FOREIGN DIRECT INVESTMENT IN CHINA-Effects on Grow

FOREIGNDIRECTINVESTMENTINCHINA:EffectsonGrowthandEconomicPerformanceEdwardM.GrahamSeniorFellowInstituteforInternationalEconomicsErikaWadaResearchAssociateInstituteforInternationalEconomicsToappearinAchievingHighGrowth:ExperienceofTransitionalEconomiesinEastAsia,PeterDrysdale,editor,OxfordUniversityPress,forthcoming2001.TheauthorswishtothankDr.ChiZhang(StanfordUniversity),Dr.JunMa(Deutschebank),ProfessorLoriKletzer(UniversityofCaliforniaandIIE),andDr.AasimM.Husain(InternationalMonetaryFund)forvaluableinputandcommentsonearlierdraftsofthispaper..2INTRODUCTIONByalmostallaccounts,foreigndirectinvestment(FDI)inChinahasbeenoneofthemajorsuccessstoriesofthepast10years.Startingfromabaseoflessthan$19billionin1990,thestockofFDIinChinarosetoover$300billionattheendof1999.RankedbythestockofinwardFDI,ChinathushasbecometheleaderamongalldevelopingnationsandsecondamongtheAPECnations(onlytheUnitedStatesholdsalargerstockofinwardFDI).1China’sFDIconsistslargelyofgreenfieldinvestment,whileinwardFDIintheUnitedStatesbycontrasthasbeengeneratedmorebytakeoverofexistingenterprisesthanbynewestablishment,apointdevelopedlaterinthispaper.ThemajorityofFDIinChinahasoriginatedfromelsewhereindevelopingAsia(i.e.,notincludingJapan).HongKong,nowalargelyself-governing“specialautonomousregion”ofChinaitself,hasbeenthelargestsourceofrecord.ThedominanceofHongKong,however,issomewhatillusoryinthatmuchFDInominallyfromHongKonginrealityisfromelsewhere.SomeofwhatislistedasHongKong-sourceFDIinChinais,infact,investmentbydomesticChinesethatis“round-tripped”throughHongKong(seefootnote2).OtherFDIinChinalistedasHongKonginoriginisinrealityfromvariouswesternnationsandTaiwanthatisplacedintoChinaviaHongKongintermediaries.Alas,nopublishedrecordsexisttoindicateexactlyhowmuchFDIinChinathatisnominallyfromHongKongisinfactattributabletoothernations.Accordingtoofficialsources,intheperiod1992-96,FDIfromdevelopingAsiannationsdominatedtotalFDIflowsintoChina,butsince1996agrowingportionoftheseflowshascomefromothersources(i.e.,Europe,NorthAmerica,andJapan).ThislatterFDIgenerallyhasbeenofadifferentcharacterthanFDIfromdevelopingAsiannations.Whilethelatterhasbeenconcentratedinexport-processingactivitiesinsectorsinwhichChinahasrevealedcomparativeadvantage,muchoftheformerhasbeendirectedmoretowardthedomesticmarketinsectorsinwhichChinahasnorevealedcomparativeadvantage.ThusoneconsequenceofarisingpercentageofFDIfromJapan,Europe,andNorthAmericahasbeenthatoveralltheactivitiesofforeign-investedenterprises2inChinahavebecomesomewhatmorefocusedonthedomesticmarket,andlessonexportmarkets,inthelate1990srelativetothemid-1990s.Theconsequencesarediscussedinmoredetaillaterinthispaper.1However,someofthestockisknowntobetheresultof“roundtripping”,i.e.,Chinesedomesticsavingsintermediatedasdirectinvestmentinorderfortheinvestmenttoreceiveincentivesavailabletoforeigninvestorsthatarenotavailabletodomesticinvestors.MostofthisinvestmentisrecordedasbeingfromHongKong.Theexactextentofroundtrippingisnotknown,anditisnotdiscussedfurtherinthispaper.2“Foreigninvestedenterprises”isasomewhateuphemistictermusedinChinatodenotelocalaffiliatesofforeign-ownedfirms.ManyoftheselocalaffiliatesarejointventureswithChineseenterprisesand,indeed,until1992almostallforeigndirectinvestmentinChinawasintheformofjointventures.Theterm“foreign-invested”thusseemstohavebeenemployedtoreassureanyonewhomightcarethattheseventureswerereallydomesticfirmswith3Thesechangesnotwithstanding,thereislittledoubtthatFDIhascontributedsignificantlytoChineseeconomicdevelopment:muchandperhapsmostofthegrowthofChina’sexportscanbeattributedtoforeign-investedenterprisesandpercapitaincomegrowthinthoseregionsofChinawhereFDIisconcentratedhasbeensignificantlyhigherthaninotherregions.Specificsofsomeofthemajorempiricalfindingsarediscussedinthefollowingtwosectionsofthispaper.Section2reviewssomefindingspublishedelsewhere,andsection3presentssomeadditionalfindingsbytheauthors.However,thestoryofFDIinChinaisnotquiteasrosyasthesesummarysentencessuggest.Byallaccounts,thepolicyenvironmentforforeigndirectinvestorsinChinaisdifficult,andmuchanecdotalevidencesuggeststhatsomeoftheseinvestorsarebecomingdiscouragedbythisenvironmentwhileotherpotentialinvestorshavebeendeterredbyit.3ThisdiscouragementseemstobeindicatedbythefactthattheflowofFDIdeceleratedinthelate1990s.However,dataforthemostrecentyearsarealmostalwayssubjecttosignificantfuturerevisions,soitisprematuretoreadtoomuchintothe1999oreventhe1998data.Keepingthisinmind,thenumberofinvestmentsin1998declinedrelativeto1997byalargerpercentagethanFDIflow,indicatingthattheaveragesizeoftheindividualinvestmentundertakingrosesomewhat.Thisriseinaveragesizeofinvestmentwasdrivenbythechangingsourceoftheinvestment;JapaneseandwesterndirectinvestorstendtomakelargerinvestmentsthaninvestorsfromdevelopingAsia.Also,itshouldbekeptinmindinvestmentfromdevelopingAsiansourceswasnegativelyaffectedbytheAsianfinancialcrisisof1997-98andthattheimpactofthecrisiswasfeltmostheavilyin1998.AnecdotalevidencesuggeststhatitiswesternandJapanesemultinationalsthataremostdiscour