Does Economic Integration Cause Foreign Direct Investment?

The authors analyze the effect of economic integration on oligopolists' international trade and foreign direct investment activities, using a three-country, three-firm model. Increased country size leads to dispersed foreign direct investment, while improved market accessibility leads to export-platform foreign direct investment. Increased intraregional market accessibility prompts outside firms to invest in the regional bloc, reducing product prices, profits of intrabloc firms, and increasing total surplus. Integrating economies are more likely to gain from improving intraregional market accessibility than from tougher external trade policy, and may wish to offer investment incentives to encourage foreign direct investment by outside firms.