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Market Potential and the Location of Japanese Investment in the European Union

  • Head, Keith
  • Mayer, Thierry

We investigate the hypothesis that firms prefer to locate ``where the markets are." We use a theoretical model of location choice under imperfect competition to formalise this concept. The model yields an equilibrium profit equation incorporating a term closely connected to the market potential index introduced by Harris in 1954. The location decision is a function of demand in all locations weighted by accessibility to consumers. We also show how the spatial distribution of competitors should be factored into the location choice. We then implement the model empirically, comparing our theoretically-derived measure of market potential with Harris' term and with ad hoc agglomeration variables. Our sample consists of firm-level location choices by Japanese firms between 1984 and 1995 and we use both the information on the choice of country and the choice of region inside each country in our analysis. Our results show that market potential does matter for location choice but that traditional agglomeration variables retain an important role in the location decision.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 3455.

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Date of creation: Jul 2002
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Handle: RePEc:cpr:ceprdp:3455
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  1. Masahisa Fujita & Paul Krugman & Anthony J. Venables, 2001. "The Spatial Economy: Cities, Regions, and International Trade," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262561476, June.
  2. Paul Krugman, 1992. "A Dynamic Spatial Model," NBER Working Papers 4219, National Bureau of Economic Research, Inc.
  3. J. Vernon Henderson & Ari Kuncoro & Matthew Turner, 1992. "Industrial Development in Cities," NBER Working Papers 4178, National Bureau of Economic Research, Inc.
  4. Gordon H. Hanson, 1998. "Market Potential, Increasing Returns, and Geographic Concentration," NBER Working Papers 6429, National Bureau of Economic Research, Inc.
  5. Paul Krugman, 1990. "Increasing Returns and Economic Geography," NBER Working Papers 3275, National Bureau of Economic Research, Inc.
  6. Devereux, Michael P. & Griffith, Rachel, 1998. "Taxes and the location of production: evidence from a panel of US multinationals," Journal of Public Economics, Elsevier, vol. 68(3), pages 335-367, June.
  7. Krugman, Paul, 1980. "Scale Economies, Product Differentiation, and the Pattern of Trade," American Economic Review, American Economic Association, vol. 70(5), pages 950-59, December.
  8. Coughlin, Cletus C & Terza, Joseph V & Arromdee, Vachira, 1991. "State Characteristics and the Location of Foreign Direct Investment within the United States," The Review of Economics and Statistics, MIT Press, vol. 73(4), pages 675-83, November.
  9. Anthony J. Venables, 1993. "Equilibrium Locations of Vertically Linked Industries," CEP Discussion Papers dp0137, Centre for Economic Performance, LSE.
  10. Crozet, M., 2000. "Do Migrants Believe in Market Potential?," Papiers d'Economie Mathématique et Applications 2000.30, Université Panthéon-Sorbonne (Paris 1).
  11. Stephen Redding & Anthony J. Venables, 2001. "Economic geography and international inequality," LSE Research Online Documents on Economics 3714, London School of Economics and Political Science, LSE Library.
  12. Keith Head & John Ries, 2001. "Increasing Returns versus National Product Differentiation as an Explanation for the Pattern of U.S.-Canada Trade," American Economic Review, American Economic Association, vol. 91(4), pages 858-876, September.
  13. Head, C. Keith & Ries, John C. & Swenson, Deborah L., 1999. "Attracting foreign manufacturing: Investment promotion and agglomeration," Regional Science and Urban Economics, Elsevier, vol. 29(2), pages 197-218, March.
  14. Daniel McFadden, 1977. "Modelling the Choice of Residential Location," Cowles Foundation Discussion Papers 477, Cowles Foundation for Research in Economics, Yale University.
  15. Hansen, Eric R., 1987. "Industrial location choice in Sao Paulo, Brazil : A nested logit model," Regional Science and Urban Economics, Elsevier, vol. 17(1), pages 89-108, February.
  16. McCallum, John, 1995. "National Borders Matter: Canada-U.S. Regional Trade Patterns," American Economic Review, American Economic Association, vol. 85(3), pages 615-23, June.
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