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CEP discussion paper
Selection Effects with Heterogeneous Firms
Monika Mrázová and J. Peter Neary
October 2012
Paper No' CEPDP1174:
Full Paper (pdf)

JEL Classification: F23; F15; F12

Tags: foreign direct investment (fdi); heterogeneous firms; proximity-concentration trade-off; r&d with threshold effects; super- and sub-convexity; supermodularity

We provide a general characterization of which firms will select alternative ways of serving a market. If and only if firms' maximum profits are supermodular in production and marketaccess costs, more efficient firms will select into the activity with lower market-access costs. Our result applies in a range of models and under a variety of assumptions about market structure. We show that supermodularity holds in many cases but not in all. Exceptions include FDI (both horizontal and vertical) when demands are “sub-convex” (i.e., less convex than CES), fixed costs that vary with access mode, and R&D with threshold effects.