Mergers and the Composition of International Commerce

In an increasingly globalized world, trade volumes between countries have grown more rapidly than global output, and foreign direct investment (FDI) even more rapidly than trade volumes. International investment decisions of multinational enterprises are thus of great interest to economists, government officials, and the popular press. Firms expand abroad primarily by buying existing plants in foreign countries (cross-border mergers and acquisitions [M&A]) rather than by opening new facilities (greenfield). Despite the predominance of cross-border mergers and acquisitions in FDI and the substantial evidence that both businessmen and governments perceive greenfield FDI and cross-border M&A as very different, the theoretical literature in International Trade has focused primarily on greenfield investment.

The research involves four components organized around a novel theoretical framework in which greenfield FDI and cross-border M&A are modeled as two distinct modes of FDI. This framework is based on three key ideas. First, there is heterogeneity in firms' capabilities. Second, these capabilities differ in their degree of international mobility. Third, capabilities are traded in a merger market, and so the price of capabilities is determined by (endogenous) supply and demand. The research uses this framework to address two sets of questions: (1) what are the characteristics of firms that choose the various modes of foreign market access (cross-border M&A vs. greenfield FDI vs. exporting), and (2) how does the composition of international commerce vary across industries and countries?

The first two components of the research involve a theoretical analysis of the structure of international commerce in alternate economic environments, which give rise, respectively, to 'horizontal' and 'vertical' FDI. Since the proposed theory provides a framework which allows policy makers to evaluate the impact of a wide array of policy instruments on the composition of international commerce, the third component of the research is an investigation of optimal government policies towards greenfield FDI and cross-border M&A. The analysis not only concerns traditional trade policy instruments such as tariffs but also policies not commonly thought of as relevant for international commerce, such as competition policy with respect to mergers and acquisitions. The final component of the research project is an empirical exploration using firm-level data of the predictions of the theoretical framework.