Distance and FDI when Contracts are
Incomplete*
Gianmarco I.P. Ottaviano^and Alessandro Turrini'
14 July 2002
Abstract
We introduce incomplete outsourcing contracts in an otherwise stan-
dard model of MNEs based on the trade-off between proximity and con-
centration. This has both positive and normative implications. As to the
former, incomplete outsourcing contracts can account for the observed
emergence of FDIs in large markets not only when trade costs are large
but also when trade costs are small. As to the latter implications, con-
tractual incompleteness alters someway dramatically the choice of supply
mode made when contracts are complete.
Keywords: Foreign direct investment, international trade costs, incomplete
contracts.
J.E.L. Classification: F23.
*Both authors would like to acknowledge support from the EU funded SER project on
“Labour market effects of Euroepan foreign investments”. The first author is grateful to the
Europ ean Commission for financial supp ort.
^Università ‘L.Bocconi’ Milano, GIIS Geneva, and CEPR.
^Università di Bergamo, UNCTAD, and CEPR.