EXPORT SUBSIDIES AS SIGNALS OF COMPETITIVENESS

In a Cournot duopoly model of international competition between a domestic and foreign firm, it is shown that when the foreign firm has incomplete information about the marginal cost of the domestic firm then the domestic government can use an export subsidy to signal the competitiveness of its firm. This signalling effect strengthens the usual profit-shifting argument for an export subsidy, The optimal export subsidy in the signalling equilibrium may be twice as large as the optimal profit-shifting export subsidy under complete information.