CONTENT PROTECTION WITH FOREIGN-CAPITAL

We consider local content requirements in a second-best environment, with foreign capital flows, and consider the consequences for domestic producers of final goods. We derive an expression for the welfare consequences of content protection in a competitive general equilibrium model of two stages of production and show that content protection initially has no effect other than expanding foreign firms at the expense of domestic ones. Once domestic producers exit, further tightening of the content requirement decreases production of the final good and increases component production, stimulating an inflow of foreign capital. Conflicting effects on domestic welfare are discussed.