This paper discusses environmental policies in response to foreign direct investment (FDI) in a symmetrie two-country setting, where firms' behavior affects government policy decisions. We show that two alternative equilibria with FDI are possible: (i) one with unilateral FDI, where one firm is a multinational firm, and the other firm is a national firm; (ii) and one with bilateral FDI, where both firms become multinational firms. With regard to strategic environmental policies, we show that the country attracting FDI introduces a Pigouvian environmental tax, whereas the country served by the local firm only levies a smaller tax rate. Hence, FDI does not lead to ecological dumping. With regard to welfare, we show that the impact on welfare is negative for the country hosting the national firm; positive for the country hosting the multinational firm, if FDI is unilateral; and ambiguous, for both countries, if FDI is bilateral.
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Paper provided by Kiel Institute for the World Economy in its series Kiel Working Papers with number
1013.
Find related papers by JEL classification: F12 - International Economics - - Trade - - - Models of Trade with Imperfect Competition and Scale Economies F18 - International Economics - - Trade - - - Trade and Environment F23 - International Economics - - International Factor Movements and International Business - - - Multinational Firms; International Business Q20 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Renewable Resources and Conservation - - - General