Foreign Direct Investment in China

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Prospect for China’s Future FDI Inflow Trends The different countries in the world have their own state of economy at any given time. This is the reason for the classification that a country has a developed economy while others are classified as developing and still a few belongs to underdeveloped category. It is a known fact that the development of economy of a certain country depend on the policies being implemented by the its government. A number of developed countries have reached their status of being a developed country by opening its policy on economic development to foreign investors.

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Other developing countries opted to develop their economy on their own with limited participation allotted to foreign investors to protect its natural resources and level of technological knowledge and ultimately maintain its sovereignty. A number of underdeveloped countries totally closed its policy and prevent the entry of foreign investors. One of the best way to enhance the development of economy of a country is opening its door to foreign investment and relax its strict economic protectionism stance.

One of the countries that realized this option is China. It is a known fact that China during the 1950’s

embraced the concept of Cultural Revolution wherein the whole citizenry and the government will be the one to develop its economy without any outside help. The economy of China during that time stagnated while the rest of its neighbors applied an open door policy to economic development and westernization. These countries graduated from being an underdeveloped country to developing country status and China was left behind.

According to Wen (2005), it was only in the later part of 1978 that China end the Cultural Revolution and began its economic reform. From that date, according to the author, China’s

economy has gradually opened its door to the rest of the world thru foreign direct investment and international trade. It is an accepted fact that China is the most populous country in the world and as such is a big market for export. The population of China is 3. 1 billion as of December 31, 2007(GeoHive, 2008). Its being a signatory to World Trade 2 Organization (WTO) in 2001 resulted to being closely interwoven with the world economy. Many Trans-National Companies (TNCs) realized this potential and start pouring in their investments to enjoy the benefit of being more competitive due to lower labor cost in

production and good investment climate. The TNCs funneled their investment to China thru Foreign Direct Investment (FDI). Chinese firms as a result of capital from FDI significantly improved the quality of their products after being exposed to international competition for 20 years. The United States poured in $509. 76 billion in 2001 and &620. 8 billion in 2002 (Wen, 2005). Since then, the economy of China improved dramatically until it became the number one choice of developed countries as to where their excess capital can be invested in terms of FDI. This paper aims to investigate the effect of FDI to China’s economy and the prospect of

getting more future trans-national investments in the light of its current economic condition. China economy, current and future trend As a result of economic reforms which started in 1979, China was transformed to an efficient economic machine and became one of the countries in the world with high economic growth rate. (Morrison, 2008). The gross domestic product (GDP) from 1979 to 2007 grew at an average of rate of 9. 7% and the real GDP in 2007 grew 11. 4% which is the highest annual growth rate since 1994. 3 With this positive developments, the author revealed that China is expected to register rapid

economic growth rate and could be the world’s largest economy within 10 years. Despite these economic achievements, the author reported that still, China faces a number of problems including the widespread corruption in the government, banking system which is inefficient and the fact that the country is depending too much on exports and investments in fixed assets, widening income inequalities among the citizens in the provinces and in the cities and worsening pollution level of the environment from the manufacturing factories. The author reported that the Chinese government intends to correct these discrepancies in the

coming years and provide a more balanced economic growth across the country as a whole and will address a number of economic and socially- related issues. Exports and foreign investments were the major contributories to the booming Chinese economy from 2004 till 2007 (Morrison, 2008). During this period the Chinese trade on merchandise nearly doubled. China’s exports valued at $1,218 billion which for the first time exceeded US exports valued at $1,162 billion). The author continue saying that the import of China at that time valued $956 million and the trade surplus amounts to a historic high $262 billion.

More than half of China’s trade amount was undertaken by foreign companies investing in China. The foreign reserve of China at the end of 2007 amounted to $1. 5 trillion representing surpluses on trade, foreign and direct investments and large-scale acquisition of foreign currency. The author revealed that U. S. policy experts view this development with deep concern despite the fact that US consumers, traders and investors benefited greatly from China’s rapid economic growth. One disadvantage to US of this economic miracle of China is that the local US goods cannot compete in price with the China goods. And this resulted to

tremendous consumption reduction of US goods in its own turf. The US policy makers 4 claimed that China is breaking the rules of trade and call on WTO to pressure China to implement its commitments and relax the different economic policies harmful to US interests. Among them are currency policy, subsidizing state own firms, trade and barriers related to investments to US goods and services and failure to ensure safe quality of exports. Other serious complaints lodged by the US include rising demand of China for energy and raw materials which tend to increase world prices, rising pollution and global warming and

its outbound FDI to Sudan and Iran where US has political and human right violation concerns. According to the author, China is buying its oil requirement from Iran and the business continue to grow as seen in Fig. 2. Fig. 2. China’s Net Oil Imports: 1997-2007 The reform related to trade and investment incentives resulted to an avalanche of FDI into China and has been the source of capital growth in the country. The yearly utilized FDI of China grew from $636 million in 1993 to a woofing $75 billion in 2007. At the end of 2007, the FDI cumulative level in China is about $760 billion making China the largest destination

of FDI in the world. As can be seen from Table 1, about 40% of China’s FDI from 1979- 2007 came from Hongkong, the British Islands investment is about 9. 7%, Japan with 8. 1% and 7. 4% from US. From the Table, it is noticeable that US is the fifth largest investor in China with 3. 5% of the total FDI coming from the country. The peak of US FDI to China was in 2002 with $5. 4 billion and declined steadily then after. In 2007, the US FDI to China 5 fell by 13% compared to 2006 level. Table 2. Major Foreign Investors in China: 1979-2007 On the export sector, a New York Times reporter revealed last August 5, 2008, that China’s

export has its peak in 2003 and reached about 135% of its target. Since then, after 7 years of active participation in WTO, exports plunge down to the level of 2001 when exports started (Bradsher, 2008). 6 According the New York Times reporter, the number of new orders as reported by Chinese factories plunge early last month before the Beijing Oympics started. Simultaneous with the plunge is the weakening of the real estate market which used to be very active in the recent years as a result of FDI. The reporter added that China’s slowing growth is one of the reasons of the fall of gas prices in the US.

Likewise, the world prices of raw materials as copper, aluminum, zinc and tin which are traditionally being used voraciously by Chinese factories have gone down. An analysis of these facts suggests that the decline in world prices of oil and materials being traditionally used by Chinese businesses as a result of China slowing down its production is an indication that whatever happens to the its economy, the world economy will follow the same. This further indicate that Chinese economy at this point in time is so powerful that it can control the fate of the whole world. The author further

exclaimed that “But while China’s difficulties may reduce inflationary pressures around the world, they threaten to slow further the already tenuous global economic growth. China has slowed down a lot already, but it’s going to slow down more” (8th par. ). Economists expect the 11% growth target to slip to as low as 9% until the end of 2008. Most countries would be proud and satisfied with 9% growth but in the case of China, Bradsher revealed that it will mean rise in unemployment to millions of Chinese who have moved to the cities from rural areas in search for jobs. Moreover, the slowdown will shock the workers who have been

used to getting double digit pay increases yearly as companies are hard pressed to find labor to keep factories operating prior to slow down. Last February 5, 2008, The China Daily announced that World Bank cut China growth forecast from 10 to 9. 6% because of global economic downturn (Zhiming, 2008). According to the newspaper, this is the first time in 13 years that the growth forecast was set at single digit from an 11. 4% average. This single digit growth forecast is to soften the effect of global 7 slowdown on China’s exports and investment in manufacturing as well as to cushion the

economy from the pressure of global economic downturn. The newspaper added that the domestic demand should remain healthy and the modest global downturn will rebalance the economy. The effort to curb inflation reached the President’s level. China’s President Hu Jintao presided a Politburo meeting to instruct the economic ministers to lower the target and find ways to maintain economic growth while keeping inflation down. It can be recalled that after the peak was reached in 2003, economic growth kept declining and it has declined in 2008 to a level that inflation sets in. The China central bank let the yuan appreciate its true

value in the past 5 years and in the first half of 2008, the yuan value was pushed down by 0. 13 % last July 25, 2008 to preserve the competitiveness of Chinese exporters at the danger of protests from the US. There were also signs that the real estate market is declining following years of climbing prices and warning of a bubble might be possible in the near future. The problems of slow down in manufacturing and depreciation of real estate prices is greatly affecting the areas of southern China where the manufacturing hub is located, the author concluded. The same author reported that in February 2008, inflation in China rose to 7.

1% and this was the highest ever in the 20’s decade. The author exclaimed that “The steep increase in prices, announced on Tuesday morning by the Chinese government’s National Bureau of Statistics, is the latest warning sign that China has been transformed from a moderating influence on global prices to a source of inflationary pressure”( Bradsher, Chinese inflation, 2nd par). The author further reported that Yu Song and Hong Liang, two Chinese economists said that “ most of the effects of the Chinese snowstorms in late January and early February did Not show up in the January data. They said that inflation in February was likely to be

much higher than 7 percent, and might even get close to double-digit levels […]and Stephen Green, the chief China economist at Standard Chartered Bank, said that the Chinese government would continue to pursue austerity policies aimed at controlling inflation” (14th par. ) That being the case, a double digit inflation may be possible towards the end of the year in China and the whole world will follow. To further curb inflation and people anxiety towards rising prices of commodities, the China government decided to freeze oil price (despite surging world prices), water, electric utilities and price of public transportation fares.

The price of medical services and fertilizers were also stabilized ( Yardley, 2008). The author reported that a nationwide survey was conducted in China in the heights of the announcement of an 11% inflation from China government website and revealed that rising prices of consumer goods is the top concern of the citizen followed by inequality in income and corruption. This is the reason that the government is doing everything to make it appear that the people’s top concern is also their concern. In a capsule, the information from different sources points to the fact that the current

situation of Chinese economy is in the point of over-heating and has to cool down primarily to fight inflation and domestic price increases which incidentally is the prime concern of the citizenry. In order to cool down the over-heated economy, gradual slowdown in manufacturing which actually started in 2003 has to continue. Coupled with manipulating the yuan value against the US and freezing the prices of oil, fertilizer, public transport fare , water and electric utilities, the China government is competent it can keep inflation down. The current economic trend as proven by the facts collected suggest that China’s economy

9 has grown so big and powerful that whatever happen to it, the effect can be felt by all nations in the world in terms of global economic downturn affecting their own inflation rates and price increases of prime commodities. On the issue of future trend of China’s economy, three UNCTAD surveys were completed namely, The UNCTAD World Investment Prospect Survey for 2007-2009, survey for 2005-2008, and 2004-2007 involving TNCs willingness to funnel in FDI. The TNCs indicated that they will continue increasing their FDI through 2009 with China as their favorite site for investment ( UNCTAD, 2007).

The survey also revealed that among other considerations, the steady global economic growth expected in coming years as the main reason for increased FDI. The Manufacturing and Services sector are the major areas being considered for investment. The details are presented in Table 1. Another study related to FDI prospect was conducted by Dr Karl Sauvant of Economic Intelligence Unit and his projection is from 2006-2010. Among other things, the findings indicate that FDI will continue to pour in but majority of the beneficiaries will be the 10 developed countries(Sauvant, 2006). The economist said that buoyant growth of the

economy, competitive pressures and improvement in business climate up to 2010 favor investment through FDI. The author-economist caution however that the over-all mood in investing from 2006 to 2010 should be cautious optimism. From the surveys just presented, it appears that FDI will continue in the future with China as the favorite beneficiary. Among the studies presented, it is the study of Dr. Karl Sauvant which seems to feel in 2006 that the economy of China will be having some problems between 2006 and 2010 and issue a cautious optimism in deciding to invest in the country.

At the present state of China’s economy which is overheated, cooling down in terms of economic activity slowdown and continues controlling the yuan versus the dollar will continue in the future. World Bank has declared a global downturn as early as February 2008. This downturn was caused by China slowdown and will continue unless the China economy become bullish again in the near future. Analysis of the past events reveal that China will benefit in this economic downturn as experts say that the situation will stabilize the economy of the country. China has nothing to loose due to the fact that they have about

$1. 3 trillion in their coffers and the country has started investing this money way back 2004 through outward FDI. The new policy of China which has started already is maintain the gains they achieved already in the manufacturing sector while the economy is cooling down and invest in other countries in the sector of telecommunications and financial markets. Cheng (2007) revealed a number of overseas acquisitions and mergers of companies using outward China FDI. Among them is Lenovo’s IBM PC acquisition in December 2004, electronic appliance maker TCL acquisitions of France’s Thomson Electronics also in 2004.

Haier’s building of plants in the US in late 1990s and Nanjing Automotive acquiring UK 11 MG Rover in 2005. The energy crunch in 2006, as revealed by the author moved China to invest in oil companies in Russia, Central Asia and Africa. The author said that grabbing resources needed for development of China’s industries is the driving motivation to invest overseas through outward FDI. The Managing Director of China Equities reported six mega trends that will reshape China’s economy and market related finances in the future. The first is that the cheap labor is coming to end. This view is supported by American thinker.

com (2005) which also reported the declining labor force in China. The author reported that the once unlimited supply of cheap labor is declining (Ulrich, 2007). The generation of workers in today’s China is more educated and skilled and therefore require higher wages for employment. As reaction, the government is applying new technologies to do away with labor intensive production and the shift is from quantity to high quality production. China is investing its outward FDI to purchase technology and resources (USCBC, 2008). The second mega trend is higher growth in productivity result in higher profits. Chinese companies in the future

will be able to absorb the high cost of productivity due to wages and inputs as they will be making good profits from new technologies they bought using their outward FDI. This will result to professionalism of the work force, urbanization and further improvement in technology. The third mega trend is the shift from capital importer to capital exporter. The author reported that the newly formed state foreign –Investment Corporation (SIC) will invest part of the money reserve of China to overseas strategic properties and assets. This will have profound effects on global asset prices especially the natural resources-related

companies(Broadman and Sun, 1997). The fourth mega trend according to the author is the balance between banks and capital markets. Bonds and equity markets will be an alternate 12 source of fund for Chinese businessmen. Loans will no longer be popular and the banks have to shift their operation to other sources like credit issuance of credit cards, investment banking and other services to maintain their operation. The fourth mega trend is related to demand and supply of agricultural commodities like food. The diet of common Chinese is changing and therefore will demand for more protein rich food according to the author.

The land area of China is too small to feed the whole population. This therefore will mean imported food thus pushing the prices of prime commodities. The surging prices of food items will stay, the author said. The last trend is related to arresting the worsening environmental pollution brought about by the manufacturing industries. China must change its macro-economic structure from manufacturing to service sector and private consumption to arrest pollution. This will require investments or acquisition of technology in manufacturing to limit pollutants from factories.