Abstract

The analysis presented in this paper shows that in countries with relatively high wages risk-averse firms operating in perfectly competitive markets will reduce production of commodities with high uncertainty of demand. Such commodities will be produced mainly in countries having sufficiently lower labor costs. Thus, an increase in demand uncertainty may shift the production from developed to developing countries even though additional per unit transaction and transportation costs in the latter offset the advantage of lower wages. The predictions of the model are then checked through an analysis of the toy industry concerning the level of demand uncertainty and location of outsourced production activities.