Many countries attempt to attract foreign direct investments (FDI), since potential host countries recognise that FDI can improve the productive efficiency of the business sector. Not only do multinational firms (MNEs) pay higher wages than indigenous firms, they are also more productive and do more R&D. Increasing globalisation and volatility of employment may, however, also increase the demand for job security. A conflict may then arise between the host country government's ambition to protect employment and its ambition to attract FDI. In this paper, we reexamine how FDI is affected by the stringency of employment protection legislation (EPL) in the host country using affiliate micro data on outward investments by Swedish multinational firms. Investigating the relationship between EPL and FDI is challenging for at least three reasons: First, it seems intuitive that more stringent EPL increases labour costs, for example, in the form of severance pay, since it becomes costlier to dismiss workers. This effect is reinforced if stronger EPL improves the bargaining position of workers and hence increases their wage demands. However, there are also mechanisms through which stronger EPL can reduce wages. For instance, Lazear (1990) has suggested that more job security may contribute to lower wages, and possibly leave total labour costs unchanged, if employers can shift increased dismissal costs onto workers. Thus, the relationship between more stringent EPL and labour costs-and hence also the relationship between EPL and FDI-is ambiguous a priori. 1 Second, the term FDI refers to multiple decisions made by a multinational firm. These may involve investing into a new affiliate or deciding on employment and sales in an existing affiliate, where some sales may be destined to markets outside the host country market as exports. The impact of more stringent EPL on these decisions may not be uniform. Finally, FDI may trigger reforms of EPL in host countries and these policies are not decided upon in isolation of other labour market policies, or economic policy in general. To identify the effect of more stringent EPL on the activities of MNEs, we use a micro dataset on affiliates of Swedish multinational firms for the period 1965-1998. We estimate regression equations for the investment decision of establishing new affiliates (extensive margin), affiliate employment, local sales and affiliate export sales (intensive margin). To examine the impact of the stringency of EPL in the host 1 If employers incur firing costs in excess of benefits accruing to workers, in the form of red tape and legal costs, these additional costs cannot be undone in wage bargaining and thus contribute to lowering employment (Burda, 1992).