Uncertain Productivity Growth and the Choice between FDI and Export

Uncertain Productivity Growth

3 The Optimal Market Entry Mode

In order to elaborate uncertainty effects of productivity growth on the choice between FDI and
export, the analysis starts with the simplest scenario with no productivity changes over time.
Successively, the complexity of the analysis is increased by introducing a deterministic growth
case and finally by considering the most realistic scenario represented by equation (11). This
stepwise approach permits an identification of the additional effects associated with extensions.

3.1 FDI or Export without Productivity Growth

In a scenario without any productivity growth equation (11) reduces to dtf_t = 0 and the investor
will determine the optimal market entry mode based on the current state of observations, as there
are no expected productivity changes in the future. Empirically, it is difficult to identify such an
industry or variety in the long run but in some sectors like in the textile industry, technology has
reached its marginal productivity frontier temporarily, and one can assume nearly zero growth
rates, at least in the short run. From a theoretical point of view, this scenario only represents a
starting point for further analysis.

In the export mode the investor’s expected periodical profits (cash-flows) ΠE are derived from
the following maximization problem

X

Π_e = max p XE — w_EL  s.t.  XE =---- s.t.  XDE = ∣)L^θ  s.t. p = ZXE(^ν  ).

Lτ

Optimal periodical labor demand LE and output XE result as

where the investor’s domestic output which is foreseen for the export market amounts to

θ

^* oɪ Z Zνθ A ¹-νθ

XD E = # ¹-νθ ----

DE         Wet_e τ ^v

10

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