Japan' s Foreign Direct Investment and Structural Changes in Japanese and East Asian Trade

Ryoji Koike

In this paper, we analyze both the impact of Japan's foreign direct investment (FDI) into East Asia on trade and the structural changes in trade that have occurred in the region. To do this, we estimate gravity equations using trade data disaggregated to the industry and product levels. Our analysis shows that the impact of FDI on trade varies by industry. Specifically, in the electrical machinery sector, the positive impact of FDI on trade increased substantially from the 1990s, when the division of labor was advancing rapidly, especially for IT-related products. In the textile industry, which experienced a moderate increase in the division of labor primarily for intermediates, the impact of FDI on trade was positive, although not as great as seen in the electrical machinery industry. On the other hand, in the transportation machinery industry, where production processes were shifted from Japan to other East Asian countries and where Japan' s exports were substituted with local production, FDI had virtually no impact on trade.

Key words: Foreign direct investment (FDI); Gravity equation; Trade structure; Vertical specialization; Horizontal specialization; Fragmentation

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