Index > Briefing
Thursday, February 02, 2023
China and Foreign Investment : Policies, Attitudes, Prospects, and Implications
He Jun

Attracting foreign investment has been a crucial policy for China ever since its reform and opening up. In the past four decades, foreign investment has played important role in the country's economic development, bringing a huge input to it in terms of capital, technology, talents, information, intellectual property, management, industrial standards, service standards, industrial system construction, and supply chain construction. It can be said that foreign capital is an important part of China's reform and opening up, as well as of its development.

The Chinese government's policy system advocates attracting foreign capital and supporting the development of foreign capital. To some extent, China's attitude toward foreign investment and actual policy implementation can show the real will of its reform and opening up, being an important strategy for the country to seek development and participate in the global market. In this regard, foreign investment is a crucial part of this strategy for China.

However, in recent years, there have been some subtle changes in the development of foreign investment in China, in its policy toward foreign investment, and in the reality of the development situation of foreign investment in the country. Some of these changes are noteworthy, and others are even worrisome from China’s perspective. It is not an exaggeration to say that China's attitude, policies, and actions toward foreign investment may be related to some extent to the future development and security of the country. Therefore, the changes surrounding foreign investment deserve the attention and consideration of Chinese government departments, policymakers, and market players.

Researchers at ANBOUND believe that the greatest influence and change comes from international geopolitical factors. Such changes in non-market factors and their impact constitute a fundamental hard constraint on foreign investment in China now and in the future.

Counter-globalization and increasing geopolitical frictions have complicated the environment for foreign investment in China. As the U.S. has adjusted its strategy toward China, ranking it as a long-term strategic competitor at the top of the list, it is extremely determined to promote geopolitical frictions against China for this reason, a trend that is certain to become even more permanent. This change has provoked a strong reaction in China. In contrast to Deng Xiaoping-era’s strategy of biding one's time, China has adopted a "philosophy of struggle" to deal with it in various areas such as tariffs, trade, and technology. For example, the U.S. has imposed various sanctions on China in the area of science and technology, and deliberately pushed its allies to "encircle" the country, which has inspired the latter to pursue independent innovation and master core technologies and adjust its development strategy in related fields.

Looking at the public domain, it is clear that independent innovation and national security considerations have been significantly enhanced in China's development strategy and policy system. In some important industries and market areas, the country has become more concerned about technology and security issues from abroad. In response to the deteriorating international environment, China has identified the need to vigorously promote an autonomous innovation strategy. Seeking to master technology on its own, building a more autonomous industrial chain and a more secure supply chain has become a state-driven, autonomous initiative with corporate participation. The U.S. strategy of "containment" in science and technology and the economy, and China's development strategy of independent innovation and strengthening national security, have become two conflicting strategies. This has become a new environment not only for China's relations with the West but also for the development of foreign investment in China.

The second change comes from China's market environment itself. As China's economy develops and its domestic wages increase, labor costs are continuing to rise, as are requirements for environmental protection and energy consumption. These changes have had a dampening effect on labor and cost-sensitive industries and inward investment in high energy consumption and pollution. Taken together, China's advantage as the "world factory" featuring low costs is rapidly diminishing. Coupled with its aging population, its demographic dividend is rapidly diminishing, and many manufacturing foreign investors have encountered cost problems in China's development. In recent years, some foreign investors with high demand for low cost have started to move out of the countries. The first was companies that produce garments, shoes and hats, and toys. Now, those that make middle and high-end electronic products, and the outward industrial links are gradually moving to more high-end industrial chains as well. At the same time, the initiative of some regions in China to promote the industrial shift has intensified the transfer of many "low-end" foreign investments, which has caused considerable damage to China as the long-established "world factory".

The third area of influence comes from some policy changes in China. For example, in terms of tax incentives, with the development of the Chinese market, the policy sector is promoting universal national treatment. In this process, the central government canceled some of the local tax incentives introduced. In this adjustment process, part of the foreign investment is facing a larger impact. In addition, there are also adjustments in the government procurement policy. In quite a few areas, especially in some areas where Chinese products can be substituted, and in some industrial areas with high-security requirements, government procurement will be tilted toward domestic enterprises. Thus, some foreign products and services are "excluded" from government procurement. In these areas, some policies are more obvious, while many are implicit.

The changes faced by foreign investors in China are also reflected in the contradiction that, in policy and government documents, the country has always insisted on opening up to the outside world, welcoming foreign investment, and encouraging foreign investors to develop in China, and the Chinese government has constantly emphasized the need to optimize the business environment. However, in the actual Chinese market and Chinese society, the environment faced by foreign investors has actually been different from the past. This discrepancy between policy documents and the actual environment is one of the major reasons for foreign investors' concern.

Researchers at ANBOUND found that some foreign investors in China now have more concerns than in the past about their future development in the Chinese market, and believe that uncertainty in it is increasing. Some large foreign investors (both manufacturing and financial companies) have started to adjust their strategies. For instance, in terms of the supply chain, many foreign companies have separated their Chinese supply chain from their overseas ones, and their supply chain in China is mostly dedicated to serving the Chinese market. This change is certainly related to counter-globalization and geopolitical frictions, but also to the strict closure controls taken by China after the COVID-19 outbreak in recent years. To a large extent, this is a self-adjustment by foreign investors. Apple, for example, used to produce almost all of its phones in Mainland China, but now, given the geopolitical risks and supply chain risks, they are starting to do a massive production shift to India. This relocation of foreign capital will have a strong demonstration effect and will drive a large number of supporting industries and enterprises outward in the industrial chain.

It is also worth noting that foreign investors in the industrial sector moving out or downsizing their business will also affect the foreign financial enterprises that provide services to them. We learned in our research that some foreign banks stated that their customers served in China are mainly foreign-funded enterprises, and if these foreign-funded enterprises move out, they will also shrink, even following the relocation. This new systemic change should be a matter of great concern for the related authorities.

We believe that the issue of foreign investment in China is now not only a simple market issue, or labor cost issue, as it is mixed with geopolitical and counter-globalization factors. It is also due to the fact that China has adjusted its domestic policies under external pressure, and the environment in which foreign investment is located has become more complex than in the past. With this, the attitude of some foreign investors towards the Chinese market has changed significantly.

In the past, due to the expectation of the Chinese market, when there were some policy restrictions and development bottlenecks, foreign investors would try to seek policy facilitation or permission from Chinese government departments, with the aim of trying to enter the market. Nowadays, when foreign investors encounter similar barriers, some of them decided to bypass such barriers instead. In the layout of the global market, the status and influence of the Chinese market are declining, and the attitude of foreign investors is also changing. For many foreign investors, the Chinese market has become a unique singular market.

On the surface, foreign investors are still "at peace" with the Chinese market, but in the long run, this will have a very negative impact, as it changes the relationship and pattern between China and foreign investors that has been formed over time during the reform and opening up.

We believe that this change is worthy of great attention. Looking at China's relationship with the world in the long term, what is the relationship between the Chinese market and foreign capital in the future? Does China really not need foreign investment? The answer can be found when we look at some developed countries. The United States is the largest and most developed country in the world, and also the country that attracts the most foreign investment. A lot of foreign capital enters the country, bringing it capital, technology, talent, and jobs. In an open market, there is foreign capital coming in and domestic capital going out, hence the market has become rather dynamic.

In the current geopolitical and counter-globalization situation, some of the policies China has adopted in response have reasons of necessity. However, we believe that, as a large country, in the long run, China's policy should seek a long-term stable policy that is in line with its long-term interests, and a stable pattern should be formed in its policy toward foreign investment. Although geopolitical friction is the main theme at the moment, it is not a norm in the long run after all. As a world power, China should seek a stable norm in its policy, which is the right direction to ensure the long-term stability of its economy and a mutually beneficial outcome with the world.

Final analysis conclusion

In the long run, a closed market is not a safe market, and foreign participation will help China and the world to prosper. In the face of the U.S.-driven geopolitical "encirclement" and strategic "containment," China's best strategy is to remain open to the outside world and attract more foreign investment to its domestic market.

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