Economic geography and the department of vertical multinational production

This paper develops a two-country, two-sector monopolistic competition model to illustrate the development of vertical multinational production as a result of the tradeoff between agglomeration economies and factor-cost advantages. In the presence of demand and cost linkages, starting with manufacturing agglomeration, the model shows that in the process of economic integration or economic growth, the importance of factor-cost disadvantages ast the manufacturing center will outweigh the importance of agglomeration economies at some point, and agglomeration will break down. Some firms will have incentives to separate their production geographically to exploit factor-cost differences, and thus multinational firms will emerge. (C) 1999 Elsevier Science B.V. All rights reserved.