Subsidies and MNE investment location choices: Unravelling the effects of firm specificity and immediacy

Abstract

Industrialized countries increasingly use targeted subsidies to lessen firms’ disadvantages caused by climate change, geopolitical realignment of trade relationships and local COVID-19 pandemic dislocations. The debate over the United States Inflationary Reduction Act and the European Union criticism of it because of its effect on firms’ investment location choices exemplify how subsidies affect investment flows. We investigate to what extent different subsidy schemes affect firms’ investment location choices and explore the effect on two dimensions: immediacy (direct versus indirect) and firm specificity (firm-specific versus non-firm-specific). Using a sample of United States MNEs and their investments in subsidiaries in the European Union and China, we find that direct subsidies have a greater positive effect on investment than indirect subsidies, and that non-firm-specific subsidies have a greater positive effect than firm-specific subsidies. Our study establishes a more nuanced understanding of subsidy effects, suggesting that policymakers should align their subsidy schemes for attracting foreign direct investment accordingly.