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Endogenous FDI Policy and External Tariffs in a Free Trade Area under International Oligopoly

This paper is the first attempt to endogenously determining both trade and foreign direct investment (FDI) policies in a free trade area (FTA). We show that the properties of an external tariff rate set by a government in an FTA may change drastically when endogenizing FDI policy. The optimal tariff rate under exogenous FDI policy is lower when the home market demand and/or the marginal cost difference between inside and outside firms are larger, and the number of outside firms is smaller. The optimal tariff rate under endogenous FDI policy is higher under the same situations.