Abstract: This paper constructs a free capital model of 2 countries and 3 regions with regional characteristics to analyze the transfer effect between the domestic and foreign direct investments and the industry location in the special free trade zone with the method of numerical simulation. Then it looses the symmetry hypothesis on the economic scale and the trade cost in the model to discuss the construction strategy for China’s pilot free trade zones. The results show that due to the local market effect, the establishment of Shanghai Free Trade Zone would give rise to the industry transfer from regions both at home and abroad with no free trade zones to Shanghai Free Trade Zone; its degree depends on the economic scale and trade freedom of each region. As for the Shanghai Free Trade Zone, the reform strength is the key point in the short term and the risk control is the crucial one in the long term. To set up free trade zones in a number of regions will result in welfare competition among the regions. Considering the different conditions, among the cities that have applied for setting up the free trade zones, Shenzhen or Tianjin is the best choice accordingly.

Key words: special free trade zone; direct investment; industry location transfer; free capital model