International Firm Investment under Exchange Rate Uncertainty

Review of Finance, 20, 2016

44 Pages Posted: 3 Mar 2008 Last revised: 19 Nov 2018

Date Written: May 29, 2014

Abstract

This paper proposes a real options theory to explore the effect of exchange rate uncertainty on foreign direct investment. Firms face the choice between serving foreign markets through exports and investing abroad to relocate production. The model predicts that the most productive firms invest abroad when exchange rate volatility is low and export otherwise, whereas the least productive firms invest abroad when volatility is high. The aggregation over heterogeneous firms produces a negative and non-linear relation between exchange rate uncertainty and total international investment. An analysis of 75 developed and emerging economies over the period 1996-2012 provides empirical support for the model's prediction.

Keywords: Real Options, Uncertainty, International Investment, Foreign Exchange

JEL Classification: G13, D81, F21, F31

Suggested Citation

Jeanneret, Alexandre, International Firm Investment under Exchange Rate Uncertainty (May 29, 2014). Review of Finance, 20, 2016. Available at SSRN: https://ssrn.com/abstract=967873 or http://dx.doi.org/10.2139/ssrn.967873

Alexandre Jeanneret (Contact Author)

HEC Montréal ( email )

3000 Chemin de la Cote-Sainte-Catherine
Montreal, Quebec H3T 2A7
Canada

HOME PAGE: http://www.alexandrejeanneret.com

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