This dissertation consists of three essays on cross-border mergers and acquisitions (M&As). The first essay studies horizontal and vertical investments between Organization for Economic Cooperation and Development (OECD) countries, while the second essay examines how investment patterns vary by country development. The third essay estimates the effect of merger policy reform on cross-border M&A activity in Europe. The first essay tests how well theories of horizontal and vertical foreign direct investment (FDI) explain observed patterns of cross-border M&As in OECD countries. Horizontal investment occurs when multinational firms produce in foreign countries to serve the foreign market, whereas vertical investment occurs when multinational firms source intermediate goods from foreign affiliates for final assembly and sales at home. The former is often used to displace exports when transport costs exceed local production costs, while the latter is often driven by cross-country factor price differentials. Little support is found for the traditional explanations of FDI as results indicate horizontal and vertical investments look much more similar than previously believed. The second essay challenges long-standing beliefs that the majority of FDI within the developed world is horizontal, whereas investments into developing nations are predominantly vertical. Developed-developed FDI is largely cross-border M&As and FDI into developing nations typically consists of greenfield investments. However, cross-border M&As are becoming more popular in developing countries and, contrary to previous beliefs, the proportion of horizontal and vertical investment is independent of country development. Results suggest trade costs have a stronger effect on developing countries, while no clear support is found for the idea that factor endowment drives vertical investments in developing nations. The third essay examines how reforms to European Commission Merger Regulation (ECMR) in 2004 affected cross-border M&A activity in Europe. The ECMR outlines competition rules and empowers the European Commission (EC) to block anti-competitive mergers adversely affecting the European market. Details of the reform suggest the law was expanded to cover more mergers, which is expected to have a non-positive effect on merger activity. Difference-in-differences results suggest the reform had no significant effect on cross-border merger activity in countries within the EC’s jurisdiction.

In the first chapter of my thesis, I examine a domestic downstream producer that acquires a foreign input supplier with the aim of manipulating the transfer price and shifting profits from a high-tax to a low-tax country. The United States, with a corporate tax rate of 21%, is the leading example of profit shifting behavior, where multinational enterprises like Google, Apple and Facebook shift part of their profits to tax havens like Ireland, the Netherlands, or Switzerland. In our model, the multinational enterprise faces a trade-off: insourcing the input at a high transfer price reduces the corporate tax burden but at the cost of increasing the input cost of its downstream division, which reduces domestic sales and profits. The optimal transfer price balances this trade-off. In an extension that we develop in the model, the regulation under the arm’s length principle is shown to reduce the transfer price, which reduces distortion in the domestic production and expands the region in which vertical FDI benefits consumers and social welfare in the home country. We also show that promoting downstream competition could help align private and social incentives, reinforcing the positive effects of regulation. In the second chapter, I study the effect of consumer learning on shrouding (hiding information about the product price) and pricing strategies of the firms in add-on markets. The presence of consumer myopia in add-on markets often allows firms to exploit consumers who have limited information about the market, even in competitive ones. I formally develop a dynamic theoretical model of add-on markets where consumers learn about the shrouding strategies of firms after they buy and experience expensive add-on products in a previous period. Despite high levels of consumer myopia, I find that firms choose to unshroud the add-on product and sell it at a low price as long as consumer experience is high enough in the market. I also find co-existence of shrouding and unshrouding equilibria with high add-on prices when the level of consumer experience is low enough and the level of consumer myopia is high enough in the market. The results combine the contrasting results in the literature for add-on markets (Gabaix and Laibson (2006) and Dahremoller (2013)), and are robust to an infinite-period extension of the model. In the third chapter, I formally develop a theoretical model of the market for quacks, where market consists of both firms which provide a useless service and some experts. Apart from the naive consumers who sample firms based on anecdotal reasoning, I introduce some consumers who use Bayesian updating based on the distribution of firms in the market (sophistication), and hence can infer some information about firms based on the signals they receive, and study its effect on the behavior of firms in the market. In this setting, I find a Bayesian mixed-strategy Nash equilibrium, in which firms choose to randomize over low prices and sell their services to naive and sophisticated consumers, as long as there is a significant fraction of consumers who update their information based on the distribution of the firms in the market. The higher is the quality of service provided by the expert, the larger is the region in which this Nash equilibrium prevails. In contrast, if the fraction of consumers with incorrect beliefs is high enough, firms sell their services at high prices in equilibrium and only to the latter type of consumers. I extend the benchmark model to include more than one quack (and more than one expert), and the results are shown to be robust to the extensions. When there are two quacks and two experts, I find that firms may ‘split’ the market, and sell their services at different prices.