Working Paper: CEPR ID: DP8639
Authors: Pablo Fajgelbaum; Gene Grossman; Elhanan Helpman
Abstract: We study patterns of FDI in a multi-country world economy. First, we present evidence for a broad sample of countries that firms direct FDI disproportionately to markets with income levels similar to their home market. Then we develop a model featuring non-homothetic preferences for quality and monopolistic competition in which specialization is purely demand-driven and the decision to serve foreign countries via exports or FDI depends on a proximity-concentration trade-off. We characterize the joint patterns of trade and FDI when countries differ in income distribution and size and show that FDI is more likely to occur between countries with similar per capita income levels. The model predicts a Linder Hypothesis for FDI, consistent with the patterns found in the data.
Keywords: FDI; Monopolistic Competition; Multinational Corporations; Nested Logit; Product Quality; Trade; Vertical Specialization
JEL Codes: F12; F23
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| 10% increase in income ratio (E25) | 36% decrease in FDI stock (F21) |
| income similarity (D31) | FDI patterns (F23) |
| similar per capita income levels (F40) | likelihood of FDI (F23) |
| market size and income levels (F61) | FDI decisions (F23) |