Financing FDI into Developing Economies and the International Transmission of Business Cycle Fluctuations

Abstract

We consider a financially constrained multinational corporation with investment projects in both an industrial and a developing country. Since the collateral values of the projects' tangible assets diverge, the willingness of banks to grant a loan depends not only on the firm's financial wealth but also on the share of FDI in total investment. We investigate the impact of variations in wealth and of country-specific macroeconomic shocks on the firm's investment decision. The results are twofold. First, decreasing wealth affects both foreign and domestic investment but the effect on foreign investment tends to be stronger. Second, country-specific macroeconomic shocks have asymmetric effects on investment depending on where the shock occurs.

Keywords: multinational corporations, foreign direct investment, financial constraints, investment fluctuations

JEL Classification: D82, F23, G15