A micro-macro model of foreign direct investment: knowledge-based gravity forces, self-selection and third-country effects

Kox, Henk L.M. (2022): A micro-macro model of foreign direct investment: knowledge-based gravity forces, self-selection and third-country effects.

Abstract

The paper develops a stand-alone and testable gravity model to explain international patterns of foreign direct investment (FDI). The core model is based on knowledge-based gravitational forces that are directly or indirectly linked to a country's economic mass (GDP). The micro-economic part of the model explains the bilateral extensive FDI margin, i.e. the Firms self-select into FDI if their productivity is high enough to overcome the fixed costs of setting up costs a foreign subsidiary, using its proprietary knowledge assets as crystallization kernel. Aggregated at country level, the model explains the occurrence of zero FDI flows between countries. The bilateral part of the model accounts for direct FDI friction costs. The model is generalized to a n-country world by also accounting for the relative FDI friction costs of all countries, quantified via FDI-based multilateral resistance terms. The paper derives testable predictions from the model. The model implications have high potential policy relevance.

• Item Type: MPRA Paper
• Language: English
• Keywords: foreign direct investment; firm behavior; decision model; structural gravity; zero FDI flows; policy implications
• Subjects: D - Microeconomics > D2 - Production and Organizations > D21 - Firm Behavior: Theory; D - Microeconomics > D2 - Production and Organizations > D23 - Organizational Behavior ; Transaction Costs ; Property Rights; F - International Economics > F2 - International Factor Movements and International Business > F23 - Multinational Firms ; International Business; G - Financial Economics > G3 - Corporate Finance and Governance > G32 - Financing Policy ; Financial Risk and Risk Management ; Capital and Ownership Structure ; Value of Firms ; Goodwill; L - Industrial Organization > L1 - Market Structure, Firm Strategy, and Market Performance; O - Economic Development, Innovation, Technological Change, and Growth > O3 - Innovation ; Research and Development ; Technological Change ; Intellectual Property Rights > O33 - Technological Change: Choices and Consequences ; Diffusion Processes; O - Economic Development, Innovation, Technological Change, and Growth > O3 - Innovation ; Research and Development ; Technological Change ; Intellectual Property Rights > O34 - Intellectual Property and Intellectual Capital

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