What Is the Eclectic Paradigm?
The Eclectic Paradigm, also known as the OLI Model, helps explain why companies become multinational enterprises (MNEs) and how they decide where and how to operate globally.
It brings together different economic theories to explain international production (i.e., when companies produce goods or services in foreign countries). It focuses on why companies expand globally, what advantages they have, and where they choose to operate.
Let’s break down the 3 main theories behind this paradigm.
📚 3 Core Theories Behind the Eclectic Paradigm (with Examples)
| Theory | Explanation (Simple) | Example |
|---|---|---|
| 1. Neoclassical Theory of Factor Endowments | Countries have different resources (land, labor, capital). Firms expand to use resources not available in their home country. | A US tech firm opens a factory in India to take advantage of skilled labor at lower cost. |
| 2. Market Failure Theory | Sometimes markets don’t work well (due to risk, uncertainty, or regulation), so companies do things themselves instead of relying on others. | A pharma company builds its own plant abroad to avoid licensing delays and quality risks. |
| 3. Theories of the Firm & Industrial Organization | Companies have special advantages (like patents or brand power). They go global to protect or grow these advantages. | Apple builds stores in different countries to control customer experience and brand reputation. |
🧩 Key Notes:
-
Ownership Advantages (O): What unique thing does the firm own?
Example: Coca-Cola's secret formula or brand value. -
Location Advantages (L): Why produce in a specific country?
Example: Lower labor costs or favorable government policies in Vietnam. -
Internalization Advantages (I): Why do it themselves instead of outsourcing?
Example: A company sets up its own supply chain to avoid quality issues.
📊 Theories Behind Eclectic Paradigm
| Aspect | Neoclassical Theory | Market Failure Theory | Firm/Industrial Org. Theory |
|---|---|---|---|
| Main Idea | Countries differ in resources | Markets are not always efficient | Firms have unique advantages |
| Focus | Resource availability and cost | Risk, uncertainty, imperfect markets | Ownership, strategy, competitive edge |
| Key Concept | Factor endowments (land, labor, capital) | Transaction costs, government policies | Ownership-specific advantages |
| Why It Matters | Explains where firms go | Explains how they go global | Explains why they succeed internationally |
| Example | Cheap labor in India | Avoiding tariff through local production | Leveraging brand or IP globally |
