Financial advantage, outsourcing and FDI under wage uncertainty

This paper investigates outsourcing and foreign direct investment (FDI) decisions in North–South trade under conditions of wage uncertainty. The North has a financial advantage to raise capital, but the South has the advantage of low wages. If the expected outsourcing cost is lower than the in-house production cost, some outsourcing to a Southern firm is optimal. However, outsourcing to an FDI firm is superior to outsourcing to a Southern firm as well as in-house production. This finding is consistent with the rising foreign direct investment in China by Northern firms.

► Partial or full outsourcing can be superior to in-house production.
► Outsourcing to a foreign subsidiary is superior to in-house production.
► Foreign direct investment is superior to outsourcing to an independent foreign firm.