Dunning (1977): Eclectic (OLI) Paradigm of International Production

There are numerous hypotheses which endeavor to clarify the determinants of FDI. Most authors that
work on topics related to FDI tend to rely on Dunning’s research. Importantly, Dunning (1988)
developed a conceptual framework focusing on motives of FDI by analyzing reasons and strategies
of multinational corporations’ to invest abroad. His Eclectic paradigm of International Production,
introduced in 1976, covers the most important theories that explain FDI motives such as factor
endowment theory by Ohlin and Heckscher, monopolistic advantage theory by Hymer, transaction
cost theory by Coase, internalization theory by Buckley and Casson and location advantages
elaborated by Dunning (1977). In fact this theory integrates a lot of internalization theories like those
mentioned above. Dunning (1988) was the first who provided a theory which is conceptual
framework for FDI analysis, because it explains and highlights the coherence between three factors
of monopolistic power: location, internalization and ownership advantages. This theory is called
Eclectic paradigm or OLI paradigm. Also, Eclectic Paradigm is considered as leading classic theory
that explains internalization activities by multinational corporations. In order to participate in
profitable and competitive international activities, MNEs should satisfy three core conditions as
following: ownership advantages (O), location advantages (L) and internalization advantages (I)
(Dunning, 1977).
Having a comparative advantage, characteristic to the type of company’s ownership over the local
rivals, is the first condition that company should have. This makes a company a transnational player,
so possession of ownership advantages helps company to offset the difficulties of doing business
overseas or to cover the minuses of production abroad. Making an advantage of internalization for
the placement of company’s comparative advantage in foreign market against local companies is the
second condition that transnational company should fulfill. Finally, the third condition is fulfilled by
combining company’s characteristic resources in the country abroad with ownership and
internalization advantages. This indicates that company can be better off 13
with location advantages and production abroad rather than export or production at the home market.
Having all these three OLI conditions satisfied, a company can perform FDI activities (Dunning,
1988).
Companies in the absence of location advantages but still having internalization and ownership
advantages, decide to produce domestically and export to foreign markets. On contrary, some
companies lack location and internalization advantages, so they must sell their comparative
advantage and choose licensing. Comparative advantages cannot be transferred within company’s
structure, so companies decide to transfer intangible assets in external market. Hence, MNEs prefer
FDI activities to exporting and licensing, which is explained by Eclectic paradigm (Dunning, 1988).
Dunning (1988) used Hymer’s monopolistic theory to develop sub-paradigm called ownership
specific advantages. He states that monopolistic or competitive advantages are enough for covering
costs resulting from establishing and operating remunerative activities abroad beside costs that
existing local and potential producers are facing with (Dunning, 1988).
According to Dunning (1988), ownership advantages can be differed as advantages of ownership
assets and ownership transaction. The advantages of ownership asset denote exclusive possession of
specific assets like intangible assets and property rights. Intangible assets consider innovation,
technology, management proficiency, trademark, reputation etc. Regarding ownership transaction
advantages, Dunning (1993) emphasized the function and the purpose of this form of advantages.
The advantages of ownership transaction represent the company’s ability to catch transaction
advantages or costs of transaction during production process like access to resources, product
diversity, economies of scale (Dunning, 1993).
The vast majority of prosperous multinational companies tend to foster and develop ownership
transaction and assets advantages in the same manner (Dunning, 1988). Different types of
multinational companies have numerous types of company specific advantages. A significant
number of transnational companies focus on marketing expenses, research and development,
skilled labor force mainly with technology and science orientation and products innovation
(Dunning, 1988). Majority of companies concentrate on knowledge assets rather than physical
assets, because this ownership advantage will attract more FDIs than other assets. Knowledge
assets are easily transferable between production facilities at low cost. Companies concentrated on
technology frequently have knowledge assets as specific advantages including research and
development, know- how, patents, human capital in addition to companies concentrated on labor
force (Dunning, 1988).