Meaning of FDI toward Emerging Economies - An analysis of firm heterogeneity model -

Author Name ITO Koji  (Senior Fellow, RIETI)
Creation Date/NO. August 2010 10-J-047
Research Project Study on International Trade and Firms
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In recent years, Japanese manufacturing firms have been actively breaking into not only the competitive sectors but also the less competitive sectors of emerging economies and under these circumstances the increase of sales by foreign affiliates through FDI has been more prominent than the increase of exports. In order to consider such a phenomenon and the meaning of FDI for emerging economies, this paper constructs a two-country model with two production factors, two goods (which have different factor intensities) and firm heterogeneity, and analyzes the effects of FDI on the industrial tendency of FDI and the economy by numerical example. The analysis shows that highly productive firms invest in a foreign country, even in industries which have intensity for relatively scarce factors, as well as in industries, which have intensity for relatively affluent factors. Compared to the situation where export is the only option, FDI makes the competition among firms in both industries harder, and as a result, real wages and welfare increase. Conversely, firms with low productivity are forced to exit, reducing the number of firms. In addition, this analysis shows that FDI could protect the decrease in real profit of the industry which has intensity for relatively scarce factors.