A theoretical model is developed which shows that, with multinational firms shifting their unskilled-labor-intensive intermediate good production to foreign subsidiaries, the wage gap between skilled and unskilled workers in the home country widens. Unskilled workers respond to this by investing in skills. Thus multinational entry affects both income and labor distribution. Workers decide whether or not to invest in skills by comparing the utility levels with and without skill investment. It is assumed that disutility derived from skill investment is a decreasing function of workers' ability to learn and ability is normally distributed, comparative statics show that more unskilled workers invest in skills when the relative wages of skilled workers are high and the tuition cost relative to the wage of unskilled workers are low.; Model simulations show that with the entry of multinational firms, the nominal wage of unskilled workers decreases, however not in real terms. Complementary relationships between vertical direct foreign investment in upstream activities and international trade in both final good exports and inter-industry imports are found. Comparative static analysis about home country's wages, prices, national incomes, trade flows, and skill investment in response to changes in home and foreign countries' relative endowments, transportation costs of final and intermediate goods are shown.; Two government policies: tax credit and lump sum subsidy, can encourage more skill investment as they lower the cost of skill investment and they drive up the real national income after skill investment. When tuition cost is high, there is an optimal tax credit or subsidy when tradeoff between government policies and tax revenues are considered.; Finally, the debate concerning whether direct foreign investment harms unskilled workers in developed countries is considered. The impact of minimum wage imposed on multinational firms on their employment of unskilled workers in foreign subsidiaries is found. If only multinational firms exist, this policy negatively affects home country's workers in real terms. Foreign unskilled workers are likely to benefit in real terms and vice versa for foreign skilled workers.
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