Foreign Direct Investment, Competition and Industrial Development in the Host Country

Salvador Barrios, Holger Gorg, Eric Strobl
2004 Social Science Research Network  
This paper analyses the impact of foreign direct investment (FDI) on the development of local firms. We focus on two likely effects of FDI: a competition effect which deters entry of domestic firms and positive market externalities which foster the development of local industry. Using a simple theoretical model to illustrate how these forces work we show that the number of domestic firms follows a u-shaped curve, where the competition effect first dominates but is gradually outweighed by
more » ... utweighed by positive externalities. Evidence for Ireland tends to support this result. Specifically, applying semi-parametric regression techniques on plant level panel data for the manufacturing sector we find that while the competition effect may have initially deterred local firms' entry, this initial effect has been outpaced by positive externalities making the overall impact of FDI largely positive for the domestic industry. We are grateful to Forfás for the provision of the data. We would also like to thank the participants at a research seminar organized by FEDEA (Madrid) and to the VI Jornadas de Economía Internacional at the University of Valencia for useful comments. We are especially grateful to Omar Licandro and Juan José de Lucio for very helpful suggestions. We also wish to thank Oscar Bajo, Lionel Fontagné, Jacques Mélitz, Patrick Messerlin and two anonymous referees for very useful comments on earlier versions of this work.
doi:10.2139/ssrn.971409 fatcat:lt4ol6jharbybnxaszez6tsfeq