Uncertainty, Imperfect Information and Learning in the International Market

Abstract

Using a unique data set of Japanese multinational firms' sales forecasts, we provide new evidence on imperfect information and learning at the firm level in the international market. We document three new facts concerning forecasts and forecast errors (FEs). First, firms make more precise forecasts as they become more experienced in the destination market, either through multinational production (MP) or via exporting prior to MP entry. Second, past FEs are positively correlated with current and future FEs, which suggests the existence of imperfect information. Third, the (positive) correlation of FEs declines with firm's experience in the destination market. We then build and quantify a dynamic industry equilibrium model of trade and MP to match these facts and other salient features of firm dynamics. Counterfactual analysis shows that imperfect information substantially enlarges productivity gains from liberalizing trade, and more so when multiple production modes are available.