Agglomeration, Adjustment, and State Policies in the Location of Foreign Direct Investment in the United States * Gustavo J. Bobonis † and Howard J. Shatz ‡ April 2006 Abstract: Using U.S. state-level data we show that agglomeration externalities influence the level of foreign-invested capital in a location. Our empirical model allows the separation of agglomeration effects from the rate of capital stock adjustment, two forces that previous research has conflated. We estimate an agglomeration elasticity of investment of 0.11 to 0.15 with respect to same-host-country investment, lower than previous estimates. We also investigate the influence of state policies and find that, although general investment incentives do not affect the location of FDI, targeted policies such as unitary taxation and state foreign offices influence investment. Keywords: Agglomeration, Stock Adjustment, Investment Incentives, FDI JEL Codes: C33, F23, H71, R12 _____________________ * We thank two anonymous referees for a careful reading of the manuscript and many useful suggestions, Robert Feenstra, Keith Head, Ted Miguel, David Neumark, Rossitza Wooster, seminar participants at the University of California - Davis, and participants at the Western Economic Association International 2002 Annual Meeting for helpful comments, Deborah Swenson for kindly providing the Head, Ries, and Swenson (1999) incentives data, Eli Miloslavsky for research assistance, and Kim Rueben and Pedro Cerdán for sharing state fiscal data. All errors remain our own. † Department of Economics, University of Toronto, 150 Saint George St., Toronto, Ontario, M5S 3G7, Canada, gustavo.bobonis@utoronto.ca , tel: (416) 946-5299. ‡ Public Policy Institute of California, 500 Washington Street, Suite 800, San Francisco, CA 94111, shatz@ppic.org , tel: (415) 291-4409, fax: (415) 291-4428.