Uncertain Productivity Growth and the Choice between FDI and Export



Uncertain Productivity Growth

1 INTRODUCTION


1 Introduction

The explanation of international economic integration has been a core field of economic research
for decades. Development and welfare disparities between countries (regions) have been ana-
lyzed empirically and theoretically, whereas in both disciplines trade has been considered as the
balancing force between unbalanced economic entities. Until the late 70s two major theoreti-
cal frameworks have dominated the analysis of international trade in goods. According to the
Ricardian models (see e.g. Dornbusch et al., 1977), countries are involved into trade due to differ-
ences in their production technologies, and through trade in goods, they can improve their welfare
state (gains from trade). The second influential explanation for observed goods flows has been the
Heckscher-Ohlin framework according to which countries trade due to different relative endow-
ments (see e.g. Heckscher and Ohlin, 1991). Within these commonly accepted and widespread
models, international trade is motivated by comparative advantages either in technologies or in
relative factor endowments. However, in none of these concepts the firm as a microeconomic
entity plays a role, since differences are analyzed on the basis of sectors. This negligence of firm
behavior both empirically and theoretically can be partly explained by the simple unavailability
of appropriate data at the time of the model creation.

However, with the 1970s the perception of global economic integration has started to change.
Besides the steady growth of international trade flows (averagely 5.6%), economists recognized
the extraordinary surge in global investment behavior of multinational enterprises. Starting in
the late 1970s foreign direct investments (FDI) have shown an average annual growth rate of
17.7% until 2000 (Navaretti and Venables, 2004). The rising awareness of multinational invest-
ment behavior incited a dogmatic change in the theoretical explanation of international economic
integration. The first seminal work which introduces firm behavior into the trade context has
been presented by Krugman (1979). In his so-called New-Trade Theory, firms are modeled in
a Dixit-Stiglitz framework and represent the source of international trade due to increasing re-
turns to scale technologies. Within this first generation of monopolistic competition models, firm
heterogeneity does not play a role since the major objective has been the explanation of intra-
industry trade as such, which was not explicable within the classical models (Krugman, 1980).
In the Krugman Model all firms export once trade is introduced.

Sensitized by the New-Trade theory and due to the increasing availability of commensurate data
about international firm behavior, a broad range of various theoretical and empirical analyses



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