Foreign Direct Investment and the Single Market

tariffs. Moreover, as internal tariffs are reduced, the multinational firm faces increased
competition from partner-country firms in every union market. As a result, for some
parameter values, multinational firms which found it profitable to export when internal
barriers were high may withdraw altogether from serving union markets. This is the "Fortress
Europe" outcome. Competition within the union may also become so intense that a
multinational firm which previously found it profitable to engage in FDI may no longer do
so.

However, in other respects the conclusions of Section 2 continue to apply. There are
always some parameter values for which a multinational firm which exports to the union
when internal barriers are high finds it profitable to switch to FDI when they are reduced.
In addition, lower internal barriers always encourage consolidation of union plants by
multinational firms, with only a single union plant being profitable when internal barriers are
abolished.

4. Heterogeneous Countries

So far, I have assumed that all union countries are identical, so that the multinational
is indifferent about where in the union it locates. Two interesting kinds of heterogeneity
immediately suggest themselves. First, countries could differ in the costs of locating there,
due in turn to underlying differences in factor endowments, government policies, institutions,
etc. Second, countries could differ in their geographical location, so that the costs of
transporting goods produced in more peripheral countries to other union markets are greater.
Here, I confine attention to the first type of difference, and explore how it affects the
conclusions reached in earlier sections. For simplicity, I return to the case of Section 2,
where the potential multinational does not face any competition from union firms.

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