Foreign direct investment (FDI) into China has picked up markedly in this post-pandemic environment. It has even surpassed foreign investment into the United States, and the American media has made much of that fact.
Because most media coverage has used this information to continue its silly practice of turning everything about economics—about everything—into something resembling an athletic competition, the reporting generally has missed the important insights that these recent figures offer about the nature of China’s economy and its future—that the economy has developed enough so that China can no longer rely on long on export-driven growth and that its rate of expansion will slow.
Last year’s pandemic understandably retarded investment the world over. In China’s case, the FDI impact was delayed considerably. Largely because these sorts of investment decisions are made well in advance, much of the money that flowed in 2020 was allocated in 2019, if not earlier. As a consequence, after a sharp interruption in the worst of the pandemic in the spring of last year, the second half of 2020 saw a remarkable catchup with what had been previously allocated.
Monthly FDI flows increased by nearly 90 percent between June and December 2020. But then, because the difficult year 2020 experienced a lot of delayed or canceled investment decisions, FDI plunged in the opening months of this year. The monthly flow for January was beneath the lows of the previous July. Businesses around the world seem to have rethought things quickly, however, as FDI flows picked up rapidly as the year progressed. This past June, the most recent month for which data are available, monthly flows had all but recovered the highs of late 2020.
More interesting than these aggregate figures is the question of where the money has come from. U.S. sources are way down, constituting a mere 2 percent of total inflows in the most recent available data. Investments originating in Japan are a bit higher than the American share at slightly less than 3 percent of the total, but those, too, are down from previous levels. Europe has a larger share, with the UK and Germany alone exceeding flows from the United States and Japan combined.
Clearly, concerns about supply chains are operating more on U.S. and Japanese decision-makers. For the United States, there’s also the legacy of the 2019 “trade war” between the Trump White House and China. It prompted many Chinese producers to sidestep the tariffs by setting up production in third countries, primarily elsewhere in Asia, and their American associates have redirected their dollars accordingly.
Still, more insight emerges from the types of investments foreigners are making in China. Not too long ago, manufacturing took the dominant share of all FDI into China. In a more recent tally, it dropped to just a touch more than 30 percent of the total; still a big portion but not what it once was. In contrast, services, retail, real estate, and the like took almost 60 percent of recent FDI inflows. It would seem that foreigners have shifted from sourcing production in China, with the aim of importing the output back for sale in their domestic markets, and they’re instead now investing to get a piece of China’s large and growing domestic market.
To some extent, this shift fits with Beijing’s goal of making the economy less export-dependent, though, in another way, it must frustrate Beijing’s decision to acquire Western technology by providing incentives for foreign firms to invest in artificial intelligence and sophisticated technologies.
The shift in the emphasis of FDI stands to reason. China has developed enough so that it no longer presents the cheapest place to source production. Costs in China remain lower than in the United States, Western Europe, or Japan, but they’ve lost advantages against other poorer countries. A wage comparison to Mexico and Vietnam can make that point well enough.
Between 2016 and 2020, the average wage for a manufacturing worker in China has increased 7 percent per year, far faster than Mexico’s less than 6 percent per year or Vietnam’s barely more than 5 percent per year. So, Chinese labor now costs 35 percent more than its Mexican equivalent and 120 percent more than its Vietnamese equivalent. Even if the average Chinese worker has more to offer by way of education and training, the comparison makes the decision on locating simple manufacturing an easy one.
At the same time, that better wage in China gives its domestic economy more buying power, and on that foreign investment has begun to aim.
The picture emerging in China is hardly peculiar to that country. It reflects a classic pattern of growth and development. Initially, a poor country, such as China was, grows rapidly as a source for richer countries. Foreign investment pours into that country’s export industries. Indeed, that investment builds those industries. The investments and the demands from far richer regions of the world propel rapid growth such as China has enjoyed for decades. Thus, in the 1990s and the opening decade of this century, FDI amounted to fully 4.5 to 5 percent of China’s entire gross domestic product (GDP).
As that country develops, however, it becomes less attractive for this kind of sourcing, as China has. Investments flow to take advantage of its now richer domestic markets. But the flow becomes less significant. China, in more recent years, has already seen FDI running at barely more than 1 percent of GDP. And overall growth becomes less rapid because the country in question, China, ceases to be propelled by buying from regions that no longer are that much richer. That’s the outlook for China now. It has slowed the country’s pace of growth, and the nature and relative size of FDI all paint this classic economic picture.
