Does Final Market Demand Elasticity Influence the Location of Export Processing? Evidence from Multinational Decisions in China

28 Pages Posted: 9 May 2013

See all articles by Xuepeng Liu

Xuepeng Liu

Kennesaw State University - Department of Economics and Finance

Mary E. Lovely

Syracuse University - Department of Economics

Jan Ondrich

Syracuse University - Center for Policy Research

Date Written: May 2013

Abstract

Given the importance many developing countries attach to attracting foreign investors engaged in export‐processing activities, surprisingly little is known about the sensitivity of these investors to local wage differences and the role played by final product market conditions. Using data on 2,884 foreign‐invested manufacturing projects in China, we estimate the importance of host province wages to firm’s location choice and investigate how this sensitivity varies with demand conditions facing the industry in China’s largest export market, the United States. We use the profit function to show theoretically that firms’ ability to pass wage costs through to final markets matters for location choice and we test the implications of the theory using a control‐function technique for conditional logit developed by Petrin and Train. As predicted, we find that investors facing more elastic demand in the US market are more sensitive to wages across export‐processing locations. Taking both the factor intensity of the activity and final market demand elasticity into account, we find that investors producing homogenous goods, such as metals, chemicals, and food processing, are more likely to be attracted by relatively low wages than those producing differentiated goods. We also find that while OECD investors are more responsive to wage differences than are investors from Hong Kong, Taiwan and Macau, they are less likely to choose a location that has received a large share of prior foreign investment.

Suggested Citation

Liu, Xuepeng and Lovely, Mary E. and Ondrich, Jan, Does Final Market Demand Elasticity Influence the Location of Export Processing? Evidence from Multinational Decisions in China (May 2013). The World Economy, Vol. 36, Issue 5, pp. 509-536, 2013, Available at SSRN: https://ssrn.com/abstract=2262650 or http://dx.doi.org/10.1111/twec.12000

Xuepeng Liu

Kennesaw State University - Department of Economics and Finance ( email )

United States

HOME PAGE: http://ksuweb.kennesaw.edu/~xliu6/

Mary E. Lovely

Syracuse University - Department of Economics ( email )

Syracuse, NY 13244-1020
United States

Jan Ondrich

Syracuse University - Center for Policy Research ( email )

Maxwell School of Citizenship 426 Eggers Hall
Syracuse, NY 13244
United States

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