Since the economic reform in 1978, China has transformed from a centrally planned economy to a market-based one. China since the beginning of reform experienced rapid social and economic development. China has experienced a sustained growth in the past few years. With rapid expansion of economic growth, more and more people in China are getting out of poverty. China achieved its Millennium Development Goals by 2015. Although China’s economic growth has started to decline since 2012, the growth rate is still higher compared to global standard. Having a population of 1.3 billion, globally China is the second largest economy (www.worldbank.org 2018). China by holding its leading position plays an important role in the world economy. Following fast economic growth, China has created attractive opportunities for investment. Apart from growth, several other factors needs to be taken into consideration for conducting foreign direct investment. The paper aims to analyze feasibility of foreign direct investment in the emerging market of China.
China is considered as one powerful nation in the world. It holds permanent membership in the Security Council of United Nations. The founding and ruling political party of China is Communist party. Despite having a politically stable environment, lack of freedom on political ground becomes one major area of concern. Analysts often question lack of political openness of the country. The stable political environment along with cheap labor and improved infrastructure make China an attractive destination of foreign direct investment (Guthrie 2012). The foreign direct investment in China recorded to be as high as US$139 billion in 2016 making China the third largest destination of FDI in the world.
In country analysis, economic factors affecting environment of the country is the second important aspect. In terms of nominal GDP, China is the second largest economy in the world. When considered in terms of purchasing power basis, it is the largest economy in world. The economic reforms initiated since 1970s contributed to rapid economic progress of the nation. China has made smooth transition from a centrally planned economy to a market economy. The yearly GDP growth in China averaged close to 10 percent. Economic development in China however brought some challenges for the economy. Some of these challenges include higher inequality, rapid urbanization and resulted environment degradation. China needs to overcome these challenges to pursue a sustainable economic growth.
Total population in China accounted to be 1.4 billion. This is one of the most populous nation in world. The massively high population offers a large market of consumers’ product in China. The increase in average wage over the past year resulted in an increase in average consumer spending (Day 2016). Like citizens of most other emerging economies, people in China also prefer to consume goods bearing status symbol like luxury cars, smart phones and designer clothes. The status symbol and increased consumer spending provide great opportunities both for domestic and foreign investors. The country has made rapid progress in eradicating poverty and literacy. In the last five years, the country has successfully lifted 68 million people above the poverty line. Today, China however faces some challenges on social ground. One growing concern in ageing population.
As per March 2018, China possessed the largest online population in world having nearly 772 million users. In China, there are some big technological giant such as Alibaba, Baidu and Tencent. These companies are powerful in China that others failed to spread their business. China sets a target to become a global leader in technology and science. In order to achieve this target, the country has launched a program named ‘mass entrepreneurship and innovation’ in 2015 (Fewsmith 2016). This program attempts to spread entrepreneurship in China. This helps the economy to shift from labor intensive economy to an innovation oriented one. This again opens up opportunities for both domestic and foreign companies in China, especially in sectors focusing on science and technology.
China possesses huge stock of natural mineral resources. China has abundant supply of coal and iron ore and other industrial minerals. China is the worlds’ largest producer gold, aluminum, natural graphite, steel, magnetite, mercury, steel and others. The huge possession natural resources gives China comparative advantage in producing and exporting the mineral resources. China is one large exporter of magnesium in the world. Some of the resources in China remained unexploited due to lack of adequate technology (Li and Liu 2014). The major areas of mineral resource production in china include coal, natural gas, crude petroleum, nickel ore, tungsten, unrefined salt, molybdenum ore and vanadium. Besides natural resources, China enjoy a comparative advantage over other nations in the world market following its cheap labor resources. Thee cheap labor resource in China attract many global manufacturing companies.
Foreign exchange reserve refers to the holding of foreign currencies by a central bank. There are different reasons why central banks hold foreign reserve (www.stlouisfed.org 2018). One important reason for maintaining currency reserve is to manage values of the currencies.
The foreign exchange reserve in China increased by $9 billion to become 3.062 trillion in November 2018. China’s market had expected reserves to decline from $16 billion to $3.037 trillion (Zhou, Yan and Luo 2018). The increase in foreign exchange reserve began since July when Yuan recorded the first gain since July. This happens amid with the trade tension between China and United State. In China, the gold reserves values increased to $72.122 billion in the November end. This was $71.968 billion in the October end. The average foreign exchange reserve in China between 1980 and 2018 is $1000357.20 million (tradingeconomics.com 2018). The foreign exchange reserve reached to the highest level in 2014 with reserve being $39993212.72 million. The exchange reserve was lowest in 1980 with reserve being $2262 million.
Figure 1: Foreign Exchange Reserve in China
(Source: tradingeconomics.com 2018)
China pegs the value of Yuan against dollar. When stock of dollars piles up, central bank of China raises the value of dollar compared to Yuan. This helps to make export of China Cheaper compared to US goods increasing sales (Bernanke, Antonovics and Frank 2015). The inflow of FDI is one important factor affecting foreign exchange reserve and hence, influence flow of physical capital and investment in China.
In 2014, China has turned out to be the largest trading power and receipt of Foreign Direct Investment in world. The resulted improvement in economic growth and performance of trade contributed from well-designed development strategy and institutional reforms initiated since the last thirty-five years (Faber 2014). China’s join and active participation in WTO since 2001 offered a striking moment for the economy’s rule oriented, market based trade and investment policies. As per China’s Foreign Trade Law, the main objective of the nation is to accelerate openness to the world market and develop opportunities for foreign trade. In order to accomplish these objectives, China’s government tend to increase export and value added in manufacturing and import energy, major raw materials, equipment and technology. Government also initiated reforms in customs and port clearance and encouraged use of foreign capital to improve industrial structure and technological capacities (Caporale, Sova and Sova 2015). FDI has been actively encouraged in industries requiring high technology, agriculture, modern service and central and western regions. Government assisted domestic companies to invest outside in terms of offering credits, support in foreign exchange, insurance and strengthening coordination and guidance to the enterprise for investing abroad. China attempts to achieve objectives of its trade policies by adapting multi tracks such as unilateralism, bilateralism, regionalism and multilateralism.
China has gradually lowered the administrative barriers to free trade and liberalized its foreign trade system. The average applied tariff for Most Favored Nation (MFN) has been progressively lowered to 9.8% in 2017 from 15.3% in 2001 (Rozelle 2017). The average tariff rate for agricultural items was 15.6 percent while the same for non-agricultural item was 8.8 percent. From July 2018, the import tariff began to lower on consumer goods that involve 1449 tariff lines. The imposed countervailing duties and anti-dumping duties posed threat to national industries of China. From 2005 onwards, China began to eliminate quota and licensing for major category of import (Li, Qiu and Xue 2016). Under 2018 Catalogue only two categories of goods are subject to import licensing. These include substances that are ozone depleting and some key elements used in mechanical and electric products.
According to world investment report in 2018, China ranked second in terms of FDI receipts. China comes next after United States and before Hong Kong. China’s economy is ranked as second most attractive destination for multinational companies for the period ranging from 2017 to 2019 (Qu and Green 2018). After a steady growth of US economy for several years, there has been a continuous increase in FDI flow between 2016 and 2017. The inflow of foreign capital in China increased to $136 billion in 2017 from $133 billion in 2016. The growth of foreign direct investment in China is supported by liberalized planning, fast development of high tech sectors and establishment of free trade areas. The absorption of foreign direct investment in China is a part of outward looking policy of China and contribute to China’s openness to outside world. This has created a better business environment improving structure and investment distribution (Wang and Wang 2015). The effort made by government to attain a higher geographical spread for investment allowed China to experience an increase in foreign direct investment. As per statement released by China’s ministry of commerce in 2018, there were 35.652 foreign funded companies in China last year. The number increased by 27.8% as compared to numbers in 2016. In the eleven free trade zones, FDI reached to $16 billion in 2017, recording an increase by 18.1 percent compared to previous year. This is much higher than the rate of national average. In 2017, the non-financial outbound of foreign direct investment declined along with curbing of overseas investment. The FDI stocks increased by 10 percent between 2016 and 2017 reaching 1491 billion.
During 2017, the largest investor of China was Hong Kong. The other major investors of China include Singapore, South Korea, the United States, Japan, Germany, Netherland, United Kingdom, Denmark and others. Foreign investment in China are mainly invested in business service, trade, manufacturing, real estate, new technologies and financial intermediation (Long, Yang and Zhang 2015). With employees’ wealth and potential eagerness to learn and evolve, China has now become the basis of low cost of production. Certain factors however might hinder investment in China. These include lack of transparency, low protection, legal uncertainties, corruption, intellectual property rights and different protectionist measures aiming to protect local business.
Conclusion and Recommendation
Several factors attract many companies and investors to invest in China. China today possesses competitive advantages that gives China an additional edge over other rival countries in the international market. China accounted a considerably large share of foreign direct investment among the developing economies. The outward looking policy initiatives continue to increase inflow of foreign direct investment in China. The political, economic, social and technological factors influence FDI flow in China. China is blessed with huge stocks of mineral resources and exports many mineral resources. The continuous flow of FDI increase stock of foreign exchange reserve, which is again supportive to conduct productive investment. The largest internal with a considerably large number of potential customers, importance of foreign currency reserve in the nation, well developed production and manufacturing sector, favorable geographic location, low labor cost and others build a favorable environment for foreign direct investment.
China is therefore an attractive destination for foreign investment. It is therefore recommended for companies to pursue investment in China. However, the company should chose a profitable area of investment. Before, investing in China, investors should also consider the legal environment. There are bureaucratic and administrative complexities that needs to be taken into consideration before investment. Investment should be conducted in such a way that it is beneficial for both investing nation and China.
References
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Faber, B., 2014. Trade integration, market size, and industrialization: evidence from China’s National Trunk Highway System. Review of Economic Studies, 81(3), pp.1046-1070.
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