Tariff Jumping Foreign Direct Investment Decision in a Quality‐differentiated Market

Abstract

Using a product differentiation model, this paper discusses the issue of transnational firms evading tariffs and investing directly in a host country (through foreign direct investment (FDI)). Where product quality is differentiated between foreign and host country firms and assuming a firm's quality requirement is a long-term strategy and is not affected by a foreign firm's trade decision, we obtain the following findings. First, whether or not a host country firm produces high or low quality products, raising the quality requirement for foreign products will increase the possibility of a foreign firm choosing FDI instead of exporting a product to the host country. Second, raising the quality requirement for domestic products will lower the possibility of foreign firms choosing FDI without regard to the product's quality. Finally, given a competitor in the host country, in FDI, a foreign high-quality product-producing firm has an advantage over a low-quality product-producing firm. We also find that even when firms' quality decisions are affected by a foreign firm's trade decision, most of the above results will still hold.JEL classification: F12, F13, F21.

Corporate social responsibility and the pollution haven hypothesis: evidence from multinationals’ investment decision in China

“…The expected signs of the coefficients for both variables would be positive. In addition, Wang, Lin, and Chiou (2011) also find that product quality requirement is significantly related to the FDI decision, but we can neglect it as the quality requirement is often imposed at the national level and can be assumed regionally homogenous within China. The data for provincial characteristics are sourced from China's Statistical Yearbooks.…”