When a foreign monopolist facing uncertain future demand can either export to a host country or serve the market by undertaking an irreversible foreign direct investment, the host government maximizes net domestic benefits by nearly fully subsidizing the investment cost in combination with taxing away benefits that exceed the gains from exporting. Without the subsidy, maximization of domestic benefits leads to underinvestment from a world welfare point of view.

foreign direct investment, irreversibility, tax policy, uncertainty
Fiscal Policy; Public Expenditures, Investment, and Finance; Taxation (jel E62), Capital Budgeting; Investment Policy (jel G31), Efficiency; Optimal Taxation (jel H21)
dx.doi.org/10.1016/j.jedc.2004.05.002, hdl.handle.net/1765/12069
Journal of Economic Dynamics and Control
Erasmus School of Economics

Pennings, H.P.G. (2005). How to Maximize Domestic Benefits from Irreversible Foreign Investments: The Role of Uncertainty and Irreversibility. Journal of Economic Dynamics and Control, 29(5), 873–889. doi:10.1016/j.jedc.2004.05.002