Outward Flow of FDI from China - Literature review Example

Outward flow of FDI from China Introduction In the recent times, it has been noticed that the financial presence of China has increased in the economy due to the investments made, loans provided and other types of outflows within the economy (Buckley,et al., 2007). However, the increase in Chinese investment in the economy is beneficial for the transfer of technology in the economy. Although, the outward FDI flow of China has created a lot of controversies in the economy yet China has been in an advantageous position (Morck, Yeung and Zhao, 2008). The main aim of this paper is to analyse the various patterns of Chinese outward FDI flow and the major industries having high FDI flow. The research allows the researcher to examine the impacts of Chinese FDI on the developments of Chinese economy. Patterns of outward flow of FDI from China and the main industries associated FDI and trade are linked in multiple ways and the multinational companies invest in other countries in order to expand their business in the economy. There are various models that help the multinational companies in their FDI decisions. The theory of internalization states that exports that are of high costs results in FDI within the economy (Kolstad and Wiig, 2012). There occurs a substitution effect in the economy as the products produced in the foreign market replace exports as well as they are imported back to the economy in order to substitute the product lines in the home market (Ramasamy, Yeung and Laforet, 2012). The relation between the outward foreign direct investment and the exports within the home country depends on three principles that we need to consider. Firstly, the relationship depends on the motives of the investor that whether the company is interested in investing or not. The researcher has considered various cases in this field which includes the substitution as well as complementarities in the economy (Hong and Sun, 2006). According to the first case, international production based on resources in the economy leads to the countries that are based on the resources or on the production of goods (Liu, Buck and Shu, 2005). The second case deals with market based production where the goods are produced in the foreign markets and then they are exchanged within the countries. The final case comprises of the vertical integration of FDI where the components are moved from one country to another for further processing. There is a complementary relationship between trade and international production and there is an expected increase in the import and export of goods and services when the raw materials are used for further processing (Cheung and Qian, 2009). Secondly, the relationship may vary based on the nature of investment. According to the researcher, the vertical integration of FDI may increase the export of inputs from the home country to the host country in the economy. On the contrary, the horizontal FDI reflects the business activities among the countries (Luo, Xue and Han, 2010). However, the horizontal outward FDI has a drawback in the economy as it is directly substituting the final products in the economy and in turn affects the export of intermediate goods from the home country. As a result, the net effect of the horizontal outward FDI would prove to be uncertain. The third principle deals with the different stages of internalisation within firms. During the initial stage there occurs the exchange of intermediate goods within the economy. In the later stages the trade within the countries deals with the comparative advantage of the trading partners (Liu, Wang and Wei, 2001). The countries produce those goods that they are expert in and then the exchange of goods takes place between these countries. However, a researcher argues that if the FDI is in the form of export activities within the low- wage countries for a firm that claims to be vertically integrated. There would be export of sophisticated products within the countries. Further, the export of products within the home countries and the foreign countries is influenced by the technologies that help the foreign competitors in production of goods that influences trade (Buckley, Tan and Xin, 2008). However, there may be a disadvantage when the outward FDI reduces the possibility of concurrent investments within the economies. Hence, the impact of FDI on productivity turns out to be very ambiguous and it may have positive as well as negative impacts on the economy. However, there are positive effects of FDI on the domestic economy as they can improve their productivity by utilising some technology within the economy. Further, the increased competition within the domestic and the foreign firms may stimulate further trade within the economy. The outward investing firms are expected to produce goods at a lower cost and supply them to all the home country firms (Frost, 2004). This would prove to be beneficial to the investing companies as well as the local suppliers from the economies of scale. Outward flow of FDI is considered to be an important vehicle for the transfer of technology as well as the exchange of goods and services within the trading partners (Deng, 2004). Increase in competitiveness within the firms encourages the local firms to challenge the foreign firms within the economy and hence, there is a higher possibility of capturing the market share. The domestic firms can compete with the foreign firms if they use improved technology that would improve the productivity of these countries. Thus, outward FDI acts as a stimulator for the foreign firms to trade with the domestic firms of the economy and often reduces the production within the home country. However, China has emerged as the source for major outward FDI source within the economy and it has a cost advantage in competing with the simple products in the markets comprising of lower income. Nonetheless, the researcher suggests that in order to compete with the foreign countries, China needs knowledge of the foreign technology that would give them better productivity and offer them with competitive advantage (Tolentino, 2010). The MNEs of China have established distribution channels for the exchange of goods and services produced by them with the other countries. The researcher also suggests some information related to the market in which it is competing in order to improve its domestic performance relating to the trade conditions within the trading partners. Main drivers of the Chinese outward FDI Internalisation within the firms acts as the main driver of the Chinese outward FDI. The researcher has also presumed that emerging market economies enjoy some competitive advantage that encourages the Chinese economy to expand their business (Wong and Chan, 2003). The performance of firms within the Chinese economy depends on the availability of the technology and how far the Chinese economy is accustomed to the available technology. The phenomenon of the liberalization and the privatisation has allowed the firms to trade with other countries in the economy (Tuan and Ng, 2003). The institutionalisation within the firms have promoted or acted as a barrier to the technology and has an impact on the capabilities of the firms within the economy. The poor institutional and environmental factors have affected the home country within the Chinese economy. For example, the researcher has analysed the various factors that hinder the growth of Chinese economy like corruption, high tax rates within the economy, lack of protection for the intellectual property rights (Frost, 2004). Another factor that can act as the driver of the Chinese outward FDI flow is that of conducting the research and development within the economy in order to exploit the technological capabilities of the Chinese firms (Tuan and Ng, 2004). However the multinational enterprises from developing economies like China does not have strong technological resources compared to the developed economy. Advertising resources relating to the Chinese economy acts as a determinant to the outward flow of FDI (Kaplinsky and Morris, 2009). Researchers have indicated that the investment in advertising has helped the firms to attain the brand names in the market and increased the customer loyalty and thus the firms could expand their business within the economy (Kaplinsky and Morris, 2009). It also makes the firms to identify the desires of the customers and produce accordingly. The advertising methods help the firms to gain market efficiency within the economy and this would make the firms within the Chinese economy to expand in the foreign markets. Developing economies like China often lack these brand equities which hinders its growth and trade with other countries. However, there are brands within the economy of China which have helped the Chinese economy to develop and gain competitive advantage (Cui and Jiang, 2012). Figure 1: Exports of goods and services (% of GDP) (Source: Tuan and Ng, 2004) The net export in China was around 37.1% which has fallen drastically over the later years. However, if we consider the imports, the result shows some fluctuations within the economy that has been depicted in the following graph and the data has been given in Appendix 1. Figure 2: Imports of goods and services (% of GDP) (Source: Tuan and Ng, 2004) Another firm specific resource that can help in outward flow of FDI comprises of the human resource that deals with the human capital belonging to the firms in the economy. It indicates the experience and skills of the individual managers and the employees within the firm (Tuan and Ng, 2004). Thus, it offers the firm to create a competitive advantage using the human capital that it has by developing human talent that would promote growth of the firms within the Chinese economy. Thus, the Chinese firms with strong human resources are expected to develop their economy and compete with the international markets. Finally, a further ownership-specific advantage of many developing economies has contributed as a driver to the outward FDI. This special advantage deals with that of the cost leadership which specifies that a firm within an industry is expected to gain a competitive advantage over the rival firms by lowering its production cost (Yao, 2006). Since the developing economies like China have access to the low cost technologies, they can maintain their production levels at a very low rate and use the cost leadership strategy to expand their business. The important role is played by the Chinese government in stimulating the outward FDI as it retains some possession in many of the institutionalised firms. Many of the Chinese multinational firms retain in the hands of the Chinese government which are highly state owned firms. The firms owned by the Chinese government are beneficial in many ways as they are capable of getting loans from the banks that are mostly state owned rather than those of the commercial institutions that lend at very high interest rates (Tuan and Ng, 2004). Thus, the firms can carry out their production at a very low cost. Outward FDI in China has increased in the recent years and it acts as the source for FDI in a number of host countries. Compared to China’s 3.3% outward investment in 1996, the share has further increased to around 10% in 2006 (Tuan and Ng, 2004). This indicates that China is the third largest developing country when considered in terms of FDI at present. However, it was seventh in 1996 from where it has undertaken further growth to reach a higher level in the economy. In case if the comparison is made on a global perspective, China becomes 17th largest country in terms of the FDI ranking. The researcher has indicated that the state’s industrial policy leads to the expansion of the firms in the international markets (Pan, 2003). The firms on a whole maintain a good relationship with the government that allows the firms to raise its resources that helps the emerging economies like China for their internationalization. The net imports and exports of goods and services in China have been depicted in Appendix 2 & 3. Lower labour costs acting as a major driver of the outward Chinese FDI Lower labour costs maintained by the firms within the emerging economies like China has contributed as a driver of outward Chinese FDI. It has helped the firms to produce goods and services at low prices. For the developing economies like China, there exists ownership of the government and the firms within the economy are eligible to get loans at low interest rates from the state owned banks. The firms then pay low wages to the labourers and use other low cost techniques to carry out their production. The firms thus claim to keep their costs of goods and services at low levels compared to the rival firms and thus enjoy some monopoly power (Pan, 2003). Further, the firms are expected to develop highly efficient human capital in order to enjoy the competitive advantage in the international markets. Thus, the multinational firms of other developing economies get interested to trade with China. The firms within the Chinese economy invest in the South-East Asian countries in order to make use of the labourers of the foreign economy and the cheap raw materials that helps them to overcome the situation of cost competitiveness. The firms are likely to overcome the resource deficiency within the economy as well as in the international markets. Likewise, they demand labourers that are highly skilled and are ready to work at low wages such that the firms do not have to spend money in training these labourers in order to make them perform well. Cost minimization techniques are highly used by the firms that act as drivers to the outward flow of FDI (Pan, 2003). The firms within the Chinese economy always has the motive to raise their cost-efficiency by transferring their production process to the location with lower input costs as well as lower cost of hiring workers. Through this shifting of the production process, the firms are likely to get the competitive advantage in producing goods at low costs compared to the rival firms in the economy. Overseas investment also helps in securing the supply of natural resources within the economy and also contributes to the promotion of exports that influences domestic investment (Pan, 2003). However, the highly skilled labourers improve the productivity of the firms belonging to the emerging economies like China and contribute to the growth of the economy. The internalization policy of the firms and their performance in the economy depends on the tangible as well as intangible resources within the home country. Intangible resources deal with the research and development capacity of the firms and the brand names that it has set in the market (Frost, 2004). The tangible resources comprises of the human capital within the firm which helps in raising the production levels of the firm. The firms within the economy wish to combine the advantages within the home country with other assets belonging to the foreign countries. The main advantages of the firms lie in labour intensive as well as small scale production within the economy that increases the ability of the firms to get accustomed with the production facilities (Frost, 2004). Since the inputs required for the production by the firms are highly efficient in the developed economies, many emerging economies like China use the labour intensive techniques at low costs that promote the outward flow of FDI in the economy. However, the Chinese manufacturers have started investing in the developed as well as the developing countries in order to conduct the trade in the international markets. China using their low cost labour intensive techniques produces various goods at low costs that they wish to export to the other countries through international trade (Frost, 2004). Hence, the lower labour costs within the Chinese economy encourages the firms to conduct more labour intensive production such that they can sell their products in the international markets at reasonable rates and earn higher profits. However, the labourers hired by the firms must be efficient enough to get accustomed with the new technology as well as have a competitive motive with the rival firms. In case the labourers are skilled enough for the firms to implement new production techniques they need to spend for imparting various skills to the labourers that are necessary to be competitive in the economy. The firms can utilise the labourers at low costs and carry out their production smoothly. However, the case is not the same for the advanced countries as they use high cost technologies that are complex and needs proper training and implementation. Hence, in order to conduct more labour intensive production, the researcher has pointed that there has to be migration of the skilled labourers in order to meet the needs of the skilled labour force. In contrast, this would involve transportation costs as the labourers relocate themselves from the rural areas to the urban areas. Thus, it often becomes difficult for the emerging economies to bear the cost of setting up new labour markets within the economy. However, the strategies used by the firms to deal with the skilled labour force have helped them in their production techniques and has contributed to the economy’s outward flow of FDI. Management of the labour force acts as another important aspect that the emerging economies have to deal with if they are willing to carry out the labour intensive production. Evidence that outward Chinese FDI promotes economic development in China There are various determinants that act as drivers to the outward flow of FDI that in turn promotes economic development within the Chinese economy. For example, the low cost labour intensive techniques act as one of the determinants within Chinese economy that helps the economy in conducting production at low costs (Wong and Chan, 2003). The low costs production techniques in turn helps the Chinese firms to sell their goods at lower prices compared to the rival firms and thus enjoy competitive advantage within the economy. The manufacturers within the economy would like to invest in the foreign markets in order to attract trade relations with other countries in the international markets. Further, the highly skilled human capital would be beneficial for the firms to get accustomed with the competitive nature of the economy. The skilled labour force can offer better service at lower cost. The firms are also expected to use cost efficient technologies that help in production as well as the growth of the economy. The researcher has indicated that the multinational economies play an important role in facilitating trade as well as the growth prospect of the emerging economies (Kaplinsky and Morris, 2009). The multinational companies maintain tight connection with other countries in the international markets in order to promote trade which further contributes to the growth of the economy. Through trade, the goods and services are exchanged within the countries and if the developing countries trade with the developed countries then the emerging economies would have an opportunity to compete with advanced economies. The Chinese government is attracted towards the foreign investment during the open door policy that was carried in the economy (Wong and Chan, 2003). The market within the Chinese economy was facilitated for the technological innovations and the new technologies were utilised for carrying out the production process that in turn leads to trade. The researcher has observed that the impact of FDI in China has penetrated within the economy (Wong and Chan, 2003). However, there occurred a debate regarding whether FDI has successfully led to the development in the economy. After a lot of investigation carried out by the researchers it has been indicated that the FDI has resulted in the technological progress within the economy. Multinational companies adopt various technological innovations within the economy and that has contributed to the growth and development (Wong and Chan, 2003). However, the newly emerging economies find it difficult to afford such high cost technologies that can bring in development. Hence, they prefer to use the low cost labour intensive techniques that would promote growth as well as trade in the economy. The multinational enterprises have contributed to the direct investments on the technological transfers that take place within the economy. These enterprises through their management skills and the research and development procedure along with the natural resources and the human capital have implemented their development strategies within the economy (Wong and Chan, 2003). The enterprises play a key role in the research and development of the new products that are to be launched in the economy. The new product that is launched in the economy can be traded to other countries and thus the emerging economies would be in a competitive position with the international markets. With the innovation of new products, the manufacturers of the developing economies like China can attract the advanced economies to trade with these countries and this in turns leads to development of the emerging economies (Yao, 2006). Figure 3: Foreign direct investment, net outflows (% of GDP) (Source: Yao, 2006) The net outflows of FDI from China have increased initially from 0.9% in 2005 to 1.2% in 2006 and then there was a slight decline in 2007. However, after 2007 there was a considerable rise in the economy till 2013 and the percentage was around 1.8% (Yao, 2006). The researcher has indicated that the direct investment by the multinational enterprises has brought about resources that are beneficial for production that includes management skills and better the research and development capabilities of the firm managers (Yao, 2006). The less developed economies bring about technological progress in the economy in order to facilitate the trade. Further, the multinational economies have strong skills to utilise the new technology and bring about developmental changes within the economy. The managers and the employees who are trained by the multinational enterprises contribute to the development in the economy and they are trained enough to handle the challenges that the economy faces (Yao, 2006). The domestic firms are expected to follow the foreign firms and likewise, incorporate the technologies within the firms. Thus, the firms within the Chinese economy are expected to imitate the firms belonging to the advanced countries and they can incorporate the technologies within the firms and follow the path of development in the economy (Yao, 2006). Conclusion The outward flow of FDI has been influenced by various factors. One of the major factors that play a key role in determining the outward flow of FDI is that of the highly efficient human capital and the low cost labour force. The Chinese economy is emerging as one of the developing economies that have access to low cost labour force that are highly productive. There occurs migration of the workers from the rural to the urban areas and they are skilled enough to get accustomed with new technologies in the economy. Further, the research has been conducted by the researcher to examine various other aspects as to the major patterns of the Chinese FDI outflow and the industries associated. The research also determines the main drivers of the FDI outflow from Chinese economy and how far the outward flow of FDI has helped in the development of the Chinese economy. The Chinese manufacturers try to set up trade relationship with the manufacturers of other developed economies such that they can enter into the competition within the international markets. The manufacturers of China have the motive to produce goods at lower costs and sell them in the international markets to have a competition with the rival firms. They try to main cost efficiency and gain competitive advantage in the international markets. Further, the researcher has also analysed that the multinational enterprises play a key role in bringing technological progress within the emerging economies and henceforth, development in the economy. Reference List Buckley, P. J., Clegg, L. J., Cross, A. R., Liu, X., Voss, H. and Zheng, P., 2007. 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Chinas outward direct investment: expanding worldwide. China: An International Journal, 1(02), pp. 273-301. Yao, S., 2006. On economic growth, FDI and exports in China. Applied Economics, 383, pp. 339-351. Appendices Appendix 1: Country Name 2005 2006 2007 2008 2009 2010 2011 2012 2013 China 0.923 1.221 0.867 1.592 1.601 1.471 1.365 1.451 1.763 (Source: Yao, 2006) Appendix 2: (Source: Yao, 2006) Appendix 3: (Source: Yao, 2006) Read More