Feasibility of Foreign Direct Investment in China

This paper analyzes the feasibility of foreign direct investment in China, considering political, economic, social, and technological factors. It explores the potential investment opportunities in China and discusses the country's political stability, economic growth, social and cultural factors, technological advancements, national resources, trade policies, and existing level of foreign direct investment.

Running head: INTERNATIONAL BUSINESS ACROSS BORDER
International Business across Border
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Executive Summary
Foreign Direct Investment refers to investment conducted by an individual or firm of one
country with business interest situated in another country. In developing countries running
with capital shortage FDI plays an important role in supplying capital. It is thus beneficial for
both investors and the investing nation. Before investing in a country, investors need to
analyze the internal environment of the destination country. The paper performs a country
analysis for China to evaluate the investment potential. Political, economic and social factors
are considered to portrait the internal economic environment. Other areas discussed in this
connection include national resource and competitive advantage of China, its foreign
currency reserves, policies of trade and exiting level of foreign investment in the nation.

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Table of Contents
Introduction................................................................................................................................3
Political, Economic and Socio Cultural and Technological influence in China........................3
Political..................................................................................................................................3
Economic................................................................................................................................4
Social and cultural..................................................................................................................4
Technological.........................................................................................................................4
National Resource and Factor endowment creating comparative advantage.............................5
Foreign currency and exchange influence..................................................................................5
Trade policies in China..............................................................................................................7
Existing level of foreign direct investment................................................................................8
Conclusion and Recommendation..............................................................................................9
Reference list............................................................................................................................11

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Introduction
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.
Political, Economic and Socio Cultural and Technological influence in China
Political
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.

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Economic
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.
Social and cultural
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.
Technological

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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.
National Resource and Factor endowment creating comparative advantage
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 currency and exchange influence
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

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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

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2015). The inflow of FDI is one important factor affecting foreign exchange reserve and
hence, influence flow of physical capital and investment in China.

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Trade policies 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

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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.
Existing level of foreign direct investment
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.

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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

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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.

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Reference list
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