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Foreign Market Entry Under Incomplete Contracts
Author(s) -
Seidel Tobias
Publication year - 2015
Publication title -
the world economy
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.594
H-Index - 68
eISSN - 1467-9701
pISSN - 0378-5920
DOI - 10.1111/twec.12256
Subject(s) - multinational corporation , foreign direct investment , business , investment (military) , incomplete contracts , market share , production (economics) , unit (ring theory) , economics , industrial organization , international economics , monetary economics , international trade , microeconomics , incentive , finance , macroeconomics , mathematics education , mathematics , politics , political science , law
Abstract This paper shows that incomplete contracts serve as a determinant of the mode of foreign market entry – that is exports versus foreign direct investment (FDI). When contracts between two agents within a firm are too costly to be written, the share of multinational firms may be higher or lower compared with a world without contractual frictions. The direction of change depends on the technologically required relative contribution of headquarter services in the joint production process. For example, in industries that use more inputs from the management unit as compared to inputs from a component supplier, the share of firms engaging in foreign direct investment is higher than under complete contracts. This effect may be so strong that the share of multinational firms increases in trade freeness.