Temporary Partnerships as an Information Transmission Mechanism

Asymmetric information and fear of acquiring a 'lemon' may explain the paucity of foreign investment in emerging market economies. If investors are uncertain about the profitability of investments, intrinsically inefficient, temporary partnerships or joint ventures may serve as mechanisms through which information is transmitted. Temporary partnerships with joint investments by the domestic firm and the foreign investor, together with a buy-out option to the investor, can be used to separate good and bad investment prospects in equilibrium. However, non-revealing equilibria may exist. Implications for foreign direct investment are traced and briefly related to the experience of transition economies.