Firm Heterogeneity and Choice of Various Patterns of FDI: Evidence from Korea

This paper examines how firm productivity reflects different FDI patterns among Korean multinational firms. Using the fact that there exist several countries with income-levels higher than Korea, we build a model in which heterogeneous firms in a low-income country decide on the optimal entry modes for serving high-income countries. By allowing firms to use subsidiaries, not only to serve the local market, but also export to other countries, our model shows that a firm’s entry decision depends on its own productivity level and transportation costs between countries. Using Korean firm- and plant-level data, we categorize firms by their entry modes and use the logit model to link firms’ entry modes with their productivity and transportation costs. Our empirical results are consistent with theoretical implications. We show that more productive firms engage in outward FDI in countries that incur high transportation costs from home. Among FDI firms, we find that under high transportation costs between foreign countries, more productive firms only engage in local sales, while firms with high productivity levels conduct local sales and export sales to third countries if transportation costs are low between foreign countries.