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Journal of Economic Integration 1998 September;13(3) :485-498.
Foreign Capital Inflow and Regional Immiserization

Bharat R. Hazari Pasquale M. Sgro 

Deakin University
Copyright ©1998 Journal of Economic Integration

In recent years a number of papers have examined the impact of inflow of foreign capital on welfare in a trade theoretic model. Two fundamental questions have been raised in this literature. First, what is the welfare impact of foreign capital inflow under a laissez faire regime? Second, what is the impact of tariff induced capital inflow on welfare? In this paper we depart from the Heckscher-Ohlin framework where there is only one representative agent whose welfare is considered. We exploit a trade theoretic framework to analyse the impact on an inflow of foreign capital on regional welfare, in particular, urban and rural incomes.

The analysis is undertaken in a four goods, two region model where each region produces and consumes its own non-traded good. Foreign capital is only used in the urban region and its inflow is treated initially as exogenous and later endogenised via a movement in the terms-of-trade. An exogenous inflow of foreign capital necessarily raises aggregate urban income irrespective of capital intensity conditions. The rural region is 'immiserized' by the inflow of foreign capital provided that the rural traded good is more capital intensive than the rural non-traded good. In this framework rural employment always falls and urban employment always rises. In the case where foreign capital inflow is induced by a change in the terms-of-trade, immiserization may occur in both regions depending on the capital intensities in all sectors. This paper highlights the locational implication of the inflow of foreign capital. (JEL Classification: F2, O1, R1)

1. Jones, R. W. [1984], "Protection and the Harmful Effects of Endogenous Capital Flows," Economics Letters 15; pp. 325-30.
2. Beladi, H. and S. Marjit [1992], "Foreign Capital and Protectionism," Canadian Journal of Economics 25; pp. 233-238.
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