The paper analyses the hypotheses that imports and inward foreign direct investment (FDI) have positive effects on the innovative activity of domestic firms because competition on the domestic market is thereby increased, and domestic firms have to perform more efficiently to maintain their market position. Chamberlain's random effects probit approach which may account for individual heterogeneity depending on exogenous variables is used to analyse a panel data set containing 1270 firms of the German manufacturing industry from 1984 to 1988. It turns out that both import share and FDI-share have positive and significant effects on product and process innovations.