Eclectic Paradigm - Theory

Theory

The idea behind the Eclectic Paradigm is to merge several isolated theories of international economics in one approach. Three basic forms of international activities of companies can be distinguished: Export, FDI and Licensing. The so-called OLI-factors are three categories of advantages, namely the ownership advantages, locational advantages and internalization advantages. A precondition for international activities of a company are the availability of net ownership advantages. These advantages can both be material and immaterial. The term net ownership advantages is used to express the advantages that a company has in foreign and unknown markets.

According to Dunning two different types of FDI can be distinguished. While resource seeking investments are made in order to establish access to basic material like raw materials or other input factors, market seeking investments are made to enter an existing market or establish a new market. A closer distinction is made by Dunning with the terms efficiency seeking investments, strategic seeking investments and support investments.

The eclectic paradigm also contrasts a country's resource endowment and geographical position (providing locational advantages) with firms resources (ownership advantages). In the model, countries can be shown to face one of the four outcomes shown in the figure above. In the top, right hand box in the figure above firms possess competitive advantages, but the home domicile has higher factors and transport costs than foreign locations. The firms therefore make a FDI abroad in order to capture the rents from their advantages. But if the country has locational advantages, strong local firms are more likely to emphasize exporting. The possibilities when the nation has only weak firms, as in most developing countries, leads to the opposite outcomes. These conditions are similar to those suggested by Porter's diamond model of national competitiveness.