Inward Foreign Direct Investment And Chinas Economic Development

Published Date: 02 Nov 2017

In recent years, with the help of globalization, inward foreign direct investment, together with international business has become available to more and more countries and regions (Gaurav & Aamir 2011). Hence, it is not hard to imagine that China has become one of the most fast growing countries in the world (Sinclair 2010). With the population of 1.3 billion and entering the World Trade Organization, China now is standing for a dramatic potential market (Sinclair 2010). In addition, China has become the world’s second largest foreign direct investment recipient since early 1990s (Zhang 2006).

Accompanied by the fast economic development, China has also achieved great success in the international trade (Wei & Liu 2001). Hence, it is not surprise to understand Graham and Wada (2001) state that China’s inward foreign direct investment has become one of the most successful models in the twenty-first century. As a consequence, this literature review is focusing on the background information about the development of inward foreign direct investment in China as well as the impact of the inward foreign direct investment on China’s economic development.

Background

The inward foreign direct investment is often understood as the one country participates into another country’s management, expertise or technology for a rather long period of time (Gaurav & Aamir 2011). Since 1978, the economy in China has been reformed, so has the liberal trade policies being adopted (Zhang 2009). China has been prompted to attract inward foreign direct investment in order to accelerate the development of its economy (Lars & Pervez 2011). There are also other advantages China possesses that attract the foreign investors, such as the huge domestic market as well as the overwhelming growth rate (Kang, Tan & Xin 2008). In terms of the main inward foreign direct investment sectors in China, manufacturing, construction and resources accounts for more than 60% of China’s foreign invested capital (Sinclair 2010). The main reasons why foreign investors choose China is because of its low labor costs, Chinese spending power and many overseas Chinese investing back to China (Sinclair 2010). Wei and Liu (2001) also stress the significance on the overseas Chinese investors as they state people from Hong Kong have contributed extensively in China’s inward foreign investment even though there are more than 100 countries are also investing in China. In 1994, it is calculated that nearly 80 percent of the inward foreign direct investment are undertaken by entrepreneurs from Hong Kong and Macao (Luo 1998).

In addition, it is said by Fung, Iizaka and Tong (2002) that the encouragement for inward foreign direct investment has become one of the most significant economic reform process in China. The inward foreign direct investment can not only help China to lessen the international trade barriers with other countries, but also intensifies the international relationship among these countries (Gaurav & Aamir 2011). Besides, joining into the World Trade Organization has enabled China to be better connected with the rest of the World (Sinclair 2010). In the early days, there were even some negative predictions that because of China’s unification reform, the inward foreign investment in China would not be a good choice (Sinclair 2010).

However, this is not the case, the inflow foreign investment in China was growing rapidly in the middle 1980s and reached its peak in 1990s, even though the numbers were not impressive in 1970s, when the reform was just started (Wei & Liu 2001). Statistics have indicated that contracted inward foreign direct investment in China has risen from US$ 1.5 billion per year in the 1980s to approximately US$ 40 billion per year in 1999 (Fung, Iizaka & Tong 2002). In 1999, there were more than 340,000 foreign invested companies established in China (Wei & Liu 2001). In 2002, China’s percentage of the world foreign direct investment has jumped to more than 8 percent, compared with 2.1% in other Asia countries on average (Buckley, Clegg, Cross & Tan 2006).

It is also reported that the amount of China’s inward foreign direct investment weighs one third of the total developing countries’ inward inflow foreign direct investment, which shows that the inward foreign direct investment in China is indispensable (Fung, Iizaka & Tong 2002). The number of inward foreign direct investment has reached more than US$ 60 billion in 2005 (Yeh & Dyer 2006). From the survey done by the World Prospectus from 2010 to 2012, China is still maintaining its world’s most vital foreign direct investment destination position (Gaurav & Aamir 2011).

Moreover, the inward foreign direct investment in China is generally considered as four stages: from 1979 to 1983 is the "experimental stage"; from 1984 to 1991 is the "gradual development period", during which it was infrastructure focused; from 1992 to 1993 is the "peak period" and at this time, technology was main targeted section; from 1994 until now is the "adjustment period", during which service industry is the core focus (Wei & Liu 2001). In terms of the inward foreign direct investment in China, there are mainly three types: the first one and most dominant one is equity joint ventures; the second one is contractual joint ventures, which were only popular in the early days; the third one and the most promising one is wholly foreign owned enterprises (Wei & Liu 2001).

Inward foreign direct investment and China’s economic development

There tends to be a belief that there is a correlation between China’s inward foreign direct investment and the economic development in China. Gaurav and Aamir (2011) are inclined to agree with this proposition as they state that there are several factors that can stimulate a country’s economic growth, for instance, a great number of investment capital; skilled labor force; advanced technology; favorable policies and so on, all of which can be achieved when China has sufficient inward foreign direct investment. It is also said that inward foreign direct investment can accelerate the economic development by satisfying the investment gap, creating more job opportunities and sharing knowledge through linkages in domestic countries (CHINA: Record FDI inflows offer a glimpse of future 2002).

Evidence can also be drawn from the fact that the share of entire fixed assets cost annually in China has increased from 3.8% in the year 1981 to 12% in 1996 (Fung, Iizaka & Tong 2002). However, in 1997, which is the year that Asian financial crisis happened, the amount of the inward foreign direct investment has fallen and interestingly, the share of the fixed assets cost in China has dropped to 8% (Fung, Iizaka & Tong 2002). It is stated by Cheung and Lin (2003) that obtaining advanced techniques from foreign countries and then use that to improve its own countries’ competencies is the aim for every country to attract foreign direct investment. As a consequence, it is not difficult to understand that why some researchers are holding the belief that in China, inward foreign capital is impacting China’s economic development positively, especially during the reform period (Howe 2001).

There are many positive impacts that have been listed by researchers. It is stated that inward foreign direct investment is able to help to solve China’s capital shortage problem and inward foreign direct investment can also benefit China in terms of the technologies invested (Fung, Iizaka & Tong 2002). Moreover, the inward foreign direct investment in China has added up to the GPD because of its positive effect on the total productivity (Thip 2012). It is said by Wei and Liu (2001) that the inward foreign investment in China can increase domestic income by promoting the elements for production. It is also predicted that the total number of exports in China has also been increased due to the inward foreign investment (Wang, Buckley, Clegg & Kafouros 2007).

What’s more, in terms of the job creation impact, China is being considered as an ideal country for foreign direct investment after its more than twenty years of economic reform (Fung, Iizaka & Tong 2002). Nevertheless, the development has never been too smooth. It is also said by Qu, Chen, Li and Xiang (2013) that a plethora of job opportunities have been generated due to the inward foreign direct investment, which can decrease China’s unemployment rate to a large extent. In addition, spillover effect is another impact. Therefore, this spillover effect can also stimulate the local domestic marketers’ innovations regarding to their research and development activities (Cheung & Lin 2003).

Besides, Buckley, Clegg and Wang (2002) also state that the spillover effect is often scaled on the domestic productivity that is influenced by the foreign multinational enterprises and it is much more than just imitate. Furthermore, it is mentioned by Cheung and Lin (2003) that the labor turnovers can also be a channel that domestic firms acquire technology from the skilled staff working in the foreign invested companies. This can be seen through the fact that when a lot of multinational companies are investing in China, this would stimulate the competition among the Chinese market. Chinese entrepreneurs will learn from foreign companies about their advanced skills or management method, and thus, this would improve the ability of the overall Chinese market (Fung, Iizaka & Tong 2002).

Nevertheless, other researchers are holding the opposite opinions. They consider that the impact that inward foreign direct investment has brought to China is negative. It is said that the inward foreign direct investment is substituting for the Chinese domestic savings and the worse consequence would be domestic consumers may turn to the foreign affiliates if they introduce new products with distinctive features (Fung, Iizaka & Tong 2002). There also tends to be more international trade dissensions within the domestic market due to the excessive reliance on the inward foreign direct investment (Chen & Chen 2009). Moreover, the inward foreign direct invest environment will become tough for foreign investors if the current government policies becomes unstable (Sinclair 2010).

In addition, Buckley, Clegg and Wang (2006) argue that the spillover effect that the inward foreign investment has brought to China may diminish as time goes by and also, the impact of the effect only affects certain segments of the industry, rather than the entire one. This can be seen through the fact that China has had an inward foreign direct investment regional disparity with the preference on the coastal cities since the beginning of the "open door" policy in 1970s (Kang, Tan & Xin 2008). As this tendency continues, it is reported that by the year 1991, nearly 90% of the cumulative inward foreign direct investment are based on the Chinese eastern coastal cities, such as Shanghai, Guangdong, Liaoning and Hainan (Kang, Tan & Xin 2008). This would generate problems for in China in the future due to the imbalanced economy growth.