Since the beginning of the reform and opening-up policy, China has been an attractive destination for global capital. However, in recent years, some foreign investments have started to withdraw from China. In the first eleven months of 2023, the actual use of foreign capital in China decreased by 10% compared to the previous year, marking a rare negative growth in several years. So, is the withdrawal of foreign capital from China a temporary capital flow or a long-term trend? Will the foreign investments that have left China return in the future?
The withdrawal of foreign capital did not start last year; it has been happening in recent years. However, in 2023, the phenomenon of Foreign Direct Investment (FDI) entering negative growth surfaced, attracting greater attention on a broader scale.
The recent wave of foreign capital withdrawal can be divided into two stages. The first stage occurred before the pandemic when the global industrial chain began to shift from China to Southeast Asia, Africa, and other regions. The main reason for this round of foreign capital withdrawal was the rising labor and land costs in China, prompting foreign investments to move to cheaper countries and regions.
The second stage of foreign capital withdrawal occurred after the pandemic and is more related to factors such as geopolitics. After the outbreak of the pandemic in 2020, there was a trend of deglobalization. Due to the disruptions in the supply chain caused by the pandemic, many countries began to rethink the risks of over-concentration in certain countries in the industrial chain, especially China, which was the center of the global supply chain. In the early stages of the pandemic, many countries faced the risk of supply chain disruption. Consequently, many countries started to diversify their industrial chains to avoid putting all their eggs in one basket.
In addition, the cooling of China-US relations and a certain degree of decoupling have had a profound impact on the transfer of foreign investments from China.
In recent years, the United States has implemented the strategy of friend-shoring, prioritizing its orders for allied countries to shift the global industrial chain away from China and reduce dependency on China’s supply chain. The friend-shoring strategy has accelerated the pace of foreign capital relocation from China.
The foreign capital relocation that occurred in China before the pandemic was essentially a reconfiguration of the international industrial chain. It was a natural flow of international capital after China’s advantages in labor costs and other factors diminished. To some extent, this industrial transfer based on different stages of development was not entirely detrimental to the Chinese economy. It even served as a driving force for China’s transition from low-end to high-end industries.
However, after the outbreak of the pandemic, the decoupling of industrial chains driven by geopolitical factors will have a greater impact on the Chinese economy. The tremendous achievements of China’s economic reform and opening-up were not only the result of its own efforts but also heavily relied on integration with the world. If China is isolated to some extent due to geopolitical factors, even partially, it will have a significant impact on the Chinese economy.
Since the reform and opening-up policy, China’s economy has grown rapidly and has now become the world’s second-largest economy. There is a viewpoint that the importance of foreign capital to the Chinese economy has significantly declined, and some even argue that China no longer needs foreign investment as it did in the past.
So, how important is foreign capital to the current Chinese economy?
If we only look at the number of enterprises, the total number of foreign-funded enterprises in China is negligible, almost negligible. However, most of the foreign investments that come to China are the cream of the crop of global companies, and their contribution to the Chinese economy far exceeds the proportion in quantity.
The importance of foreign-funded enterprises to the Chinese economy lies not in quantity but in quality. According to data from the Ministry of Commerce, “Foreign-funded enterprises, accounting for only 2% of the market entities, have driven employment for about 40 million people, accounting for 1/10 of the national urban employment population, and contributed 1/6 of the tax revenue and 2/5 of the import and export.” These sets of data roughly depict the direct contribution of foreign investment to the Chinese economy.
The importance of foreign investment to the Chinese economy is not only reflected in visible areas such as GDP, employment, and tax revenue but also in many hidden meanings, such as the improvement of technological progress and management levels in the Chinese economy. Since the reform and opening-up, China has attracted a large amount of foreign investment, which has not only brought capital but also evident technology spillover effects, bringing advanced production technology, management levels, marketing capabilities, and more to China.
The current Chinese economy actually needs foreign investment more than ever before. Firstly, after surpassing the primary development stage, the Chinese economy now needs further transformation and upgrading to sustain its development. High-level technology and management levels brought by foreign investment still remain the weaknesses of current Chinese enterprises and one of the scarcest resources for China’s economic transformation and upgrading.
Furthermore, due to geopolitical factors and others, the Chinese economy faces significant pressure for decoupling. By attracting high-level foreign investment, especially from well-known multinational companies, China can largely help break the geopolitical blockade. The closer the connection between China and international multinational companies, the more it can alleviate the impact from geopolitical factors. On the contrary, if a large number of international giants withdraw from China, the ties between China and these multinational companies will become more distant, making it easier for geopolitical blockades to occur.
Since last year, China has been issuing a series of policies to encourage foreign investment. In August 2023, the State Council issued the Opinions on Further Optimizing the Foreign Investment Environment and Increasing the Attraction of Foreign Investment, which requires all parties to “elevate political positioning and effectively optimize the foreign investment environment and increase the attraction of foreign investment.”
Based on this Opinion as the top-level design, relevant departments have begun to introduce preferential measures to attract foreign investment.
In October 2023, China announced the comprehensive lifting of restrictions on foreign investment access in the manufacturing sector. In November 2023, the Ministry of Commerce conducted a special cleanup of unreasonable differences in treatment between domestic and foreign-funded enterprises. In November 2023, China announced unilateral visa-free treatment for six countries: France, Germany, Italy, the Netherlands, Spain, and Malaysia. In January of this year, the visa-free scope was further expanded, and unilateral visa-free treatment was extended to Switzerland as well.
In the short term, these measures should have a stabilizing effect on some foreign investments. However, in the longer term, what foreign investment needs is not just technical incentives but also to see China’s courage and sincerity in continuously opening up to the outside world.
Back when China attracted a large influx of foreign investment during the reform and opening-up, it was because foreign capital saw China as a cooperative partner for doing business. Foreign investment has achieved substantial returns through long-term investment in China. China has become the world’s second-largest economy through reform and opening-up. For today’s China, it also needs to show itself as a reliable partner. Only when China demonstrates an unwavering commitment to long-term openness will foreign investment have the confidence and conviction to invest in China for the long term, and then we can once again create a legendary win-win story between China and foreign investment.