Foreign Direct Investment, Exchange Rate Variability and Demand Uncertainty

Variable real exchange rates influence the location of production facilities chosen by a multinational. With risk averse investors and fixed productive factors, parent companies should not be indifferent to production location, even with identical expected costs of production across countries. If a...

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Bibliographic Details
Published in:International economic review (Philadelphia) 1995-11, Vol.36 (4), p.855-873
Main Authors: Goldberg, Linda S., Kolstad, Charles D.
Format: Article
Language:English
Subjects:
Bilateralism
Canada
Demand
Demand shocks
Exchange rates
Financial investments
Foreign direct investments
Foreign exchange
Foreign exchange rates
Foreign investment
Foreign investments
Investment risk
Japan
Location of industry
Multinational enterprises
Real exchange rates
Risk aversion
U.S.A
United Kingdom
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Summary:Variable real exchange rates influence the location of production facilities chosen by a multinational. With risk averse investors and fixed productive factors, parent companies should not be indifferent to production location, even with identical expected costs of production across countries. If a nonnegative correlation exists between export demand and exchange rate shocks, the multinational optimally locates some productive capacity abroad. The capacity share abroad increases as exchange rate volatility rises and becomes more correlated with export demand shocks. These results are confirmed using quarterly U.S. bilateral foreign direct investment flows with Canada, Japan, and the United Kingdom.
ISSN:0020-6598
1468-2354
DOI:10.2307/2527262