Foreign Direct Investment in China

Report for Congress
Foreign Direct Investment in China
February 14, 2003
Dick K. Nanto
Specialist in Industry and Trade
Radha Sinha
Research Associate
Foreign Affairs, Defense, and Trade Division

Congressional Research Service ˜ The Library of Congress

Foreign Direct Investment in China
Summary
This report provides an overview of global Foreign Direct Investment in the
People’s Republic of China, examines its effects on the Chinese economy, surveys
U.S. FDI in China, and includes a discussion of policy implications for the United
States. China, by far, is the largest recipient of FDI among emerging economies with
an inflow of $52.7 billion in 2002 and 424,196 foreign-affiliated firms operating in
China representing paid-in foreign investment of $448.0 billion. These firms account
for about half of China’s exports and imports. Nearly 1,500 U.S. companies from 41
states have direct investments of $10 to $34 billion in China.
For the U.S. Congress, foreign direct investment in China entails both oversight
and regulatory issues. Some questions with respect to this investment are: (1) the
extent to which FDI is contributing to China’s economic growth and technology
development, (2) the extent to which U.S. FDI in China is contributing to the U.S.
trade deficit, (3) whether FDI inflows into China come at the expense of flows into
other countries, (4) how FDI is affecting security concerns, and (5) whether FDI
affects the export of sensitive technology to China.
Foreign direct investment has contributed about 13 % to China’s economic
growth, and most of China’s modern technology, particularly in electronics, has been
imported. With respect to trade, there is little doubt that the large surplus in China’s
trade has been generated largely by the surge in its exports of foreign brand-name
manufactures often made in foreign-affiliated factories. As much as 80 to 90% of
certain high technology exports originate from foreign affiliated firms there. In terms
of the U.S. trade deficit with China, American companies there do export some of
their output back to the American market, but most is sold in China. China has been
attracting some FDI flows that otherwise could have gone to other developing
countries. In essence, China’s gain may be their loss.
In terms of security, the $20 to $34 billion in U.S. FDI in China combined with
$68 billion from Taiwan, and some $300 billion from elsewhere is changing the
calculus for hostilities and creating groups with a strong interest in stability both
within China and between China and the United States, Taiwan, and other potential
adversaries. Foreign direct investment in China affects security primarily through
three avenues: its contribution to economic power, economic interests, and
technology transfers. The more China grows, the more funds it is able to provide to
its military and attain big-power status in the world. With respect to economic
interests, foreign companies in China can serve both as hostages for Beijing and
important pressure groups that can pursue their interests in maintaining stability with
both Beijing and their home governments. With respect to sensitive technologies, in
the U.S. case, it does not appear that prohibited U.S. technologies have been
transferred through foreign affiliated companies, although the technologies in the
electronics and aviation industries that have been transferred do have dual civilian
and military uses. Such transfers are controlled by export control regimes. The
highly publicized cases of satellite technology being allegedly illegally transferred
to China involved direct transfers from U.S. corporations to Chinese companies.
This report will be updated as circumstances warrant.

Contents
Background ......................................................3
Sources of FDI Inflow into China.....................................5
FDI by Enterprise Type.........................................7
FDI Utilization by Sector........................................8
Geographical Distribution of FDI Into China........................9
U.S. Direct Investment In China.....................................11
U.S. FDI Position by Industrial Sector.............................15
Effects of U.S. FDI in China on U.S. Trade........................16
U.S. Multinationals and Chinese Labor............................18
Effects of Foreign Direct Investment on China’s Domestic Economy........19
Security Concerns................................................21
Background ......................................................3
Sources of FDI Inflow into China.....................................5
FDI by Enterprise Type.........................................6
FDI Utilization by Sector........................................8
Geographical Distribution of FDI Into China........................9
U.S. Direct Investment In China.....................................10
U. S. FDI Position by Industrial Sector............................14
Effects of U.S. FDI in China on U.S. Trade........................15
U.S. Multinationals and Chinese Labor............................17
Effects of Foreign Direct Investment on China’s Domestic Economy........18
Security Concerns................................................20
List of Figures
Figure 1. Foreign Direct Investment in China, 1985-2002..................5
Figure 2. Sources of Foreign Direct Investment in China, 2001
($Billion and Percent)..........................................6
Figure 3. Headquarters Offices by State of U.S. Companies
in China 2002................................................14

Table 1. Foreign Direct Investment in China by Type
1979-2002 ...................................................7
Table 2. Foreign Direct Investment into China by Sector, 2001..............8
Table 3. Geographical Distribution of Foreign Direct Investment in China,
1980s and 1990s...............................................9
Table 4. U.S. Direct Investment in China, 1990-2001....................11
Table 5. U.S. Company Goals in China, 2002...........................15
Table 6. Sales of Majority Owned Affiliates of U.S. Corporations in
China by Industry, 1998........................................17
Table 7. China’s Export Structure, 1985-2000..........................20
Table 8. U.S. Dependence on China for Certain
Defense-related Products, 2001..................................24
Appendix A. Foreign Direct Investment Inflows by Recipient Region and
Economy, 1990-2001..........................................27
Appendix B. China’s Competitiveness in World Trade as Indicated by
Market Shares, 1985-2000......................................28
Appendix C. U.S. Foreign Direct Investment Position
in China by Industry, 2001......................................29
Appendix D. U.S. And Total Foreign Direct Investment in China, 1990-2001.30

Foreign Direct Investment in China
As the People’s Republic of China (PRC) has opened its markets and sought to
modernize its economy, it has relied partly on foreign direct investment (FDI) –¹
investments by foreign entities in affiliated companies. China, by far, is the largest
recipient of FDI among emerging economies with $52.7 billion in FDI flowing into
the country in 2002 (according to Chinese data). China, moreover, is expecting FDI
inflows to double over the second half of the decade.² As of December 2002, there
were 424,196 foreign-affiliated firms operating in China (34,171 approved in 2002)
representing paid-in foreign investment of $448.0 billion out of a contracted amount³
of $828.1 billion. They account for about half of China’s exports and imports. U.S.
companies have direct investments of $10 to $34 billion in China with nearly 1,500⁴
firms whose headquarters are located in 41 different American states.
For the U.S. Congress, foreign direct investment in China entails both oversight
and regulatory issues. Some questions with respect to this investment are: (1) the
extent to which FDI is contributing to China’s economic growth and technology
development, (2) the extent to which U.S. FDI in China is contributing to the U.S.
trade deficit, (3) whether FDI inflows into China come at the expense of flows into
other countries, (4) how FDI is affecting security concerns, and (5) whether FDI
affects the export of sensitive technology to China.
FDI has both direct and indirect effects on China’s economic growth. The
indirect effects cannot be quantified, but they include demonstration effects (copying
of processes, technology, and products by local businesses) and the easing of
restrictions in various areas as Beijing gains experience in dealing with foreign
businesses. As for direct effects, it has been estimated that foreign investment has
contributed about 13%⁵ to China’s economic growth, and most of China’s modern
technology, particularly in electronics, has been imported.

¹ Foreign direct investment in defined as investment in another country in which the investor
exercises considerable control (with a minimum of 10% of the capital) over the enterprise.
FDI includes reinvested earnings by an existing foreign affiliated firm.
² Goh, Sui Noi. China Expects to Draw $174b of Foreign Investment a Year. The Straits
Times (Singapore), January 3, 2003.
³ China. Ministry of Foreign Trade and Economic Cooperation. Statistics About Utilization
of Foreign Investment in 2002 (1-12) in China.
⁴ China. Ministry of Foreign Trade and Economic Cooperation. U.S. Bureau of Economic
Analysis. Caravel, Inc. American Business in China, 2002-2003. Torrance, CA, Caravel,
Inc. 2002.
⁵ Shan, Jordan. A VAR Approach to the Economics of FDI in China, Applied Economics,
Vol. 34, No. 7, May 10, 2002, p. 885ff.

With respect to trade, there is little doubt that the large surplus in China’s trade
has been generated by the surge in its exports of foreign brand-name manufactures
often made in foreign-affiliated factories. As much as 80 to 90% of China’s high
technology exports originate from foreign affiliated firms there. In the early period
of liberalization, some foreign factories were allowed in the Chinese market only if
they exported their output. In terms of the U.S. trade deficit with China, American
companies there do export some of their output back to the American market. Most,
however, is sold in China. In 1998, of the $20 billion in total sales by U.S. majority-
owned affiliates in China, 14% went to the United States, 69% was sold in China,
and 17% went to other markets.⁶ U.S. merchandise imports from and exports to
majority-owned affiliates of American companies in China has been roughly in
balance.
Other countries, both in Asia and elsewhere, have pointed out that China has
been attracting FDI flows that otherwise could have come to their countries. In
essence, these economies view China’s gain as their loss. Such concerns have been
raised in Singapore, Indonesia, Malaysia, Taiwan, South Korea, and Japan.⁷ There
is no doubt that China has attracted a rising share of world capital. In 2002, China
received over 85% of net direct investment in the Asia/Pacific region⁸ and has
accounted for 20% of total FDI in developing economies. Some investment in China
could have been diverted from domestic investment in Japan, Taiwan, and South
Korea. Much of this investment, however, probably would have gone overseas
anyway because of competitive pressures and rising labor costs and limited market
expansion at home. Countries, such as Malaysia and Indonesia, however, may have
lost somewhat in the bidding war to attract foreign investment. The aftermath of the
Asian financial crisis and domestic political instability in Indonesia, however, also
have played a strong role.
In terms of security, the $10 to $34 billion in U.S. FDI in China combined with
$68 billion from Taiwan, and some $300 billion from elsewhere is changing the
likelihood that hostilities with China will erupt and creating groups with a strong
interest in stability both within China and between China and the United States,
Taiwan, and other potential adversaries. Foreign direct investment in China affects
security primarily through three avenues: its contribution to economic growth,
technology transfers, and economic interests. The more China grows, the more funds
it is able to provide to its military and attain big-power status in the world. In March
2002, China announced a 17.6% or $3 billion increase in spending, bringing the
publicly reported total to $20 billion. According to the U.S. Department of Defense,
China’s total military spending is closer to $65 billion, and annual spending could

⁶ U.S. Bureau of Economic Analysis. Operations of U.S. Multinational Companies.
Preliminary Results from the 1999 Benchmark Survey. Survey of Current Business, March

2002, and supplementary tables.

⁷ See, for example: Goh, Sui Noi. China Gobbles up $87b in Investments. The Straits
Times (Singapore), December 28, 2002.
⁸ Institute of International Finance. Capital Flows to Emerging Market Economies. January

16, 2003. P. 1, 9.

increase in real terms over three- to four-fold by 2020.⁹ FDI, however, contributes
only indirectly to this military modernization. With respect to economic interests,
foreign companies in China may serve both as hostages for Beijing and important
pressure groups that can pursue their interests in maintaining stability with both
Beijing and their home governments.
With respect to sensitive technologies, in the U.S. case, it does not appear that
prohibited U.S. technologies have been transferred through foreign affiliated
companies, although the technologies in the electronics and aviation industries that
have been transferred do have dual civilian and military uses. Such transfers are
controlled by export control regimes. The highly publicized cases of satellite
technology being allegedly illegally transferred to China involved direct transfers
from U.S. corporations to Chinese companies.¹⁰
Background
China, as any other developing country, has needed foreign technology for its
economic development. For the first two post-revolution decades, China remained
suspicious of foreign capital and hoped that by importing foreign capital goods and
using reverse engineering it could meet its technological needs. Such a policy had
limited success even after the opening of China following President Nixon’s visit to
Beijing in 1972 and the gradual of normalization relations with the United States and
other nations. Between 1972 and 1978, China imported equipment and a number of
new plants from the industrialized West but found only limited success in developing
indigenous technology through the reverse engineering route. Under Deng
Xiaoping’s economic reforms, attitudes toward foreign capital began to change.
During the first stage (1979-83), foreign investment was restricted to four Special
Economic Zones (Shenzhen, Zhuhai, and Shantou in Guangdong Province and
Xiamen in Fujian Province). In spite of the incentives provided, the inflow of FDI
remained low – an average of only $360 million annually over the five-year period.
During the second stage (1984-91), Hainan Island and fourteen coastal cities in ten
provinces were opened to foreign capital.¹¹
In 1990, the government eliminated time restrictions on the establishment of
joint ventures, provided some assurances against nationalization, and allowed foreign
partners to become chairs of joint venture boards. In 1991, China granted more
preferential tax treatment for wholly foreign-owned businesses and contractual
ventures and also for foreign companies that invested in selected economic zones or
in projects encouraged by the state (such as energy, communications, and

⁹ U.S. Department of Defense. Annual Report on The Military Power of the People’s
Republic of China. July 2002.
¹⁰ For details, see: CRS Report 98-485, China: Possible Missile Technology Transfers from
U.S. Satellite Export Policy – Actions and Chronology, by Shirley A. Kan.
¹¹ Organization for Economic Cooperation and Development, Main Determinants and
Impacts of Foreign Direct Investment on China’s Economy, Working Papers on
International Investment, No. 2000/4, December 2000, p. 4, 11.

transportation). In 2000 and 2001, China revised significantly its laws on foreign-
owned enterprises and joint ventures. It eased export performance and domestic
content requirements, attempted to make the legal framework more transparent, and
ensured that foreign-investment-related enterprises would not be nationalized except
under special circumstances. China’s entry into the World Trade Organization in
December 2001 also stimulated FDI flows into the country.
Financial incentives also are used by the central and regional governments to
attract foreign investment. These include reductions in or exemption from central
and local taxes and lowering of import duties on foreign-made equipment and
construction materials.¹² In its designated priority areas, the government also gives
preferential treatment to foreign investors. Currently such areas include agriculture,
resource development, infrastructure, and export-oriented and high technology
industries.¹³ On the negative side, widespread corruption and bureaucratic hurdles
continue to deter foreign investment, but the government is trying to remedy the
situation by imposing harsh punishments on corrupt officials who are caught.
General aspects of China’s market also have added to the attraction for foreign
investment. With its 1.28 billion people and rapidly rising incomes and purchasing
power, China presents a huge potential market. Per capita incomes around Shanghai
and in Guangdong province already have reached an estimated US$5,000. China also
possesses a comparatively well-developed social infrastructure, including a
compulsory nine-year education system that has helped provide a supply of
reasonably literate workers with some technical competence. Labor is abundant,
wages low, strikes uncommon, and discipline problems are rare. The eastern and
coastal regions of China, moreover, include sufficient transport and communications
facilities for foreign investors to export goods or distribute them within China.
In its 2002 FDI Confidence Index survey of top corporate decision-makers, A.T.
Kearney (a business consulting firm) found that “confidence in China is booming.”
For the first time since the survey began, in 2002 China surpassed the United States
to become the destination most likely to attract investment. More than any other
country, investors held a more positive outlook toward China, with 46% more
optimistic about the Chinese market then than in the previous year. They are also
expected to commit more first-time investments to China than to any other country.¹⁴
The surge in FDI into China coincided with a similar trends worldwide. The
second half of 1990s saw an unprecedented increase in the world outflow of foreign
capital – a more than six-fold increase from an annual average of $225 billion during
1990-95 to $1,492 billion in 2000. According to the World Investment Report
(WIR), there were three forces at work – all related to globalization. First, many
governments liberalized capital flows into their national economies. This allowed

¹² For example, in certain cases, foreign-invested enterprises pay no taxes for the first two
profitable years and pay half the taxes owed for the ensuring three years.
¹³ OECD (2000), op. cit., p.15.
¹⁴ Global Business Council and A.T. Kearney, FDI Confidence Index, Vol. 5, September

2002, p. 24.

foreign investment to enter more freely. The process was further accelerated by the
privatization of government-owned enterprises in both developed and developing
countries. Second, increasing costs of production and various technological
developments induced enterprises to spread their operations and risks internationally.
Concurrently, the cost of transportation and communications fell, thereby enabling
firms to locate their production processes in different parts of the world and to supply
products, parts, and accessories from long distances. Finally, increasing competition
forced enterprises to enter new markets at an early stage and to transfer some
production there to “nationalize the product” and to reduce production costs. These
forces also were at work for FDI in China.
Figure 1. Foreign Direct Investment in China, 1985-2002
⁶⁰
^52.⁷
^45.³^45.⁶^46.⁹⁵⁰
^41.⁷^40.³^40.⁷
^37.⁵⁴⁰
^33.⁸
^27.⁵³⁰
²⁰
¹¹
¹⁰
^1.⁷^1.⁹^2.³^3.²^3.⁴^3.⁵^4.⁴
⁰
⁸⁵⁸⁶⁸⁷⁸⁸⁸⁹⁹⁰⁹¹⁹²⁹³⁹⁴⁹⁵⁹⁶⁹⁷⁹⁸⁹⁹⁰¹²
^Sourc^e^:^C^h^ina.^Mⁱ^nis^t^ry^of^F^o^{reign T}^r^{ade and Ec}^onom^ic^C^ooperat^ion
As shown in Figure 2, after averaging around $2 billion per year during1984-88,
FDI flows into China rose dramatically in the 1990s to $46.9 billion in 2001 and
further to $52.7 billion in 2002 (according to Chinese statistics). In 2001, FDI
inflows to China accounted for 6% of the world total and 22% of inflows into
developing economies. (See Appendix A.) These FDI flows have been increasing
in recent years despite global recessionary conditions that caused total world FDI
flows to drop nearly by half in 2001.
Chinese statistics on FDI, however, differ considerably from those of other
nations. For example (as discussed later in this report), the U.S. Department of
Commerce shows American direct investment in China at less than a third of the
level that Beijing reports.
Sources of FDI Inflow into China
Most FDI into China comes from either “Greater China” or from the three major
industrialized markets: the United States, Japan, and the European Union. Hong

Kong continues to be the number one source. (Even though Hong Kong reverted to
Chinese sovereignty in 1991, it still is counted as a “foreign” entity for trade and
capital flows.) In 2001, Hong Kong provided $16.7 billion or 36% of China’s total
of $46.9 billion of actually utilized FDI. Much of Hong Kong’s investment in
Figure 2. Sources of Foreign Direct Investment in China, 2001
($Billion and Percent)
^H^ong^Kong
^35.6%
^Ta^iw^aⁿ
^6.4%
^ASEAN
^6.2%
^Japan
^9.2%^Other^s
^9.6%
^U.^S^.
^9.4%
^T^a^{x H}^a^vens
^EU^14.7%
^9.0%
^Source:^{China M}^O^F^T^EC
China, however, actually is Chinese capital doing a “round trip” to take advantage
of investment incentives and protections for foreign investors.¹⁵ Taiwan provided
another 6.4% of the FDI and Macao 0.6%. Some of Taiwan’s FDI in China also
flows through Hong Kong or offshore tax havens. Singapore provided 4.6%. Hence,
nearly 47% of the officially tabulated FDI inflows into China originated in areas
sometimes designated as the Greater China region. Other major investors in 2001,
were the United States with 9.4%, Japan with 9.2%, and the EU with 9.0%. The
offshore tax havens account for nearly 15% of total FDI flows into China, but this
FDI actually originates from countries such as the United States, the EU, Japan,
Taiwan, or even the PRC, but for various reasons was routed through tax havens such
as the Bahamas, Virgin Islands, Cayman Islands, Bermuda, and Western and Eastern
Samoa.

¹⁵ Estimates of “round tripping” FDI range from 25 to 36%. See: Lloyd-Smith, Jake.
Foreign Investment Is Hugely Overstated by Mainland. South China Morning Post,
November 19, 2002.

FDI by Enterprise Type
In the early stages in which foreign capital was allowed to enter China, the main
vehicles of entry were joint (equity) ventures, cooperative joint ventures, and wholly
foreign-owned enterprises. In joint ventures, capital was provided by two or more
parties who managed the enterprise and shared in the risk according to their
contributions to the capital. In the cooperative joint ventures, much of the capital
was provided by the foreign partner, while land, building, and workable assets were
provided by the domestic side. The nature and degree of participation and the
sharing of risk were established in the contract. On the stipulated date of termination
of the contract, all the assets became the property of the Chinese side. In wholly
owned ventures, the foreign firm put up all the capital.
In the 1980s, 42% of all FDI into China was invested in cooperative joint
ventures and 39% in joint (equity) ventures. Hence, 80% of all FDI inflows came
into joint ventures of one or the other type. Investments into wholly foreign-owned
enterprises accounted for only 10% of the FDI inflows. Another 10% entered in
other forms such as compensation trade or international leasing, etc. (See Table 1).
Table 1. Foreign Direct Investment in China by Type
1979-2002
(in percentage)
YearJointVenturesCooperativeJoint VentureWholly Foreign-ownedOthers
1979-89 38.7 41.9 9.7 9.7
1990 41.0 19.0 37.1 2.9
1995 43.5 19.5 36.9 0.1
1996 43.5 19.5 36.6 0.4
1997 40.6 23.7 34.6 1.1
1998 33.3 22.4 41.8 2.7
1999 32.3 16.5 50.7 0.5
2000 35.8 15.9 46.8 1.2
2001 33.6 13.2 50.9 2.8
2002 28.4 9.6 60.2 1.8
^Source:^C^hⁱⁿ^{a. Min}ⁱ^s^t^ry^of^Foreigⁿ^T^r^{ade an}^{d Econ}^om^{ic C}^ooperation^.^Statis^tics^A^bou^t^Utilization
^o^f^Fo^r^eⁱ^{gn I}^nve^st^m^e^ntⁱⁿ^Chiⁿ^a^.^V^a^rⁱ^o^u^{s y}^e^a^r^s.
During the 1990s, the relative importance of cooperative joint ventures declined
significantly. In 2002, they accounted for less than 10% of FDI inflows. The share

of joint equity enterprises went up during the first half of the 1990s reaching around
half of total inflows in 1991 after which they declined, initially slowly, but by 2002
were only 28%. Typically in joint enterprises, the Chinese partner was able to
contribute expertise on land and labor acquisitions and political connections
necessary to navigate the Chinese bureaucratic system. As the enterprise developed,
however, such skills became less and less important relative to management and
operational skills provided by the foreign partner. Currently, more and more foreign
companies are opting to establish wholly-owned enterprises over which they have
complete control. On the other hand, Chinese authorities, with their growing
experience in dealing with foreign enterprises, have become more confident in
allowing them to operate without a native partner. In addition, the authorities in
Beijing – first, keen to enter the World Trade Organization (WTO) and, then,
required by WTO rules – have been changing their regulatory regime to make it more
consistent with their WTO commitments. The share of wholly owned enterprises in
FDI rose to 60% by 2002 and is likely to continue to rise.
FDI Utilization by Sector
By far the largest share of FDI inflows into China – almost two-thirds – has
been invested in manufacturing. Foreign investment has moved into China not only
to take advantage of the rapidly growing domestic market for consumer goods but
also to take advantage of the resources in China to manufacture and assemble
products – particularly parts and accessories – to be exported to world markets.
Japanese, South Korean, and Taiwanese corporations, for example, which were
facing rising costs for labor and production in their home markets and elsewhere in
Asia have relocated some of their production to China.
The sectoral mix of FDI, moreover, is shifting away from traditional labor-
intensive industries. In the 1980s, textiles and footwear were dominant destinations
for FDI, but as shown in Table 2, in 2001, less than 5% went into textiles.
Pharmaceuticals accounted for three times as much – 15%. Electrical machinery,
transport equipment, as well a telecommunications industries are now becoming
much more important. Real estate received nearly 11% of total FDI inflow in 2001.
The production and supply of electricity and water received nearly 5%, and social
services, including the hotel industry, accounted for another 5%.
Table 2. Foreign Direct Investment into China by Sector, 2001
SectorAmount(billion dollars)Share(percent)
National Total46.9 100.0
Manufacturing30.9 65.9
Electrical Power, Gas and Water Supply2.3 4.8
Transportation, Storage, Postal and0.9 1.9

telecommunication Services

SectorAmount(billion dollars)Share(percent)
Wholesale/Retail Trade, Catering Services1.1 2.4
Real Estate5.3 10.9
Travel and Entertainment2.6 5.5
Other Sectors2.8 5.8
^Source:^C^hⁱⁿ^{a Mi}ⁿⁱ^s^t^ry^of^F^o^rei^gⁿ^T^r^{ade an}^{d Econ}^omⁱ^c^C^ooperatⁱ^oⁿ^.
Geographical Distribution of FDI Into China
Following the pattern of China’s industrialization, most of the foreign
investment is concentrated in the coastal regions in the east. As much as 88% has
been invested into China’s eastern region, while only 9% has gone into the Central
region, and 3% into the Western region.¹⁶ (See Table 3) Initially, China’s official
policy was to allow foreign capital mainly in the Special Economic Zones in
Guangdong (bordering Hong Kong) and Fujian (north of Guangdong facing Taiwan)
provinces. During the 1980s, Guangdong province had absorbed almost half of the
FDI in China, and even in 1990s its share remained at a quarter of the total FDI stock.
Table 3. Geographical Distribution of Foreign Direct Investment
in China, 1980s and 1990s
(in percent)
Regions 1983-98 1980s 1990s
Eastern 87.8 90.0 87.6
Central 8.9 5.3 9.2
W estern 3.3 4.7 3.2
^Source:^T^a^ub^e^,^M^a^r^{kus a}ⁿ^d^M^e^hm^e^t^Ö^güt^ç^ü^,^M^aⁱⁿ^Is^s^u^es^{on For}^eⁱ^{gn Inves}^t^m^entⁱⁿ^C^hⁱ^na’s^Regi^onal
^{Development: Pr}^os^pects^{and Policy C}^hallenges^(Pari^s^:^O^E^C^D^{, 2000), T}^a^bl^{e 3, p. 7.}
While the government initially directed FDI into the east coastal areas,
economic forces also played a key role in determining the destination of FDI flows.
China’s eastern coastal regions have the largest concentrations of population with
major cities such as Beijing, Shanghai, and Guangzhou. Rates of growth there have
been the most rapid, and they have well-developed roads and rail networks as well
as access to major ports and shipping routes. Many people in these regions also have
close connections with overseas Chinese, since vast numbers of these emigrant

¹⁶ OECD (2000), op. cit., p. 8.

Chinese can trace their ancestry to the coastal areas. One study indicates that three-
quarters or more of the total FDI in China had come from overseas Chinese.¹⁷
In Guangdong province, for example, proximity to Hong Kong played a large
role in attracting FDI. Economic reform in China virtually coincided with a
substantial rise in wage levels, rents, and overhead costs in Hong Kong. This
motivated Hong Kong industries to relocate to the neighboring Guangdong province
with its plentiful supply of labor, land, and electricity. Also historically, the two
areas have had close relationships. When China was more closed, Hong Kong was
Guangdong’s window to the world and provided technology, capital, and
management skills for companies there. Many of the Chinese in Hong Kong came
from Guangdong province. Both populations speak Cantonese (rather than Beijing’s
Mandarin). In preparation for Hong Kong’s reversion to China in 1997, moreover,
the policy of Beijing was to open its territory bordering Hong Kong to foreign
investment and trade in order to reduce the economic gap between Guangdong and
Hong Kong and stem pressures to emigrate there.¹⁸ The same is true of Fujian
province. Many in Taiwan came from that province, speak the same Chinese dialect,
and share business methods and culture.
The boom in economic development and modernization in the eastern coastal
regions of China, however, has generated huge disparities in income, standards of
living, and opportunities between the eastern regions and those in the middle and
west. For Beijing, this is a potentially explosive situation partly because more ethnic
minorities (e.g., Muslims in the Xinjiang Uighur Autonomous Region and Tibetans)
live in the non-coastal regions and because the promise of higher-paying jobs in the
east is luring migrants by the millions from other parts of China. The state-owned
enterprises in the non-coastal regions and the rust-belt Northeast, moreover, often are
losing in the competitive battle with more efficient plants along the middle and
southern coast. This is causing considerable labor unrest.
In partial response to the regional disparities, Beijing’s policy on attracting
foreign investment now emphasizes the lagging middle and western Chinese regions.
These currently are given priority in selecting industries from China’s Master List of
desirable industries, in procuring domestic financing, and in offering higher levels
of allowable foreign participation in joint ventures. The central government,
moreover, is providing a cut of 15% in business income taxes and is giving priority
to the funding of infrastructure projects for FDI in these regions.¹⁹

¹⁷ Wei Zhang. Why Is Foreign Investment in China Concentrated in the Coastal Region?
Harvard Asia Quarterly, Summer 2000, October 14, 2002.
¹⁸ Interview by Dick Nanto with members of the Peoples’ Congress of Guangdong Province
in December 1998.
¹⁹ People’s Republic of China. Ministry of Foreign Trade and Economic Cooperation.
China’s Attracting Foreign Investment Policy.

U.S. Direct Investment In China
U.S. multinational corporations have joined with those from other nations in
investing directly in affiliated companies in China. A huge gap exists, however,
between U.S. and Chinese data. According to U.S. data, at the end of 2001, the
United States had $10.53 billion (historical cost basis) in direct investment in China.
According to Chinese data, since 1990, utilized FDI (as opposed to contracted FDI)
from the United States totaled $33.97 billion.
Table 4. U.S. Direct Investment in China, 1990-2001
(billion dollars)
Foreign Direct InvestmentU.S. Direct Investment in
(Utilized) From the U.S.China
Year(Chinese Data)(U.S. Data)
AnnualCumulativeChange inPosition
InflowSince 1990Position(Cumulative)

1990 0.45 0.45 -0.08 0.35^a

1991 0.32 0.77 0.08 0.43^a

1992 0.511.280.130.56^a

1993 2.06 3.34 0.37 0.92^a

1994 2.49 5.83 1.64^b 2.56
1995 3.08 8.91 0.20 2.76
1996 3.44 12.35 1.09 3.85
1997 3.24 15.59 1.30 5.15
1998 3.90 19.49 1.20 6.35
1999 4.22 23.71 1.60 7.95
2000 4.38 28.09 1.91 9.86
2001 4.86 32.95 0.67 10.53
^Sources^:^C^hⁱⁿ^a,^Miⁿⁱ^s^t^ry^of^F^o^rei^gⁿ^T^r^{ade an}^{d Econ}^omⁱ^c^C^ooperatⁱ^oⁿ^.^U^.^S^.^Bu^reau^of^Econ^omⁱ^c
^An^a^l^y^sⁱ^s^.
^a^D^a^t^aⁿ^o^t^lⁱⁿ^k^e^{d t}^o^pos^t^-^{1993 dat}^a^t^h^at^w^a^s^adj^u^s^t^{ed by}^t^h^{e 1994 Ben}^c^h^m^ark^S^u^rv^ey^.
^b^T^h^{e 1994 B}^eⁿ^c^h^m^ark^Su^rv^ey^pick^ed^u^pⁱⁿ^v^e^s^t^m^eⁿ^t^s^w^ith^as^s^e^ts^{or s}^a^les^betw^een^{$3 m}^illion^an^{d $15}
^m^illio^{n tha}^t^ha^d^no^{t b}^e^eⁿ^r^e^p^o^r^te^d^{in p}^r^e^v^io^{us a}^nnua^{l sur}^v^e^y^s.
The differences between the two sets of figures have not been reconciled, but
they likely can be traced to: differences in reporting criteria; U.S. investments
originating in or going through offshore U.S. affiliated companies (particularly in

Hong Kong); investments that fell under the U.S. threshold for counting; more
complete data gathered by the U.S. Department of Commerce on repaid loans and
other data internal to companies that are not generally accounted for by the Chinese
ministry that approves foreign investments; changes in exchange rates; and
overstatements of investment amounts by local Chinese officials and foreign
investors. Both sets of data, however, indicate that U.S. FDI in China has been
increasing. According to Chinese figures, in 1990, the flow of American FDI into
China was only about $456 million; by 2000, it had reached $4.4 billion; and in 2001
it rose to almost $ 4.7 billion. In a similar manner, U.S. figures show an increase
from a few hundred million per year in the early 1990s to nearly $2 billion in 2000.
The United States has been the second largest source of FDI for China (next
only to Hong Kong) and during 1999-2001 accounted for an average of about 10.5%
of China’s total inflows (using China’s figures). China, however, is not a major
location for all U.S. FDI. In 2001, U.S. FDI there amounted to only 0.76% of U.S.
FDI worldwide. U.S. FDI in Hong Kong accounted for another 2.1% of total U.S.
FDI abroad for a total for both China and Hong Kong of only 3%. Most U.S. FDI
goes to other developed economies in Europe, Japan, and Canada.
The United States collects data on the operations of its multinational
corporations that includes affiliated companies in China. For 2000, the value of total
assets of nonbank foreign affiliates of U.S. companies in China (10% or more
American owned) was $32.12 billion, up from $18.59 billion in 1997. Of these
amounts, the total for majority owned (50% or more U.S. owned) foreign affiliates
was $28.69 billion in 2000, up from $14.36 billion in 1997.²⁰ These values for total
assets include investments by the non-U.S. partner and exclude the value of banks
in China affiliated with U.S. companies. The U.S. affiliated companies reported
252,400 employees (0.03% of China’s labor force) earning an average of US$6,846
per year. They produced $3.94 billion in gross product (value added) which
accounted for 0.4% of China’s nominal gross domestic product. In terms of total
Chinese employment and output, therefore, U.S. affiliated firms are still but a dot on
the large Chinese landscape.

²⁰ Mataloni, Raymond J., Jr. U.S. Multinational Companies, Operations in 2000. Survey
of Current Business, December 2002. P. 39-41.

Major U.S. Corporations in China
ABBDuPontIntel
LucentNCRAmerican Express
Motorola Kmart Coca-Cola
W estinghouse Daimler-Chrys ler Bo ei n g
IBMGMKPMG
CIGNA Fo rd Citigroup
Xerox FM C Schenker
GEKodakDHL
ARCONikeUPS
Caterpillar AT&T Kraft
McDonalds Novell Microsoft
Hyatt
^Source:^C^a^rav^e^l^,^In^{c., A}^m^eri^can^Bu^sⁱⁿ^e^s^sⁱⁿ^C^hⁱⁿ^{a, 2002-}^2003.
The U.S. companies with affiliates in China include many of the large
multinational corporations in the United States. The U.S.-China Business Council
has 220 members. The Caravel company’s list of U.S. firms operating in China in
2002 totaled 1,466 companies (up from 1,383 in 2000) with 570 in Beijing, 448 in
Shanghai, and 223 in Guangdong province across the border from Hong Kong. The
American states in which the headquarters of the parent company investing directly
in China were concentrated in the West Coast, industrialized mid-West, Mid-
Atlantic, and Texas. As shown in Figure 3, the greatest number of U.S. companies
were headquartered in California (255), New York (243), New Jersey (102), Illinois
(100), Texas (77), Pennsylvania (67), Massachusetts (65), Ohio (63), and
Connecticut (62).²¹

²¹ Caravel, Inc. American Business in China, 2002-2003. Torrance, CA, Caravel, Inc.

2002. The total does not include U.S. firms operating in Hong Kong (536) or Taiwan.

Figure 3. Headquarters Offices by State of U.S. Companies
in China 2002
240
00421
665
19243
1038353
046762
191001763102
4112428
255521625
1013
701025
1533
773
13
0
1
^D^a^{ta fr}^om^C^a^r^a^v^e^l^,^Inc^.^Am^erⁱ^c^{an Bus}ⁱ^nes^sⁱⁿ^C^hⁱ^{na, 2002-}²⁰⁰³
American companies have established affiliates in China for a number of
different reasons. In a 2002 U.S. General Accounting Office survey of 551 American
companies, the highest percentage of respondents indicated that establishing a
presence in China was an important goal (103 respondents), with increasing exports
to China (79 respondents) and taking advantage of low labor costs (76 respondents)
also important. Other goals were expanding a regional base in China and expanding
or establishing a distribution network there.²² (See Table 5)
The U.S. corporations interviewed for the GAO Survey, while expressing their
mild optimism regarding China’s willingness or ability to implement its WTO
commitments, also highlighted what they felt were their main concerns. These
included five commitment areas related to the rule of law reforms and
implementation: (1) the consistent application of laws, regulations, and practices; (2)
protection of intellectual property rights; (3) enforcement of contracts and judgement
settlement of disputes; (4) independence of judicial bodies; and (5) equal treatment
between Chinese and foreign entities. Other areas of concern were the transparency
of laws, regulations, and practices – a reform which the respondents felt that China
might find difficult to implement – and all aspects of interaction between government
and business, including subsidies to Chinese firms, non-tariff barriers, as well as
China’s application of safeguards against U.S. exports.

²² GAO, World Trade Organization: Selected U.S. Company Views About China’s
Membership, GAO-02-1056, September 2002, p. 2.

Table 5. U.S. Company Goals in China, 2002
Company GoalsNumber ofRespondentsPercent ofRespondents
Establish a presence for the future103 55
Increase exports to China79 42
Benefit from low labor cost76 40
Expand a regional base56 30
Expand a distribution network in China44 23
Establish a distribution network in China43 23
Benefit from foreign investment incentives37 20
Benefit from the cost or quality of raw36 19
materials in China
Establish a regional base in China35 19
Other21 11
^Source:^U^.^S.^G^e^ne^r^a^l^A^c^c^o^untⁱ^{ng O}^ffi^c^e^,^W^o^r^l^{d T}^r^{ade O}^r^gani^z^a^tⁱ^{on: Sel}^ect^{ed U}^.^{S. C}^o^m^pany
^Vi^ew^s^about^C^hⁱ^na’s^M^e^m^b^er^s^hⁱ^p^,^S^e^pt^em^{ber 2002, T}^a^bl^{e 3, p. 15.}
The respondents were more hopeful that WTO-related reforms would be
implemented reasonably successfully at the national level (and in major cities) but
felt that implementation at local levels would be much more difficult. Local officials
are often more interested in protecting local businesses and jobs and reportedly often
either evade laws or circumvent them. For example, in intellectual property rights
enforcement, China has already enacted reforms aimed at an overall improvement
in IPR protection, but local companies, even when owned by local governments, are
know to have copied foreign products and packaging. With respect to copyright
violations, enforcement by local officials often is imperfect even after a foreign
company wins a case in the courts.²³
U.S. FDI Position by Industrial Sector
According to U.S. data, as much as two-thirds of the stock of U.S. FDI in China
is invested in manufacturing – more than 50% of which is in the electronic and
electrical equipment sector. Another 12% is invested in petroleum, 8% in banking
and finance, and 5% in wholesale trade. (See Appendix B). Worldwide,
manufacturing accounts for about 27% of U.S. foreign direct investment. The reason
for the high percentage of U.S. FDI in China in manufacturing is to take advantage

²³ GAO, World Trade Organization: Selected U.S. Company Views about China’s
Membership, September 2002, pp 20-5, 28.

of the large and rapidly growing domestic market combined with the abundant supply
of low-cost labor. U.S. retailers also are locating to China to service the expanding
consumer market. Wal-Mart, for example, has 20 joint-venture stores there including

16 supermarket centers and three Sam’s Club warehouse sales operations.²⁴

Effects of U.S. FDI in China on U.S. Trade
One of the criticisms of foreign investment in China and other countries is that
it “exports U.S. jobs” and worsens the U.S. balance of trade. One study found that
U.S. investment in China broadens China’s production base for exporting goods back
to the United States and will result in an even greater U.S. trade deficit with that
country.²⁵ U.S. companies in China do export some of their output back to the
American market, but most is sold in China. According to the U.S. Bureau of
Economic Analysis, in 1998, of the $20 billion in total sales by U.S. majority-owned
affiliates in China, 14% went to the United States, 69% was sold in China, and 17%
went to other markets. Of the $1.1 billion in electrical and electrical equipment
produced by these majority-owned affiliates, however, 44% was sold to the United
States. Also of the $7.6 billion in computer and electrical products manufactured,

23% was exported to the United States. (See Table 6)

In terms of the question of how much U.S. and foreign firms in China are
contributing to the growing U.S. merchandise trade deficit with that country, this
deficit has grown from $10 billion in 1990 to $61 billion in 1998 and to $83 billion
in 2001 (a projected $100 billion in 2002 based on January-November data). The
$83 billion deficit in 2001 accounted for 20% of the overall U.S. trade deficit of
$411.9 billion. In 2001, the largest sectoral deficits with China were $16.3 billion
in electrical machinery (including $2.1 billion in radio receivers), $12.2 billion in
toys and sports equipment, $9.7 billion in footwear, $9.7 billion in machinery, and
$7.4 billion in furniture/bedding.²⁶ The deficits in these five sectors totaled $55.3
billion or 66% of the total U.S. deficit with China for that year. The rapid growth of
some of these sectoral deficits is remarkable. The U.S. trade balance with China in
electrical machinery went from a surplus of $16.0 billion in 1990 to a deficit of $16.3
billion in 2001. This industry is highly dependent on foreign inputs for design,
marketing, and research and development.²⁷ Likewise, in machinery, a surplus of
$11.0 billion 1990 dropped to a deficit of $9.7 billion in 2001.

²⁴ Wal-Mart. International Operations. On Internet at: [http://www.walmartstores.com].
²⁵ Burke, James. U.S. Investment in China Worsens Trade Deficit. Economic Policy
Institute Briefing Paper, Washington, DC, May 2000.
²⁶ Data are by Harmonized System codes.
²⁷ U.S. Department of Commerce. U.S. Commercial Technology Transfers to the People’s
Republic of China. 1998. P. v.
[http://www.bxa.doc.gov/osies/DefMarketRe searchRpts/T echT ransfer2PRC.html ]

Table 6. Sales of Majority Owned Affiliates of U.S. Corporations
in China by Industry, 1998
(billion dollars and percent)
To theTo Other
ItemTotalUnited StatesIn ChinaCountries
Amt.%Amt.%Amt.%
Total Sales20.042.7013.513.8469.13.5017.5
Total Manufacturing14.962.4816.69.2261.63.2621.8
Computer & 7.571.7723.43.2843.32.5233.3
Electrical Products
Industrial Machinery 1.330.1410.51.1082.70.096.77
& Transport Equip.
Electrical/Electrical 1.100.4843.60.4036.40.2220
Equipment
Chemicals 2.69 0.01 0.37 2.40 89.2 0.28 10.4
^S^o^urce:^{U.S. B}^u^r^eau^o^f^Ecoⁿ^o^m^{ic A}ⁿ^aly^s^{is. Op}^er^atioⁿ^s^o^f^{U.S. Mu}^ltin^atioⁿ^a^{l Co}^m^p^aⁿⁱ^e^s^.
^Prelⁱ^mⁱⁿ^ary^R^e^s^u^l^t^s^f^r^om^t^h^{e 1999 Ben}^c^h^m^ark^S^u^rv^ey^.^Sur^{vey of C}^u^r^r^e^{nt Bus}ⁱ^nes^s^{, March}^{2002, an}^d
^s^u^pplem^en^tary^tables^.
As noted earlier in this report, foreign affiliated firms account for the vast
proportion of electronics-related and other high-technology exports from China. U.S.
majority owned firms there, however, do not appear to have contributed directly to
this rising bilateral trade deficit through their production. According to U.S. data on
the operations of majority owned American affiliated firms in China, in 1998, they
shipped $1.96 billion in product to the United States. At the same time, U.S.
companies shipped $1.95 billion in product to them for a rough balance in the two-²⁸
way trade. Much of the rise in Chinese exports to the United States, therefore, has
originated from foreign affiliates from other countries and from Chinese-owned
companies. U.S. investment in China, however, can displace potential U.S. exports
to China, as affiliates are established to manufacture and sell U.S. brand name
products that traditionally have been made at home.
Some of the rising U.S. trade deficit with China also is being transferred from
other economies in Asia. Foreign-owned firms from Hong Kong, South Korea,
Taiwan, Japan, and other markets that traditionally have accounted for much of the
U.S. overall trade deficit also have been investing in production facilities in China.
Nike, for example, contracts the production of its footwear made in China from

²⁸ Matalonli, Raymond J., Jr. and Daniel R. Yorgason. Operations of U.S. Multinational
Companies, Preliminary Results from the 1999 Benchmark Survey. Survey of Current
Business, March 2002. Note: The 2000 survey suppressed data on imports to avoid
disclosure of data of individual companies.

assembly plants owned by companies from South Korea and other Asian nations.
Many of these companies have moved factories there from their home markets in
order to lower production costs. For example, U.S. imports of footwear from China
rose from $1.48 billion in 1990 to $9.77 billion in 2001. Over the same period,
imports of footwear from South Korea dropped from $2.56 billion to $0.10 billion.
Likewise for furniture, U.S. imports from China rose from $0.14 billion in 1990 to
$5.02 billion in 2001, while over the same period, those from Taiwan fell from $1.01
billion to $0.76 billion.
U.S. Multinationals and Chinese Labor
A concern of U.S. labor interests has been that workers in China are subject to
substandard conditions in the workplace. Such activity not only may violate basic
labor and human rights, but it may provide Chinese exports a competitive edge in
world markets or violate U.S. trade laws. The general picture of labor conditions in
China is mixed. Beijing has passed some labor laws, but enforcement seems lax.
Independent unions are not allowed, and some labor leaders have been jailed.
In general, those who study labor conditions in China note that relatively good
working conditions exist in American-operated manufacturing facilities. Much of
the production for American subsidiaries in China, however, is contracted to East
Asian affiliated companies there. Some of the worst cases of worker exploitation
reportedly have occurred in those plants. The types of abuse reported physical
punishment, verbal humiliation, severe restrictions on movement, lack of rest, limited
and short breaks, long working days without overtime pay, poor health and safety
conditions, and lack of compensation for injury. Companies also may use financial
leverage to compel workers not to quit. In some cases, employers have required
workers to pay a deposit that is not refunded if they leave, or they may extend loans
that must be repaid through a long period of payroll deductions.²⁹
Some U.S. companies have addressed the problem of labor conditions in
contracting factories by adopting codes of conduct, codes of ethics, or corporate
conduct guidelines for their affiliates, suppliers, or subcontractors in China. These
include Levi Strauss, Mattel, Nike, Reebok, Avon, Dole Food, and Toys R Us. Still,
working conditions in China are difficult to monitor – when production is
subcontracted – and enforcement always is a problem – particularly when workers
are heavily dependent on their employers.³⁰

²⁹ See: CRS Report RL31164, China: Labor Conditions and Unrest, by Thomas Lum. Also
see: Pomfret, John, In China, No Workers’ Paradise, Washington Post, January 11, 2000.
U.S. Department of State, The Bureau of Democracy, Human Rights, and Labor. Country
Reports on Human Rights Practices: China (Includes Hong Kong and Macau), March 4,

2002.

³⁰ One more successful company in China has been Mattel. It has instituted independent
monitoring by a group of leading experts and provides wages and working conditions that
compare favorably with those of other multinational corporations. See Stephen Frost and
May Wong, Monitoring Mattel in China, edited version of the full report by the Asia
Monitoring Research Center. Asian Labor Update [www.amrc.org.hk/achives].

Some organizations have investigated factories in China producing for export.
Among the investigating organizations, the National Labor Committee (NLC) located
in New York and some non-governmental organizations in Hong Kong (such as the
Hong Kong Christian Industrial Committee and the Asia Monitor Resource Center),
claim to have found numerous violations of basic worker rights and poor working
conditions.³¹ The cited factories, however, tended not to be U.S.-owned but often
contracted with U.S. companies to manufacture brand-name products.
Effects of Foreign Direct Investment on China’s
Domestic Economy
FDI (including reinvested earnings of affiliates) has come to play an important
role in the Chinese economy. The problem in determining the precise role of FDI in
recent Chinese economic development, however, is that it has been part of the
general opening of the economy to the world and a more market-based economic
system. In terms of quantifiable indicators, foreign affiliates now account for nearly
a quarter of industrial value-added, nearly a fifth of the tax revenue, and almost half
of all exports from China.³² FDI inflows account for 10 to 15% of China’s total gross
fixed capital formation. Several econometric studies have attempted to estimate how
much FDI has contributed to Chinese economic growth. Since FDI still accounts for
a relatively small percentage of total investment in fixed capital, it naturally will have
a small quantifiable effect on gross domestic product. A recent study concluded that
about 13% of the changes in China’s output can be traced to changes in FDI. levels.
The same study found that FDI had a larger effect on China’s exports – a finding that
would be expected given the large role of foreign affiliated firms in exports.³³
Foreign affiliates are, by far, the largest source of China’s exports of high-
technology products. In 2000, 93% of all exports of electronic circuits came from
foreign affiliated companies. In data processing, office machines, and related
products, the share of foreign affiliates was as high as 85% and in mobile phones
(transmitter-receiver apparatus) as high as 96%.³⁴ FDI also played a major role in the
drastic change in the composition of Chinese exports. In 1985, primary products and
resources-based manufactures accounted for 49% of all exports. By 2000, their share
had dropped to 12%, while the share of high-technology exports grew from 3% in

³¹ National Labor Committee. Made in China: The Role of U.S. Companies in Denying
Human and Workers Rights. Also, Toys of Misery: A Report on the Toy Industry in China,
January 2002. On Internet at [http://www.nlcnet.org]. Hong Kong Christian Industrial
Committee. Working Conditions in Chinese Factories making Disney Products. Hong
Kong, February 1999.
³² UNCTAD (2002), WIR,2002, op. Cit., p. 56.
³³ Shan, Jordan. A VAR Approach to the Economics of FDI in China, Applied Economics,
Vol. 34, No. 7, May 10, 2002, p. 885ff.
³⁴ UNCTAD (2002), WIR,2002, op. Cit., Table VI.7, p. 166.

1985 to 22% in 2000.³⁵ (See Table 7) This structural change in China’s exports
toward higher technology, more dynamic, and higher value added products played
a role in the increase in China’s share of world trade, which rose from 1.6% in 1985
to 6% in 2000. (See Appendix B)
Table 7. China’s Export Structure, 1985-2000
(Percent Share)
Category of Product1985199019952000
Primary Products35.014.67.04.7
Manufactures based on Natural Resources13.68.27.46.9
Manufactures not based on Natural Resources50.076.284.687.1
Low Technology39.753.653.547.6
Medium Technology7.715.416.917.3
High Technology2.67.314.222.4
Others 1.4 0.8 1.0 1.1
^Source:^{U.N. C}^oⁿ^f^eren^{ce on}^T^r^ade^an^d^Dev^e^lopm^en^t,^W^o^r^l^{d Inves}^t^m^ent^Repor^t^,²⁰⁰²^,^A^nne^x^T^a^b^l^e
^V^I^{.5, pp. 162.}
From a macroeconomic perspective, FDI plays a dual role in easing the foreign
exchange constraint faced by most developing nations. This constraint is the lack of
foreign exchange to pay for imports and repay past borrowing that places bounds on
the rate of economic growth and has been at the heart of financial crises that have
occurred in Latin American, Asian, and African nations. A nation generates foreign
exchange by exporting more than it imports and by attracting capital for direct and
portfolio investment. In 2001, China added $43 billion to its foreign exchange
reserves (a total of $286 billion at the end of 2002). This $43 billion was generated
primarily by a $17.4 billion current account surplus (including a $34 billion
merchandise trade surplus) and a $37.4 billion net direct investment inflow (inflows
minus outflows of $9.7 billion) that offset a $19.4 billion deficit in portfolio
investment.³⁶ FDI contributed both to China’s surplus in investment inflows and to
its surplus in trade. Without FDI, China would probably have faced a severe shortage
of foreign exchange and likely would have had to curtail its rapid growth. This
creates a dependency by Beijing on foreign investors who play a critical role in
breaking China’s foreign exchange constraint and in modernizing Chinese industries
and export structure.

³⁵ Ibid., p. 161.
³⁶ Global Insight, Detailed Forecast, Balance of Payments, January 8, 2003.

Another effect of FDI in China and the price competitiveness of Chinese exports
has been the possibility that China is exporting deflation to the world economy.
Currently, Hong Kong, Japan, Singapore and, to a lesser extent, the United States and
Europe have been grappling with the effects on deflation on their economies. The
theory is that China’s low-priced exports of products also manufactured in other
nations is driving down prices and causing weakness in consumption and depressing
profits.³⁷ The low prices for China’s exports can be maintained primarily because
China’s currency is pegged to the dollar, and this peg can be sustained because of
China’s surplus in trade, inflows of FDI, and the government’s accumulation of
foreign exchange. Some analysts have cast doubts on the ability of China to export
deflation, but on a microeconomic basis, the undercutting of prices by imports from
China is being observed in many countries in many industries.³⁸ Between January
1, 1995 and June 30, 2002, 23 nations had initiated 278 anti-dumping cases against
imports from China. These included India with 51 cases, the European Union with

38, the United States with 37 , Argentina with 27, and Australia with 14 cases.³⁹

Security Concerns
Foreign direct investment in China affects security primarily through three
avenues: its contribution to economic growth which funds China’s military,
technology transfers, and economic interests.
With FDI contributing to rising economic power, China can devote more
resources to its military, although in view of growing domestic needs, military
spending has been taking second place to economic expansion and modernization.
In March 2002, China announced a 17.6% or $3 billion increase in military spending,
bringing the publicly reported total to $20 billion. According to the U.S. Department
of Defense, China’s total military spending is closer to $65 billion, and annual⁴⁰
spending could increase in real terms over three- to four-fold by 2020. FDI,
however, contributes only about 10 to 15% of the growth in GDP underlying this
projected rise in military expenditures.
An important rationale for multinational corporations to invest abroad is that
they hold technology, intellectual property, or manufacturing processes that can
generate more potential profits by establishing an affiliated firm in a foreign country
than at home. Virtually all foreign direct investments involve some transfer of

³⁷ Wade, Christian. China’s Neighbors Fear Export of Deflation. United Press
International, December 20, 2002.
³⁸ Bank of China. Is Deflation Made in China? Economic Forum. October 2002. On
Internet at [http://www.tdctrade.com/econforum/boc/boc021001.htm]. Wade, Christian.
China’s Neighbors Fear Export of Deflation. United Press International, December 20,

2002.

³⁹ World Trade Organization. AD Initiations: Importing Country vs Exporting Country from

01/01/95 to 30/06/02. China had more than twice as many cases as any other country.

⁴⁰ U.S. Department of Defense. Annual Report on The Military Power of the People’s
Republic of China. July 2002.

technology – whether embodied in machinery and parts or used to develop processes
in the host country. The technology also may leak to other companies in the host
country who then may become competitors in world markets. In the case of China,
the question is whether foreign direct investment is enhancing the competitiveness
of Chinese exports to the point where U.S. firms and American security are being
threatened.
A 1998 study conducted by the U.S. Department of Commerce (Bureau of
Industry and Security) investigated how technology transfers to China have affected
U.S. commercial competitiveness and U.S. security. The report concludes that,
generally speaking, “China at present poses no direct threat to U.S. economic
competitiveness in high-tech industries. However, if current projections by Chinese
and international financial institutions are correct, China will be a major competitor
and world economic power in a decade or two.” The report also concludes that the
United States is paying the “most for the privilege of access to China’s market in
terms of lost potential exports and job opportunities.”⁴¹ In short, U.S. firms
producing in China could be selling products there from their Chinese factories rather
than from sources in the United States.
The report further states that in the automobile sector, technology transfers (by
companies such as Daimler Chrysler and General Motors) have upgraded Chinese
domestic capabilities, yet the industry or its future spin-offs are not likely to
undermine U.S. security interests in the near future. In the case of aircraft
manufacturing know-how, the report concludes that the Chinese are learning more
from the joint ventures with European Union companies than from American firms.
A potential risk of military spin-offs exists because the same Chinese firms that have
co-production agreements with foreign firms also produce military aircraft. Air
traffic control or global positioning systems developed for the civilian aviation sector
also may assist in upgrading military capabilities. However, as the Commerce
Department report points out, “China’s abilities and reputation in terms of military
aircraft manufacturing and reverse engineering capabilities are notoriously poor and
do not seem to have improved.” The report also points out that foreign technology
transfers would do little to alleviate the chronic problems of China’s existing
antiquated military aircraft, limited training, and combat experience, or the Chinese
military’s bureaucratic and logistic problems.⁴²
In the case of satellite technology, China has made some progress and has 8%
of the market for international commercial satellite launches. U.S. exports of satellite
technology, as is the case with other sensitive, dual-use technologies, are controlled
by U.S. export laws. Those American firms accused of providing space technology
to China (Hughes Electronics, Boeing Satellite Systems, and Loral Space &

⁴¹ U.S. Department of Commerce, U.S. Commercial Technology Transfers to the PRC, op.
cit., p. 94.
⁴² Ibid., pp. 54-55, 59-60.

Communications) allegedly provided assistance directly to the Chinese company that
launched satellites rather than by transferring technology to subsidiaries in China.⁴³
In the electronics and telecommunication sectors, technology transfers have
enabled China to catch up in some electronics-related sectors, but in most cases the
technology transfers are in form of co-production and assembly and in terms of
access to “soft” technologies. In the electronic sector China still mostly produces
“relatively low-tech electrical or electronic products such as televisions, refrigerators,
radios, and electric fans. In semiconductors, China has made considerable progress
but it still lags behind world leaders in producing the latest generation of computer
chips. China’s capabilities are the most developed in computer hardware,
particularly assembly.⁴⁴
A 2000 Aston University (Birmingham, UK) Asian Business Research Institute
study arrives at similar conclusions. It found that even where technological
capability is being transferred most of the EU companies interviewed felt that it
would take more than three years, and in some cases more than ten years, before
China could replicate the technologies. These companies, therefore, felt shielded
from the immediate threat of Chinese competition. In the meantime, European
companies stated that they intend to stay ahead mainly through their own investment
in research and development.⁴⁵ This accords with England’s experience during the
Industrial Revolution when it attempted to prohibit the export of its technologies.
Such efforts were futile. Flows could only be slowed – not stopped.
A related concern is whether the United States is developing a dependency on
Chinese imports that might undermine the U.S. defense industrial base.⁴⁶ Also, some
U.S. businesses are assessing their risk of relying on China for such a large
proportion of their supply of final and intermediate products. Could political turmoil
in China, hostilities along the Taiwan Strait, or other disruption threaten their
corporate operations? Some U.S. businesses reportedly are curtailing their
investments in China to limit risk and diversify supply.⁴⁷ As shown in Table 8,
however, for broad categories of high-technology products and parts, China provides
no more than 17% of U.S. imports. It is the number two supplier for electronic

⁴³ For details, see: CRS Report 98-485, China: Possible Missile Technology Transfers from
U.S. Satellite Export Policy – Actions and Chronology, by Shirley A. Kan. Mintz, John.
Firms Accused of Giving Space Technology to China. Washington Post, January 1, 2003.
P. A7.
⁴⁴ U.S. Department of Commerce, U.S. Commercial Technology Transfers to the PRC, op.
cit., pp. 62, 78-9.
⁴⁵ David Bennett, Xiaming Liu, David Parker, Fred Steward and Kirit Vaidya. Technology
Transfer to China: A Study of Strategy In 20 EU Industrial Countries. Birmingham: Asian
Business School Research Institute, 2000, pp. 26-7
⁴⁶ U.S.-China Security Review Commission. Report to Congress of The U.S.-China Security
Review Commission – The National Security Implications of The Economic Relationship
Between the United States and China^.July 2002.
⁴⁷ William C. Vocke, Jr.,University of Wisconsin, Milwaukee, speaking of certain
businesses in Milwaukee in 2002.

apparatus for line telephones, office machines, and computers, but numerous other
suppliers are available. In semiconductors, integrated circuits, and cathode ray tubes,
it ranks even lower among import suppliers and accounts for less than 7% of total
imports of those products. A major disruption in supplies from China, however,
could cause severe shortages of toys and footwear. China provides 82% of U.S.
imports of miscellaneous toys, scale models, and puzzles (HS9503) and 57% of U.S.
imports of footwear with leather uppers (HS6403). The retail operations of Payless
Shoes, for example, could be severely hampered, since it relies on China for 80% of
its supply of shoes.⁴⁸
Table 8. U.S. Dependence on China for Certain
Defense-related Products, 2001
Percent of
Harmonized System ProductImporterImportsin 2001Total U.S.
CategoryRank($million)Imports of
Product
8517 Electronic Apparatus for Line22,080.616.8
Telephone & Parts
8473 Office Machines & Parts23,969.615.8
8471 Computers & Components25,965.212.5
8541 Semiconductors, Diodes4239.46.0
8525 Transmission Apparatus for51,377.46.5
Radio Tele. Etc., TV Camera & Rec.
8540 Thermal CLD Cathode Ray1012.71.3
Tubes
8542 Integrated Circuits13415.41.6
^Source:^R^aⁿ^kⁱⁿ^g^f^r^om^Worl^{d T}^r^{ade A}^t^l^a^s^.^D^a^t^a^f^r^om^U^.^S^.^D^e^part^m^eⁿ^t^of^C^o^m^m^e^rce.
The second security-related issue that stems from the growing FDI in China
relates to the vested economic interests of U.S. and other foreign companies there.
If hostilities with China should break out, the factories and other physical plant in the
Chinese economy could serve not only as “hostages” for Beijing but also a source of
expertise, employment, and foreign exchange that Beijing could scarcely afford to
lose. The foreign affiliated firms also can become a strong interest group that may
pressure Beijing and their respective home governments to avoid political or military
actions that could disrupt their businesses. The continued growth of FDI in China
depends heavily on the confidence of investors that China will remain stable, will
institute reforms, and will comply with the conditions of its accession to the World

⁴⁸ Payless ShoeSource. 2001 Annual Report. P. 20.

Trade Organization. This is seen by many to place an incentive on Beijing to seek
peaceful solutions to foreign policy issues but, at times, also places U.S. businesses
in a position of attempting to protect their investments by siding with Beijing on
certain issues (such as opposing economic sanctions).
One likely place that hostilities might occur involving China is along the Taiwan
Strait. Investment relations between the PRC and Taiwan, therefore, are playing an
increasingly important role in maintaining stability on both sides. Taiwanese
businesses have invested an officially recognized $68.8 billion in the mainland since

1990, primarily in the coastal provinces of Fujian and Guangzhou and in Shanghai.

Private estimates place the figure at as high as $100 billion.⁴⁹ Most of this
investment was routed through Hong Kong or tax havens both to avoid political
complications and to secure incentives and protection accorded foreign investors.
The Taiwanese government estimates that more than 400,000 Taiwanese business-
related persons and their families are now residing in China. There are about 3
million visits by Taiwanese to the mainland each year. Thousands of businessmen
have married women from the PRC. According to a prominent Taiwanese politician,
the strategy of China has been to facilitate this investment and to allow Taiwanese
companies to earn higher profits than comparable investments from other nations.
Taiwan’s ruling Democratic People’s Party is concerned over the security
implications of this investment. It also worries that some of the investment is zero
sum – it displaces investment that would have occurred at home. While the mainland
is growing at 7 to 8%, Taiwan’s growth rate has dropped in half to about 3%.
China’s development, on the other hand, appears to be giving Beijing more
confidence and less incentive to use the Taiwan issue to generate nationalism (and
political support) at home.⁵⁰
The growing investment, trade, and business relations between Taiwan and the
mainland have compelled the two governments to open ties further. In 2003, one-
way air charters between Shanghai and Taipei for the Chinese New Year were
initiated. (Taiwan still requires the charters to stop briefly in Macao or Hong Kong.)
Businesses are pressuring the governments to expand the so-called three mini-links
in transportation, direct mail, and trade currently between the Mainland and the
offshore islands of Kinmen, Matsu, and Penghu. Most observers foresee such
economic ties growing over time.
In summary, foreign direct investment is hastening two processes in China: its
integration into the global economy and the modernization of its industries. FDI
contributes to both these processes by providing technology, management skills, and
marketing while also easing constraints on foreign exchange by boosting exports and
inflows of capital. FDI contributes to economic growth. This provides the means for
China to modernize in various respects – including its military. Meanwhile, FDI
provides captive foreign entities for Beijing should hostilities break out but also
creates strong pressure groups both within China and in other nations of the world.

⁴⁹ Ling, Koh Chin. Taiwan Companies Invested $66.8 Billion in China Since 1990.
Bloomberg News. January 16, 2003.
⁵⁰ Meeting with Antonio Chiang, Deputy Secretary General, National Security Council,
Taipei, January 7, 2003.

These groups have direct financial interest in maintaining stability, amicable Sino-
foreign relations, and liberalized trade. FDI by Taiwan’s businesses, in particular,
may be changing the calculus for hostilities along the Taiwan Strait. As the
Taiwanese economy becomes more integrated with that of the mainland, pressures
rise to ease restrictions on interaction between them and to reach an amicable
solution to the current stalemate.

Appendix A. Foreign Direct Investment Inflows by Recipient
Region and Economy, 1990-2001
(in billion dollars)
Regions or1990-95Annual199619971998199920002001
Economies Average
World 225.3 386.1 478.0 694.5 1,088.3 1,491.9 735.1
Developed 145.0 219.9 267.9 484.2 837.8 1,227.5 503.1
Economies
U.S. 40.8 85.5 103.4 174.4 283.4 300.9 124.4
France 16.3 22.0 23.2 31.0 47.1 42.9 52.6
Germany 4.2 6.6 12.2 24.5 54.8 195.1 31.8
Netherlands 8.116.711.132.041.352.550.5*
U.K . 17.5 24.4 33.2 74.3 88.0 116.6 53.8
Devel o pi ng 74.3 152.7 191.0 187.8 225.1 237.9 204.8
Economies
China 19.4 40.2 44.2 43.8 40.3 40.8 46.8
Hong Kong4.910.5**11.4**22.822.466.627.4
T a iwan 1.2 1.9 2.2 0.2 2.9 4.9 4.1
Brazil 2.0 10.8 19.0 28.9 28.6 32.8 22.5
Mexico 8.0 9.9 14.0 11.9 12.5 14.7 24.7
^Source:^{U.N. C}^oⁿ^f^eren^{ce on}^T^r^{ade an}^{d Dev}^e^lopm^en^t,^W^o^r^l^{d Inves}^t^m^ent^Repor^t^,²⁰⁰²^,^A^nne^x^T^a^b^l^e
^{B.1, pp. 303-}^6.
^*^P^r^elimⁱⁿ^ar^y^d^a^ta.
^*^*^Es^tim^ates^.

Appendix B. China’s Competitiveness in World Trade as
Indicated by Market Shares, 1985-2000
(in percent)
China’s Products1985199019952000
I. World Market Share1.62.84.86.1
1. Primary Products2.42.62.52.3
2. Manufactures based on Natural Resources1.11.32.12.7
3. Manufactures Not based on Natural Resources1.53.46.17.8
Low Technology4.59.115.518.7
Medium Technology0.41.42.63.6
High Technology0.41.43.66.0
4. Others0.70.71.41.8
^Source:^{U.N. C}^oⁿ^f^eren^{ce on}^T^r^{ade an}^{d Dev}^e^lopm^en^t,^W^o^r^l^{d Inves}^t^m^ent^Repor^t^,²⁰⁰²^,^A^nne^{x T}^a^b^l^e
^V^I^{.5, pp. 162.}

Appendix C. U.S. Foreign Direct Investment Position
in China by Industry, 2001
(in billion dollars and percent)
Industry Amount P e rcent
All Industries10.5100.0
Petroleum 1.3 12.4
Manufacturing Total7.066.7
Food and Allied Products0.21.9
Chemical and Allied Products0.65.7
Primary and Fabricated Metals0.21.9
Industrial Machinery and Equipments1.211.4
Electronic and Electrical equipment3.735.2
Transport Equipment0.43.8
Other Manufacturing0.76.7
Wholesale Trade0.54.8
Depository Institutions0.21.9
Finance (not Depository Institutions), Insurance, and0.65.7
Real Estate
Services0.21.9
Other Industries0.65.7
^Source:^U^.^S^.^D^e^p^a^r^t^meⁿ^t^o^f^C^o^mme^r^c^e
^No^te:^{Data are on}^{a h}ⁱ^s^t^{orical cos}^t^basⁱ^s^.

Appendix D. U.S. And Total Foreign Direct Investment in China,
1990-2001
(billion dollars)
YearU.S. FDI in ChinaTotal FDI in China Percent
1990 0.45 3.48 13.1
19910.324.377.4
1992 0.5111.014.6
1993 2.06 27.51 7.5
1994 2.49 33.77 7.4
1995 3.08 37.52 8.2
1996 3.44 41.72 8.2
1997 3.24 45.26 7.2
1998 3.90 45.46 8.6
1999 4.22 40.32 10.5
2000 4.38 40.71 10.8
2001 4.86 46.88 10.4
T OT AL 32.97 377.99 8.7
^Source:^U^.^S.^-Chi^na^B^u^si^ne^{ss Co}^uncⁱ^l^b^a^se^d^oⁿ^d^a^t^a^f^r^o^m^Chiⁿ^a^,^Mⁱⁿⁱ^st^r^y^o^f^Fo^r^eⁱ^{gn T}^r^a^d^e^aⁿ^d
^Econ^omⁱ^c^C^ooperatⁱ^oⁿ^.