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Exchange rates and FDI: Goods versus capital market frictions

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  • Buch, Claudia M.
  • Kleinert, Jörn

Abstract

Economic theory provides two main explanations why changes in exchange rates can affect foreign direct investment (FDI). According to a first explanation, FDI reacts to exchange rate changes if there are information frictions on capital markets and if the investment by firms depends on their net worth (capital market friction hypothesis). According to a second explanation, FDI reacts to exchange rate changes if output and factor markets are segmented, and if firm-specific assets are important (goods market friction hypothesis). We provide a unified theoretical framework of the two explanations and test the model using German sectoral data derived from detailed firm-level data. We find greater support for the goods market friction hypothesis.

Suggested Citation

  • Buch, Claudia M. & Kleinert, Jörn, 2006. "Exchange rates and FDI: Goods versus capital market frictions," Tübinger Diskussionsbeiträge 304, University of Tübingen, School of Business and Economics.
  • Handle: RePEc:zbw:tuedps:304
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    References listed on IDEAS

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    Cited by:

    1. Takagi, Shinji & Shi, Zongying, 2011. "Exchange rate movements and foreign direct investment (FDI): Japanese investment in Asia, 1987–2008," Japan and the World Economy, Elsevier, vol. 23(4), pages 265-272.
    2. Guo, Yan, 2013. "Strategic trade policy, cost uncertainty and FDI determinants," ISU General Staff Papers 201301010800004464, Iowa State University, Department of Economics.
    3. Aray, Henry & Gardeazabal, Javier, 2010. "Going multinational under exchange rate uncertainty," Journal of International Money and Finance, Elsevier, vol. 29(6), pages 1171-1191, October.
    4. Matthias Busse & Carsten Hefeker & Signe Nelgen, 2013. "Foreign Direct Investment and Exchange Rate Regimes," Economics Bulletin, AccessEcon, vol. 33(1), pages 843-858.
    5. Works, Richard Floyd, 2016. "Econometric modeling of exchange rate determinants by market classification: An empirical analysis of Japan and South Korea using the sticky-price monetary theory," MPRA Paper 76382, University Library of Munich, Germany.
    6. Adugna Olani, 2016. "Dynamic Capital inflow transmission of monetary policy to emerging markets," Working Papers 1358, Queen's University, Department of Economics.
    7. Lord Mensah & Godfred Alufar Bokpin & Eric Dei Fosu-Hene, 2017. "Foreign exchange rate moments and FDI in Ghana," Journal of Economics and Finance, Springer;Academy of Economics and Finance, vol. 41(1), pages 136-152, January.
    8. repec:blg:reveco:v:69:y:2017:i:3:p:85-93 is not listed on IDEAS

    More about this item

    Keywords

    FDI; exchange rates; net worth effects; multinational firms;

    JEL classification:

    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F23 - International Economics - - International Factor Movements and International Business - - - Multinational Firms; International Business
    • F21 - International Economics - - International Factor Movements and International Business - - - International Investment; Long-Term Capital Movements

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