Host Country Financial Development and MNC Activity

• Main Authors: BILIR, L. Kamran, CHOR, Davin, KALINA, Manova
• Format: text
• Language: English
• Published: Institutional Knowledge at Singapore Management University 2013
• Subjects: Credit constraints; horizontal FDI; vertical FDI; export-platform FDI; heterogenous firms.; Finance; International Economics
• Online Access: https://ink.library.smu.edu.sg/soe_research/953; https://ink.library.smu.edu.sg/context/soe_research/article/1952/viewcontent/Paper_09_2012.pdf
• Institution: Singapore Management University

Multinational corporations (MNCs) manage complex operations, often blending features of three modes of FDI that are well understood in isolation but not in tandem, namely: horizontal, vertical and export-platform FDI. We develop a three-country model with heterogeneous firms, in order to analyze how financing constraints in the FDI host country affect the relative strength of these three motives for FDI. In our model, financial development in the host country fosters entry by domestic firms, making the local market more competitive for MNC products. This leads MNCs to orient their affiliate sales away from the local market toward other markets instead. These predictions find strong confirmation in detailed data on the activities of U.S. multinationals abroad. We find that MNC affiliates in hosts with more mature financial markets: (i) channel a smaller share of their sales to the local market; (ii) send a bigger share of their sales back to the U.S., as well as to third-country destinations; and that (iii) these effects of host country financial development appear to be mediated through the entry of establishments in the local economy.