Sourcing product quality for foreign market entry

Abstract

This study employs a differentiated Cournot model with both horizontal and vertical product differentiation. It scrutinizes the implications of frictions over manufacturing high quality (upstream market power) on the endogenous foreign market entry mode and product quality choice. Both high-quality exports and subsidiary sales require high-quality inputs supplied by a monopoly upstream firm, and thus are costly. Relative product quality, product substitutability, and product-specific trade costs are the key for the variation in input/output prices, sales and the markup between an exporter and a multinational, and have significant trade policy implications for high-quality exports and subsidiary sales.