China as an attractive market for Foreign Direct Investment - Essay Example

China as an attractive market for Foreign Direct Investment China is the fastest growing economy in the world and since 1980s has been consistently experiencing high economic growth rates. With the sheer size of the economy and the expansion of manufacturing base of the country has made it one of the largest and most lucrative markets to enter by the international firms. Initially China offered great advantage in terms of access to low cost labor as well as raw materials and manufacturing facilities. However, due to its domestic economy size and the rising income levels, China also presents itself as one of the largest market for the international firms to enter into. All major international brands including McDonalds, Apple, Next and all other better consumer brands have made their entry into China to tap into the local market. Foreign direct investment in China and the impact it had on the Chinese economy is considered as one of the most important economic success stories of the recent times. By the end of 1999, China was having $300 billion of foreign direct investment in the country which was merely $19 billion a decade ago. This figure has now increased manifolds and China is one of the largest attractors of foreign direct investment in the world. What is also important to note that most of the FDI in China was through the Greenfield projects with the collaboration of the local players in the market?( Chen, & Chen, 2009) Why this has happened and why China becomes an attractive target for FDI will be discussed in this question. Chinese Economy Chinese economy is the second largest economy in the world overcoming Japan as the second largest economy in the world after USA. It is also the fastest growing economy in the world with growth rates of approximately 10% for last three decades. Such consistent economic performance indicates that the Chinese economy has been able to project itself as one of the most important target for foreign direct investment. Over the period of time, China has also remained the top exporter in the world and most of its economic progress has been export led growth with China supplying almost anything to almost every country of the world. The economic rise of China can be attributed to different time periods and since the creation of Public Republic of China, it has set its focus on the achievement of rapid economic growth. During 1950s and 1960s the overall focus of the government was on controlling inflation through tighter budgetary and monetary policy controls. Though China is still a communist country with government controlling most of the resources of the country but it still managed to make a transition to market based economic practices. Though It has the history of nationalizing the banks and other institutions however, it has been continue to attract foreign direct investment in the country.( Foster,2011) There can be different reasons as to why China became the attractive economy for the foreign direct investment. More important reasons are discussed below: Quality of the Government Though China is the leading centrally controlled economy after USSR with government controlling most of the resources however, it is still considered as the market friendly government. It has been argue that despite constraints, China has been able to put in place an effective FDI governance mechanism in the country. The quality of the government, overall policies and the environment presented in China serves as one of the biggest motivating factors for international investors to invest in China. It is also important to understand that greater control of the Chinese government on the management of overall affairs of the economy may be supportive too. Since the government is politically strong therefore foreign direct investment may have become easier. It has also been suggested that the Chines government protected foreign direct investors more than the domestic companies which could also have served as one of the leading causes of why the international firms become attractive to the Chinese market.( Foster, 2011) Since 1970s’s Chinese government has further improved its policies for the foreign direct investments and has made it easier for international firms to formulate the joint ventures with the local firms. Chinese government therefore attempted to create local and international partnerships in order to provide local support to the international organizations. Cheap Labor Force One of the key advantages availed by China since long has been its ability to offer low cost labor. Many global manufacturing firms have relocated their manufacturing facilities to China because of the lower labor cost. China has one of the largest labor forces in the world which is not only relatively young but skilled too. The cheap availability of labor force has made China as the primary target for foreign direct investment because global firms focus more on becomes competitive by reducing and controlling their costs. It has been argued that the labor costs in China are rising and China may lose its primary attractive factors for international investors to invest in the country. In order to meet with this challenge, many Chinese firms have now bought robots to replace the expensive laborers working in various factories. It is also important to note that the low labor cost is also due to the unbalanced economic geography of the country. Most of the industrial activity and economic development process is concentrated in few clusters whereas rest of the country relies on the traditional methods of living. Those living in the unprivileged economic areas however are more mobile in nature and move to the industrial areas to offer their services at relatively lower costs.( Pan, 2012) Much of the initial foreign direct investment in China was for export oriented projects with incoming firms not directly tapping into the local markets. Most of such firms used China as a center for cheap labor and materials therefore focused much of their activities on producing the goods cheaply in China and re-exporting the same to other countries. However, later inflow of FDI in China has been mostly focused upon tapping into its local domestic market.( Hannon & Reddy, 2012)  Large domestic market The overall history of FDI in China suggests that it attracted FDI from two different regions i.e. its neighboring countries and Europe and America. The investment from the neighboring countries of China was mostly for the export led economic activities however, FDI by the European and American companies were primarily targeted at the domestic market of China. Due to sheer size of the market, Western companies focused on entering into those segments where China did not had any comparative advantage. Many international firms such as McDonalds, Prada, Ford Motors as well as other leading brands entered into Chinese market in order to tap the local market. Due to rising income levels and a creation of new affluent society in China, international investors and organizations became interested in taking the opportunity and establish their foothold in the fastest growing economy of the world. Investment flows from International Chinese It is also critical to understand that much of the FDI during 1990s came from the international Chinese living abroad. Chinese government adapted a conscious investment policy and set up specially export processing zones in various parts of the country to facilitate rich Chinese individuals to invest into mainland China. This policy was consciously adapted by the government and this has also served as one of the strong motivating factors for other international investors to look for more opportunities to invest in China as compared to other countries in the region. In this regard, Hong Kong has remained one of the most important sources of FDI in China over the period of time. Since Hong Kong was already a developed economy therefore China too full advantage of this and offered special incentives to the investors from Hong Kong to invest into Chinese businesses. Conclusion There are various reasons as to why China has become a target for FDI during recent decades. One of the key reasons as to why China has been able to attract much of FDI is because of its quality of government. Though China is a communist country however it has been able to make policies which were favorable for the foreign investors. Government made policies which provided protection to the foreign investors over domestic companies besides implementing other policies which were favorable for the international investors. Cheap labor was another main reason which helped China to continue to attract FDI for manufacturing and export oriented projects. Most of the FDI coming for the manufacturing sector has been focused on the export oriented projects with international organizations setting up manufacturing units for the purpose of re-exporting the finished goods. Most of the FDI coming from the neighboring countries of China has been focused on this aspect of the Chinese economy. Most of the European as well as American firms however entered into Chinese market due to its size. The FDI they brought into China was targeted at those areas where China did not have any comparative advantage. FDI also came from international Chinese especially from Hong Kong as Chinese government offered incentives to them. To what extent current economic growth in China is sustainable? China has shown consistent economic progress over the period of time and since last three decades have been experiencing higher level of economic growth. China enjoyed its economic advantage because of low cost labor as well as other facilities and enjoyed its comparative advantage over others. It was because of this reason that more and more international firms have actually entered into the Chinese markets and further stimulated the economic growth of the country.( Marsh, 2011)  The real economic progress of China started to pick up since 1978 when Deng Xiaoping made a strategic shift and started to pursue market oriented economic policies. This shift was a radical shift from the earlier and a series of reforms were undertaken which actually opened China for the rest of the world and thus begun one of the most important era of economic progress in China. Since then China has been able to achieve rapid economic growth and a continue focus of achieving a minimum 8% of the economic growth, China has been on the course to become the largest economy in the world. Some however, argue whether the Chinese economy will actually be able to sustain itself in the future? Will the continuous economic growth rates experienced by the economy will be sustainable in the foreseeable future also or not? This question will discuss the extent to which China’s economic progress is sustainable. China’s Economic Progress China’s economy is the second largest economy in the world having surpassed Japan as the second largest economy after USA. Over the period of last 3 decades Chinese economy has achieved average growth rate of 10% indicating the rapid economic growth achieved by the country during recent times. Over the period of last 30 years, China has completely reshaped itself from a centrally controlled economy to a market based economy which has achieved superior economic results over the period of time.( Lardy, 2012)  China’s economic progress can be attributed to the serious reforms it undertook during late 1970s and continued till 1990s with aggressiveness. These economic reforms actually ensured a pragmatic approach to achieve wider level of socio-economic objectives. The Chinese leadership actually went to recover from the period of Cultural Revolution and attempted to put China on the forefront of the world powers by opening up its economy to the world. It is also important to understand that China’s economic progress is a s systematic in nature with Chinese government focusing on different policy initiatives. The overall economic changes were brought with the help of focusing on small geographic areas and making them economically viable areas. The reforms started with the rural industrialization and a local industry was created which started to contribute towards the overall economic progress of the country. During 1990s, Chinese economy grew by almost 10% however it was also accompanied by higher level of inflation which reached a level of 20% during 1994. The financial crisis of 1990s in different Asian countries only marginally affected China and it only manifested itself in the form of decrease in the foreign direct investment. With various subsequent reforms, China’s economy has achieved rapid economic growth and is now the second largest economy in the world. Will it be sustained? In 2007, Chinese Premier suggested that Chinese economy is no longer sustainable, is unsteady and unbalanced in nature. This declaration by the Head of the State prompted many to really question the ability of Chines economy to sustain itself. More importantly, it raised questions over the ability of the Chines economy to continue to rely on its traditional economic sectors or focus more on diversifying the economic base of the country to make it more sustainable in the future. What is also important to note however is that such consistent and high level of economic growth has been sustained over the period of time. Country has been experiencing higher levels of economic growth, rise in the level of income as well as rapid and waste expansion in different sectors of the economy making China a rapidly evolving nation on the face of earth. One of the key arguments against the assumption that the China’s economic progress may be halted is based upon the argument that labor cost may increase. There is empirical evidence which indicates that there is a consistent increase in the labor costs and China may lose its comparative advantage over other countries. However, despite rising costs, foreign firms are still pouring into the Chinese market with the ambition to produce and manufacture low cost goods and services.( China Voice, 2012)  The current economic growth targets are set at 7.5% which is lower than traditional 8% which Chinese government continued to focus upon. This reduction in the target economic growth of the country may also indicates that China is cooling down and may put a break on its rapid economic progress to sustain itself in the future also. The downward revision in the target rates is also a move towards achieving more balance, coordination and sustainability in the economy of the country. The rest economic recession at the global level has made Chinese government to actually rethink on its strategy to gradually and deliberately speed down the economy in order to avoid the creation of economic bubbles. The previous growth rate of the Chines economy was 7.4% which was down from 7.6% observed in the previous quarter of 2012. These figures suggest that China’s economy may be heading towards a phase where it will not make much of economic progress however may be able to sustain itself for longer.( Walker, 2012)  It is also critical to understand that major international firms such as Apple has entered into Chinese market and are tapping into the local domestic market. Sustainable aggregate demand from within the Chinese economy may also prove as one of the economic stimulant to continue to keep the economy at its current levels of economic growth. It is critical to note that China is still a Communist country with government at the top of the affairs. The recent economic growth in the country is also supported by the credit fuelled investment by the government. Much of the investment at the domestic level has been done in order to continue to stimulate the local economy and improving is overall depth and breadth. Government with relatively higher level of trade surplus can therefore continue to offer same level of economic stimulus required by the economy in order to continue to achieve the sustainable level of economic growth.( Zhu & Lague, 2012)  Government is also spending heavily in terms of healthcare, education, social security as well as low income housing. These efforts are believed to make Chinese consumers to spend more rather than to save. If Chinese government is able to increase the marginal propensity to consume for the ordinary Chinese consumers, the economy may be able to sustain itself. The budgetary allocations on improving healthcare, education as well as social security will actually increase the disposable income of the consumers.( Wong, 2010)  There are two other most important factors which will continue to help the Chinese economy to continue to sustain itself i.e. its maturing level of entrepreneurship as well as the heavy investment into the research and development. These two factors will contribute towards the creation of long term sustainable future for the Chinese economy. The level of investment into the research and development will result into increase in the overall competitiveness of Chinese firms.( Reuters 2012)  This increase in competiveness of the local companies will continue to make them more cost effective for the world and China can continue to progress based upon its existing export led economic growth policies. Conclusion The overall economic progress of China started during 1978 and is continuing till date. This economic progress has been mainly due to conscious efforts taken by Chinese government to make reforms as a part of the governance and improve the competitiveness of the local economy. The economic progress has however slowed down after Chinese economy witnessed almost 10% economic growth rates for almost three decades. Chinese government has focused on achieving a target economic growth rate of 8% however it has not been able to achieve the same during 2012 suggesting that the Chinese economy may not be able to sustain itself for the long. What is however important to note that Chinese government is quite aggressive in terms of fuelling the investment trends within the economy. Focus on the development of social security as well as the education and healthcare will result into improvement of the disposable income for the ordinary Chinese consumers. This will invariably result into higher levels of spending by the Chinese consumers. Further, it is also critical to understand that heavy investment in R&D as well as improving in the learning curve of Chinese businesses will further improve their competitiveness in the future. Chinese economy will be able to sustain its economic progress due to its strong domestic economy. References 1. Chen, Y & Chen, J (2009) The impact of FDI on regional technological capabilities: evidence from China, Journal of Knowledge-based Innovation in China, 1(2), pp.143 – 158 2. China Voice (2012) China's development momentum sustainable - Xinhua | English.news.cn. [online] Available at: http://news.xinhuanet.com/english/china/2012-03/19/c_131476413.htm [Accessed: 18 Dec 2012] 3. Foster, J (2011) Distribution of FDI across China – common policies but differing impacts by region, Journal of Chinese Economic and Foreign Trade Studies, 4(2), pp.125 - 138 4. Hannon, P. And Reddy, S. (2012) China Tops U.S. for Foreign Investment. 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