Working Paper: CEPR ID: DP2870
Authors: Aaditya Mattoo; Marcelo Olarreaga; Kamal Saggi
Abstract: Foreign direct investment (FDI) can take place either through the direct entry of foreign firms or the acquisition of existing domestic firms. The preferences of a foreign firm and the host country government over these two modes of FDI are examined in the presence of costly technology transfer. The trade-off between technology transfer and market competition emerges as a key determinant of preferences. The Paper identifies the circumstances in which the government and foreign firm's choices diverge, and how domestic welfare can be improved by restrictions on FDI which induce the foreign firm to choose the socially preferred mode of entry.
Keywords: foreign direct investment; investment policies; technology transfer
JEL Codes: F13; F23; O32
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| high costs of technology transfer (O39) | foreign firm prefers direct entry (F23) |
| high costs of technology transfer (O39) | smaller cost advantages over domestic firms (F12) |
| high costs of technology transfer (O39) | higher acquisition prices (G19) |
| government prefers acquisition (H13) | greater technology transfer (O39) |
| government prefers acquisition (H13) | higher acquisition price for domestic firm (F23) |
| restrictions on FDI (F23) | induce foreign firm to adopt acquisition (F23) |
| restricting direct entry (Y20) | induce acquisition (C92) |
| restricting direct entry (Y20) | enhance welfare (I30) |
| low technology transfer costs (F16) | government favors direct entry (L49) |
| government favors direct entry (L49) | more competitive domestic market (L19) |
| government favors direct entry (L49) | greater technology transfer (O39) |
| foreign firm prefers acquisition (F23) | market power (L11) |
| foreign firm prefers acquisition (F23) | lower acquisition prices (G19) |