Production Flexibility as a Motive for Multinationality

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This paper examines how uncertainty in future operating costs at the time of undertaking long-lived and irreversible capital investment projects may provide an incentive for multinational production. This incentive may be present even if firms are risk-neutral, as long as they face a downward-sloping demand curve. The lower the international correlation between marginal cost shocks and the lower the elasticity of demand, the greater the benefit to establishing plants in different countries. However, even if cost fluctuations are perfectly correlated internationally, there may still be gains from multinational production.