CHAPTER 4
Knowledge Connectivity in South Asia and Its Impact on Outward Foreign Direct Investment
Introduction Making decisions about engaging in international trading or undertaking international investments is difficult. Entrepreneurs need information about markets and potential partners in unfamiliar locations to take calculated risks. In developing economies, frictions in the flow of information and knowledge could be even more important obstacles to trade and investment than traditional trade frictions (Atkin and Khandelwal 2019). These knowledge frictions reflect the high costs of search and matching across borders and the high costs of market failures in the provision of channels or technologies with which to alleviate these frictions. Acknowledging the important role of knowledge connectivity, separate from other forms of traditional connectivity, is important because policies that reduce information frictions differ substantially from policies that reduce traditional trade costs. The research presented in this report builds on the nascent understanding of the role of information for trade, with an application to the foreign investment decision. Although the importance of information barriers has been recognized (Anderson and van Wincoop 2004), international economists are just beginning to quantify the power of information (see Dickstein and Morales [2018] on exporters). For example, it is accepted that information about a prevailing price in a distant market acts as a demand signal for certain products (Allen 2014; Steinwender 2018);1 and information frictions lead to knowledge spilling over from foreign affiliates of multinational enterprises only
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