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Foreign investment

Foreign investment is used as a means of overcoming the shortage of domestic funds and of improving China's management, productivity, and competitiveness so that more may be exported to earn foreign exchange and increase employment. Foreign investment is also used to build China's links with the world economy. Foreign investment is an important instrument of economic change in China (Kueh, 1992). Since the opening up of China in 1978, many types of foreign investment have emerged (Phillips and Yeh, 1990; Khan, 1991):

• Equity joint ventures (EJVs). The foreign and Chinese parties pool money in agreed proportions. They invest in and operate the venture, sharing profits and losses in proportion to their equity stake. This is the form of investment preferred by China.

• Wholly foreign-owned subsidiaries (WFSs). Wholly owned subsidiaries of foreign companies and wholly owned companies can be incorporated in China. The investor will be responsible for capital and input costs, marketing, and management of the venture, which runs for an agreed period. Profits after tax can be remitted overseas.

• Contractual joint ventures (CJVs). The Chinese enterprise provides the land, factory buildings, and labour services for a foreign firm, which provides equipment, capital, and technical expertise. The period of investment is shorter than those for the above methods, usually five to seven years, and the flexibility and short period make CJVs popular with foreign investors.

• Joint explorations. Joint explorations are a form of cooperation seen in the joint exploration for offshore oil. During the two stages of exploration and extraction the Chinese and foreign partners take different levels of risk. For example, in the exploration stage, the financial and other risks lie with the foreign party, whereas in production, both sides contribute to the business.

Fig. 7.2 Regional distribution of exports in China, 1990 (Source: Almanac of China's Foreign Economic Relations and Trade, 1991)

• Compensation trade (product buy-back). The foreign investor receives payment in the form of the goods produced by the enterprise in which an investment is made. This is a form of counter-trade akin to barter, but it may also include payment in the form of other goods bearing no relation to the original venture or equipment supplied. It is popular with the Chinese government as it avoids excessive payments of foreign exchange.

• Other forms of investment and cooperation. A number of other forms of investment exist. For example, leasing has developed since the early 1980s. Intermediate processing of goods has also grown, using materials, equipment, and parts supplied to Chinese firms. This form is particularly important with regard to Hong Kong goods. There are various processing and assembly agreements under which foreign firms supply materials for Chinese enterprises to process or fabricate into finished products according to the foreign investors' designs and specifications.

The variety of forms of investment and cooperation indicates that China is seriously attempting to attract foreign investment and expertise. In the period 1979-1989, foreign capital worth some US$57,624 million was utilized (table 7.2). About 68.2 per cent of this was in the form of foreign loans, while 26.9 per cent was direct foreign investment, and 4.9 per cent other forms of foreign investment such as compensation trade. Loans from foreign commercial banks constituted the major share of foreign loans, with loans from foreign governments coming second. Equity and contractual joint ventures dominated foreign direct investment, constituting 77.9 per cent of total foreign direct investment.

The most popular investment in the period 1979-1990 was in the form of equity joint ventures, followed by contractual joint ventures, with joint exploration projects also of importance. Fully foreign-owned enterprises are relatively unimportant. Compensation trade, while attractive in some ways, has not grown very fast, principally because of the difficulties in reaching agreement on product buy-back and the difficulties in selling some products on the international market where there is strong competition in price and quality.

There is a concentration of foreign loans and foreign direct investment (FDI) from relatively few countries (table 7.3). Japan and the World Bank contributed 57.6 per cent of total foreign loans in 1989, whereas Hong Kong and Macau were the sources of over half of the total FDI. Foreign investments are thus provided largely by Asian investors, financial institutions, and governments. Investments by multinational companies are relatively minor, although more visible in sectors such as offshore oil exploration. Investment from Asia is mainly from Japan and Hong Kong. Japanese investment is mainly in the form of foreign loans whereas investment from Hong Kong is mainly in the form of FDI.

Table 7.2 Utilized foreign capital, 1979-1989

Type of foreign capital

Value (US$m)

Percentage of type

Percentage of total

Foreign loans:
Loans from foreign governments 8,370.7 21.3  
Loans from international financial institutions 6,059.7 15.4  
Buyers' credit 2,940.9 7.5  
Loans from foreign commercial 16,987.9 43.2 banks  
Other 4,962.5 12.6  
Total 39,321.7 100.0 68.2
Foreign investment:
Equity joint ventures 7,310.7 47.2  
Contractual joint ventures 4,754.0 30.7  
Fully foreign-owned enterprises 749.4 4.8  
Joint exploration 2,679.6 17.3  
Total 15,493.7 100.0 26.9
Other foreign investment:
Compensation trade 1,687.3 60.1  
Other 1,121.5 39.9  
Total 2,808.8 100.0 4.9
Total foreign capital 57,624.2   100.0

Source: Almanac of China's Foreign Economic Relations and Trade, 1984-1990.

The location of foreign investment

In addition to the legal and political reforms to ease the way for foreign investment in China since 1978, a number of geographical areas have been designated as focal points in attracting such investment. Although it is too simplistic to identify a few growth areas in a country that is witnessing such widespread development, it is helpful to examine three main types of areas: SEZs, open coastal cities, and other areas designated to attract foreign investment.

Table 7.3 Major foreign investors in China (with total investment of more than US$50 million), 1989

Country/international financial institution Foreign loans Direct foreign investment Total
US$m. % US$m. % US$m. %
Japan 2,595.0 41.3 356.3 10.5 2,951.3 30.5
Hong Kong and Macau 571.1 9.1 2,077.6 61.2 2,648.7 27.4
World Bank 1,026.8 16.3 0.0 0.0 1,026.8 10.6
France 790.1 12.6 4.6 0.1 794.7 8.2
USA 105.7 1.7 284.3 8.4 390.0 4.0
Britain 346.4 5.5 28.5 0.8 374.9 3.9
West Germany 152.8 2.4 81.4 2.4 234.2 2.4
Italy 121.2 1.9 30.3 0.9 151.5 1.6
Sweden 92.4 1.5 3.3 0.1 95.7 1.0
Singapore 2.0 0.0 84.1 2.5 86.1 0.9
Total 5,803.5 92.3 2,950.4 87.0 8,753.9 90.4
Grand total 6,285.7 100.0 3,392.6 100.0 9,678.3 100.0

Source: Almanac of China's Foreign Economic Relations and Trade, 1990.

Special Economic Zones (SEZs)

SEZs were the first areas to be designated to attract foreign investment. Four were initially established in 1979, in Shenzhen, Zhuhai, Xiamen, and Shantou. Hainan Island was added as the fifth SEZ in April 1988. The SEZs represented a major initial attempt to attract foreign capital, investment, enterprise, and technology, which would be located in strictly demarcated "controlled environments." They are similar in some ways to export-processing zones elsewhere in the third world, where an export-oriented industrialization strategy is facilitated by providing legislative and tax concessions, infrastructure, and serviced sites. China's SEZs offer a similar range of financial, legal, and infrastructural inducements to foreign investors, including tax holidays, easy remittance of profits, and prepared sites with services and buildings. They also offer labour savings compared with many other countries in South-East Asia plus, importantly, simplified bureaucratic procedures for investment, customs, and immigration.

China's SEZs are a particular type of export-processing zone (EPZ). The SEZs have the initial objective of manufacturing goods for export to earn foreign exchange but, very importantly, they have been regarded as social and economic laboratories, in which foreign technological and managerial skills might be observed and adopted, albeit selectively. They have had mixed success. For example, they export more of their products into China than overseas. They have sometimes acquired dated, rather than the latest technology. It is also estimated that 40 per cent of foreign investment is not in manufacturing but in tourism or commercial projects.

The SEZs have, nevertheless, grown into important economic entities, somewhat physically and economically cut off from the rest of China. They have developed mixed economies, including vast retail, commercial, and tourist capacity as well as manufacturing.

Open coastal cities

During 1984 and 1985, in spite of some criticisms, the SEZs were being acclaimed by many as examples of what other Chinese cities might achieve. In the spring of 1984, 14 other coastal ports were opened for investment. These "open cities" were to offer similar concessions to the SEZs and, although they are not provided with the same level of central government funding for infrastructure development, Economic and Technological Development Zones (ETDZ) will be established in them to attract foreign investment. However, in June 1985, Deng Xiaoping started to voice misgivings about the SEZs and open cities, and it was announced that foreign investment was to be channelled into four of the biggest coastal cities -Shanghai, Tianjin, Dalian, and Guangzhou - rather than all 14. They would grow in advance of the other 10, which would still be favoured but whose growth, realistically, could not be on a par with that of the four main cities. Despite the official policy, local administrators have continued to promote their cities' "openness."

Other areas favoured for foreign investment

A number of other types of area are also keen to attract foreign investment, with or without special inducements. Some broad areas are being favoured because of their accessibility and other attractiveness to foreign investment. Often, this involves development around an SEZ or a port city in recognition of the spin-offs and enlarged markets offered by such zones. In 1985, three "open" economic regions were designated - the Yangtze Delta Economic Region, the Pearl River Delta Economic Region, and the Minnan Delta Economic Region. These are considered to have relatively advanced economic development and communication systems, and good tertiary education institutions. This opening seems to be an attempt to spread benefits from the SEZs or ports to their surrounding areas.

Some cities such as Guangzhou, Chongqing, Wuhan, Xian, and Dalian have been given the right to cut a considerable amount of bureaucracy in getting their economic plans approved directly by the State Council. This means faster and surer approval of schemes and indicates greater commitment on the part of local officials to economic development and trade.

Other zones were designated for foreign investment. Some of these zones are based on natural resources, others on the existing volume of industry and economic activity. Examples of these are the North China Energy Zone and the Huaihai Economic Region (Phillips and Yeh, 1990).

The regional development strategy of China is to develop the coastal provinces first and then to develop the interior provinces. With the success of the SEZs and the coastal open cities, development is now towards the river ports along major rivers, such as Wuhan. Special development areas are also designated at the border, for example the Tumenjiang development supported by the United Nations Development Programme (UNDP) at the border of China, North Korea, and Russia.

Although foreigners can now invest in most provinces, the designation of the SEZs, open coastal cities, and open economic regions has indicated the priority attached by the government to attracting foreign investment to these areas rather than elsewhere. The reasons seem obvious: agglomeration economies may develop; socio-political control of foreign involvement may be easier; and these areas have better infrastructure and links with the outside world, and ties with Hong Kong and overseas Chinese in South-East Asia. As mentioned above, most of the foreign capital has so far come from Asia, particularly from Japan and Hong Kong.

Spatially, investments are very unevenly distributed. They are highly concentrated in the coastal provinces, particularly around large cities such as Beijing, Shanghai, and Guangzhou, and in the SEZs of Shenzhen and Xiamen (fig. 7.3). The growth of foreign direct investment is also mainly in the Eastern Coastal regions (fig. 7.4).1 Although there are indications of a gradual diffusion of foreign investment into the interior provinces, the impact of foreign investment on most interior provinces to date has been small.

Fig. 7.3 Regional distribution of foreign direct investment in China, 1988-1991 (Source: China Statistical Yearbook, 1989, 1990, 1991, and 1992)

Fig. 7.4 Growth in foreign direct investment in China, 1988-1991 (Source: China Statistical Yearbook, 1989, 1990, 1991, and 1992)

Capital from firms in Hong Kong and Macau is concentrated in the SEZs and nearby Guangdong and Fujian provinces. This is largely related to geographical proximity and ethnic ties, which seem to play an important role in the locational decisions of foreign investors. Most of the investment by South-East Asian investors (mainly overseas Chinese) is in Guangdong and Fujian provinces, and those involved seem particularly interested in investing in the districts from which they or their families originated. Their investments are particularly important in the SEZs and small towns in Guangdong and Fujian, especially the Pearl River Delta. By contrast, 50 per cent of North American and European investments are located in large cities such as Beijing, Tianjin, and Shanghai, where better urban and industrial facilities exist.

The sources of exports are also therefore highly concentrated in the coastal regions and particularly the main urban centres, where the level of industrialization is already high. Such regions and towns have greater exposure to the West, and have more job opportunities in foreign joint enterprises, which pay higher salaries than Chinese employers. Migration controls have become less stringent in recent years, but people in the interior still cannot easily move to the coastal provinces to enjoy such benefits. This will tend to increase regional disparities between the coastal and interior provinces. In addition, continued urbanization and growth of large coastal cities will inevitably occur, fuelling the cumulative process of development of the eastern seaboard.

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