) (0.047) (0.048)
Constant 7.542*** 7.498*** 6.671*** 6.663*** 9.620*** 9.574*** 7.568*** 7.502*** 12.389*** 12.014*** 12.582*** 12.191***
(2.479) (2.502) (2.377) (2.369) (1.871) (1.936) (1.969) (2.046) (0.833) (0.874) (0.869) (0.910)
Observation 22398 22259 20502 20359 22398 21553 20502 19647 22398 17379 20502 15944
R2 (Within) 0.2 0.203 0.26 0.262 0.154 0.159 0.13 0.134 0.08 0.09 0.067 0.076
151
For the second approach to examine robustness, we focus on firms located in

Java and on Sumatra Island. This approach was referred to by Tomohara and Takii
(2011), who demonstrated that FDI spillover to the workers mainly benefits the
manufacturing sector in those islands. As Java & Sumatra panel data is employed,
we calculate new Horizontal Spillovers for all dimensions (within the industry,
within the province, and within technology), firm size, and market concentration
(HHI). The observation of Java & Sumatra represents approximately 91% of the
nationwide sample. According to Table 8 (Column Java – Sumatra), we identify
that Horizontal Spillovers for all dimensions reveal robust estimates for each
group of size, shown by the relatively similar sign and magnitude of the coefficient
compared to Table 6. In this regard, we argue that the findings of Tomohara and
Takii (2011) remain relevant, as most significant results from FDI spillovers accrue
to firms in Java – Sumatra.
IV. CONCLUSION
In this study, we estimate the impact of foreign direct investment spillover
effects on wages for the manufacturing sector in Indonesia, covering the 2011
to 2015 period. We employ fixed effects with standard errors from Driscoll and
Kraay (1998) to handle possible cross-sectional dependence. Earlier studies have
identified positive spillovers from FDI on technical efficiency and productivity.
However, little has been said about the impact of FDI inflows on the labor market
in Indonesia. Our results demonstrate the effect of inward FDI on wages through
horizontal spillover effects in three different dimensions: FDI effects within the
industry, within the province, and within technology intensity. We estimate
results for pooled samples (all firms), companies according to size, clusters of
firms according to average wage level, and firms according to location (Java and
Sumatra Island).
The results suggest that when the observations are pooled together, only
horizontal spillover effects within the province are negative and statistically
significant, suggesting that FDI inflows may harm the wage rate in the host
province. However, when firms are grouped according to size, the impact of
spillovers from all three dimension (spatial, industry, and technology) are
statistically significant. Horizontal spillover within technology (FDI inflow into
similar technology intensity sub-sectors) reveals a negative effect on the wage
level only for the group of smallest firms. However, large firms do not capture this
impact, implying that the distortion from foreign companies mainly affects wages
within small-sized firms. As smaller firms might not utilize high technology and
often have simple managerial systems, they are unlikely to compete for skilled
workers once wages increase. As for spillovers within the industry, the effects are
positive for smaller firms and negative for medium and large ones, suggesting that
FDI in a specific recipient industry leads to higher wages for smaller firms and
negative (albeit relatively low impact) for large firms.
The most consistent finding is that of within-province industry spillover,
implying that the geographical dimension matters the most in the utilisation of
inward FDI. The coordination between central and local governments remains
essential to ensure that local companies are sufficiently competitive with foreign
companies. Simultaneously, research and development activities might also be

intensified for local companies to accommodate those high skilled workers in
improving firms’ productivity. Both these strategies, ultimately, aim to avoid
high-skilled workers’ migration to foreign companies.
We also find evidence of foreign firms paying significantly higher wages.
Furthermore, we find that imported materials tend to lower the wage level for
smaller firms and increase it for large ones. This suggests that larger imports harm
wages for Indonesian workers in smaller firms, although it raises wage levels in
large firms. We conclude that although FDI spillovers have important impacts on
wages in Indonesia, they do not lead to an overall crowding-out effect as often
assumed in earlier studies. We find that labour productivity positively impacts
wages, suggesting that productivity improvements could help promote welfare
gains (raise in wages) without sacrificing industrial competitiveness. Finally,
although our study has addressed robust findings of the impact of spillover on
wages, our model did not accommodate the dynamic behavior of spillover towards
wages, such as the lag at which the FDI spillover might affect the domestic wage
level. In this regard, future studies may find examining the effect of FDI spillover
in a dynamic model an attractive research endeavor.
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APPENDIX
Table A1.
Regression Results of Wage Spillovers from Production Workers
This table reports the estimates using FEM only for production workers. Model 1-5 refers to equations (2)-(6). The column of All Firms refers to all observations (both foreign and local
firms), while the Domestic Firms column only includes observation for local firms. In this result, robust standard errors are employed. Driscoll-Kraay Standard errors are in parentheses.
***, **. * : significances at alpha 1%, 5%, and 10%.
Q1 Q2 Q3
All Observations Production Worker All Observations Production Worker All Observations Production Worker
Domestic Domestic Domestic Domestic Domestic
All All All All All All Domestic
Firms Firms Firms Firms Firms
HSpill_Ind 0.043* 0.007 0.043* 0.043** -0.008*** -0.008*** -0.008*** -0.009*** -0.005*** -0.005*** -0.005*** -0.005***
(0.022) (0.010) (0.022) (0.022) (0.002) (0.002) (0.002) (0.002) (0.001) (0.001) (0.001) (0.001)
HSpill_Provi -0.050*** -0.007* -0.050*** -0.051*** -0.027*** -0.029*** -0.027*** -0.029*** -0.006*** -0.008*** -0.006*** -0.007***
(0.007) (0.004) (0.007) (0.007) (0.006) (0.005) (0.006) (0.005) (0.002) (0.002) (0.002) (0.002)
HSpill_Tech -0.052*** -0.006*** -0.052*** -0.052*** 0.014*** 0.015*** 0.015*** 0.016*** 0.000 0.001 0.001 0.002
(0.013) (0.002) (0.013) (0.013) (0.005) (0.005) (0.005) (0.005) (0.002) (0.002) (0.002) (0.002)
FOR -0.079 - 0.015 - 0.004 - 0.023 - 0.226*** - 0.307*** -
(0.376) (0.348) (0.055) (0.060) (0.066) (0.092)
FOR×FShare 0.059 - -0.04 - 0.235 - 0.242 - -0.235*** - -0.289*** -
(0.470) (0.443) (0.254) (0.195) (0.024) (0.042)
Imported Materials -1.436*** -0.478 -1.443*** -1.472*** -0.179* -0.259* -0.184** -0.270** 0.095*** 0.093*** 0.105*** 0.109***
(0.490) (0.344) (0.480) (0.494) (0.095) (0.146) (0.080) (0.129) (0.036) (0.032) (0.035) (0.029)
Firm Size 0.337*** 0.348** 0.350*** 0.324*** 0.047*** 0.028 0.036 0.014 0.139*** 0.145** 0.153*** 0.152**
(0.076) (0.137) (0.077) (0.079) (0.017) (0.019) (0.022) (0.023) (0.049) (0.063) (0.047) (0.063)
HHI -0.000** 0.000 -0.000** -0.000** 0.000 0.000 0.000 0.000 -0.000*** -0.000*** -0.000*** -0.000***
(0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000) (0.000)
LabProd 0.604*** 0.560*** 0.610*** 0.614*** 0.414*** 0.419*** 0.422*** 0.425*** 0.250*** 0.267*** 0.257*** 0.274***
(0.132) (0.161) (0.130) (0.132) (0.104) (0.107) (0.105) (0.108) (0.047) (0.048) (0.048) (0.049)
Constant 7.542*** 6.575** 0.425 0.383 9.620*** 9.574*** 2.454 2.431 12.389*** 12.014*** 5.138*** 4.768***
(2.479) (3.173) (2.456) (2.480) (1.871) (1.936) (1.902) (1.969) (0.833) (0.874) (0.875) (0.923)
Observation 22398 22259 22395 22256 22398 21553 22392 21547 22398 17379 22390 17372
R2 (within) 0.2 0.203 0.203 0.205 0.154 0.159 0.157 0.162 0.08 0.09 0.08 0.09
157
Table A2.
158
Technology Intensity Classification

This table presents the classification of technology intensity based on Organization for Economic Co-operation and Development (OECD) consisting of High Technology (HT), Medium
High Technology (MHT), Medium Low Technology (MLT), and Low Technology (LT). Source: (OECD, 2011).
High Technology Medium-High Technology Medium-Low Technology Low Technology

Code Subsector Code Subsector Code Subsector Code Subsector
21 Pharmaceutical Industry 20 Chemical Industry 23 Fabricated Metal Industry 10 Food Industry
26 Computers, Electronics, and 27 Electrical Equipment 24 Metal Base Industry 11 Beverage Industry
Optics Industry Industry
28 Machinery Industry 25 Metals Industry 12 Tobacco Industry
29 Motor and trailers 22 Rubber and Plastic Industry 13 Textile Industry
Industry
30 Other Transport 19 Products from Coal and Oil 14 Apparel Industry
Equipment Industry Refinery Industry
15 Leather and Footwear
Industry
16 Wood Industry
17 Paper and Printing
Industry
18 Printing and Recording
Media Industry
31 Furniture Industry
32 Other Manufacturing
Industry
Table A3.
Multicollinearity Test
These tables report the Variance Inflation Factor (VIF) and Matrix of Correlation to diagnose multicollinearity
assumption.
Variance Inflation Factor (VIF) 1/VIF

HSpill_Ind 1.5 0.6
HSpill_Tech 1.5 0.6
Import 1.2 0.8
FOR 14.8 0.06
FOR×Fsh 14.7 0.06
Market Concentration (HHI) 1.1 0.9
HSpill_Prov 1.0 1.0
Firm Size 1.1 0.8
Labour Productivity 1.2 0.8
Mean VIF 4.2 -
Table A4.
160
Matrix of Correlation
Variables (1) (2) (3) (4) (5) (6) (7) (8) (9) (10)
(1) w 1.0
(2) HSpill_Ind 0.1 1.0
(3) HSpill_Prov 0.1 0.1 1.0
(4) HSpill_Tech 0.2 0.5 0.1 1.0
(5) FOR 0.2 0.2 0.2 0.2 1.0
(6) FOR×Fsh 0.2 0.2 0.2 0.2 1.0 1.0
(7) Import 0.2 0.2 0.1 0.2 0.4 0.4 1.0
(8) Firm Size 0.2 0.1 0.1 0.1 0.3 0.3 0.3 1.0
(9) HHI -0.1 -0.2 0.0 0.1 0.0 0.0 0.0 0.0 1.0
(10) LabProd 0.5 0.2 0.2 0.2 0.3 0.3 0.2 0.3 0.0 1.0

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Bulletin of Monetary Economics and Banking, Special Issue 2022, pp.

FOREIGN DIRECT INVESTMENT AND WAGE SPILLOVERS IN

Mohammad Zeqi Yasin*,**, Miguel Angel Esquivias**, and Nur Arifin***

Keywords: FDI; Wage Spillover; Manufacturing industry; Indonesia.

high-tech firms rely on innovation, research, and development (Keller, 2010). In

II. DATA AND METHODOLOGY

where i denotes the firm, and j indicates the subsector/province/technology

There might be a biased analysis if the monetary-value variables such as

III. RESULTS AND DISCUSSION

Variable Observation Unit Mean Std. Dev. Min Max

Technology Ownership Import Firm Size

Gap of Foreign and Local Wages

Gap of Foreign and Local Wages

Gap of Foreign and Local Wages

Gap of Foreign and Local Wages

Gap of Foreign and Local Wages

-60% Leather & Footwear

Gap of Foreign and Local Wages

Gap of Foreign and Local Wages

Gap of Foreign and Local Wages

Gap of Foreign and Local Wages

Gap of Foreign and Local Wages

Gap of Foreign and Local Wages

Gap of Foreign and Local Wages

Gap of Foreign and Local Wages

Gap of Foreign and Local Wages

-300% Motor & trailer

Gap of Foreign and Local Wages

Gap of Foreign and Local Wages

Furthermore, this section discusses our main findings obtained by estimating

POLS FEM REM

To capture the impact of FDI spillover on domestic companies, we estimate

Model 1 Model 2 Model 3 Model 4 Model 5

According to Table 5, Models 1 to 5 reveal findings similar to one another.

A. Wage Spillovers based on Firm Size Quantiles

An intriguing result is revealed by the Horizontal spillover within technology

For the second approach to examine robustness, we focus on firms located in

companies. Simultaneously, research and development activities might also be

Technology Intensity Classification

High Technology Medium-High Technology Medium-Low Technology Low Technology

Variance Inflation Factor (VIF) 1/VIF

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Mohammad Zeqi Yasin*,, Miguel Angel Esquivias, and Nur Arifin***