Should governments compete for foreign direct investment?

Two governments consider competing to attract a foreign monopoly to their markets. Competition involves offering incentives to the firm, lowering its marginal cost. The firm chooses to enter either of the markets, produce there and export to the other, to enter both with local production, or to reject all offers. We find conditions when it is optimal for one country not to compete, preferring imports to improving its economy. We show conditions when the country, knowing it will lose (win) the firm, finds it optimal (not) to compete, and establish the relationship between the firm's choice and the governments' characteristics. (c) 2005 Elsevier B.V. All rights reserved.