FDI in China: Quality over quantity?

There is a significant body of economic literature looking at various aspects of FDI in China. The standard approach is to examine the determinants of FDI using regional or city level data. Papers examine the role of SEZs, environmental regulations, corruption, networks etc.

In the background and all too often ignored by economists is the role of government policy and the governments attitude towards overseas FDI.

This is an important document and one that economists need to digest and comment on when they next come to analyse the FDI data.

This article from China International Business shows how policy is developing.

Quality over Quantity [China International Business]

The National Development and Reform Commission (NDRC) has just completed the final step in a dramatic revision of China’s foreign investment strategy set forth in November 2006 with the adoption of the 11th Five Year Plan. On November 7, the NDRC released a new and substantially revised “Catalog for the Guidance of Foreign Invested Enterprises,” which became effective December 1, 2007 and replaces the former catalog adopted in 2004. It is crucial for potential investors to understand the drastically changed approach to foreign investment in China embodied by the catalog.

The keystone of the new policy is an emphasis on quality, as opposed to a past emphasis on quantity. The catalog divides foreign investment into encouraged, restricted and prohibited investments. The new catalog greatly expands and clarifies encouraged investments, with the goal of focusing investment in those areas and greatly limiting foreign investment falling into other categories.

There are five key policy approaches embodied in the new catalog:

1. Continued encouragement of investment in all advanced technology and modern manufacturing, and discouraged investment in traditional enterprise sectors. Access to the services business is expanded by adding modern logistics and service outsourcing to the encouraged category. Meanwhile, foreign investment is no longer encouraged in industrial sectors in which China has already mastered basic technical skills or in which China already has adequate facilities in place.

2. Encouragement of investment in sustainable resources and environmental protection. Foreign investors are encouraged to support the newly implemented Circular Economy (i.e. sustainable development) and Cleaner Production policies, as well as invest in the area of environmental protection, sustainable resources and anti-pollution. The 2007 catalog greatly expands the list of encouraged investments in this area. On the other hand, foreign investment in high resource-use, high-energy-use and high-pollution enterprises is restricted or prohibited. In addition, foreign investment in mining of certain rare minerals and energy resources (coal) is also restricted or prohibited.

3. Discouragement of investment in export-oriented enterprises. Due to the current and increasing problem of trade imbalance and excessive accumulation of foreign exchange, investment in enterprises solely devoted to export processing will no longer be encouraged. This is a dramatic reversal of the former policy, which strongly encouraged or even required investment in export-oriented enterprises.

4. Encouragement of coordinated development among regions within China. The emphasis in earlier catalogs on development of China’s western regions has been abandoned. The new Catalog places all the regions in the same footing with respect to encouraged investment.

5. Continued stress on protection of the national economy. China continues to take a cautious approach to the opening of investment in areas that involve national security or sensitive areas of the economy, as reflected in the “prohibited” category of the new catalog. The prohibition of foreign investment in various forms of publication, broadcasting and media production will be of particular concern to many investors. In keeping with changes in technology, investment in internet based businesses is added to the category. The traditional prohibition in investment in golf courses, gambling, pornography and armaments is maintained.

The dry and technical nature of the catalog notwithstanding, the new policy is a radical change to China’s stance on foreign investment. Successful foreign investment in China in the future must work in support of China’s attempts to create a development framework that on the one hand remains open to foreign participation and investment, but on the other grows firmer in its intention to direct foreign investment to promote rather than hinder its own vision of the development of China.

H/T: China Law Blog (again - just catching up on a months posts).

Update:

Here is a recent paper that might be of interest. Journal of Comparative Economics is an average journal. Not great but not too bad either.

How does FDI affect China? Evidence from industries and provinces

Jimmy Rana, Jan P. Voona and Guangzhong Li
Lingnan University, Tuen Mun, Hong Kong
Chinese Academy of Finance and Development, Central University of Finance and Economics, Beijing, PR China
Department of Finance and Economics, Baruch College-CUNY, New York, NY 10010, USA
Received 9 August 2005; revised 25 April 2007.

Abstract

Using the latest panel data from 19 industries and 30 provinces in China, we found it is not true that more FDI necessarily brings about more output growth across the board. Local industries without foreign participation lose while those with some participation gain from the inflow. Provinces in western and central regions lose while those in the eastern and coastal regions appear to be the major beneficiaries. While the net effect of FDI is still positive, the regional disparity has been growing. It casts doubt on the rationale of haphazard and lavish policies to compete for FDI in China. Journal of Comparative Economics 35 (4) (2007) 774–799.

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