Foreign Direct Investment, Exchange Rate Variability and Demand Uncertainty

28 Pages Posted: 5 Jul 2001 Last revised: 30 Aug 2010

See all articles by Linda S. Goldberg

Linda S. Goldberg

Federal Reserve Bank of New York; National Bureau of Economic Research (NBER)

Charles D. Kolstad

University of California, Santa Barbara (UCSB) - Department of Economics

Date Written: August 1994

Abstract

Variable real exchange rates influence the country choice for location of production facilities by a multinational enterprise. With risk averse investors and fixed productive factors, a parent company should not be indifferent to the choice of production capacity location, even when the expected costs of production are identical across countries. If a non-negative correlation exists between real export demand shocks and real exchange rate shocks, the multinational will optimally locate some of its productive capacity abroad. The share of production capacity optimally located abroad increases as exchange rate volatility rises and as export demand shocks become more correlated. These theoretical results are confirmed by empirical analysis of quarterly United States bilateral foreign-direct- investment flows with Canada, Japan, and the United Kingdom.

Suggested Citation

Goldberg, Linda S. and Kolstad, Charles D., Foreign Direct Investment, Exchange Rate Variability and Demand Uncertainty (August 1994). NBER Working Paper No. w4815. Available at SSRN: https://ssrn.com/abstract=275974

Linda S. Goldberg (Contact Author)

Federal Reserve Bank of New York ( email )

33 Liberty Street
New York, NY 10045
United States
212-720-2836 (Phone)
212-720-6831 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Charles D. Kolstad

University of California, Santa Barbara (UCSB) - Department of Economics ( email )

2127 North Hall
Santa Barbara, CA 93106
United States

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