China’s FDI Plateaus as Investment Demographics Shift

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By Chris Devonshire-Ellis

SHANGHAI, Jul. 17 – China’s foreign direct investment and the nature of its GDP growth are showing signals of permanent change as the world gradually lifts itself out of the global recession. Dezan Shira & Associates has just released its half year figures and they make for interesting reading in terms of the analysis they present of the nature of doing business in China.

With more than 2,500 multinational clients in the country, we are able to produce a snapshot of what is going on and where. Let’s have a look at some of the behavioral traits.

Foreign Direct Investment

Across the board, FDI into China based on the number of clients we have investing in the country fell by 10 percent. There’s no real surprise there given the lack of investment dollars floating around this year, and this is in line with our budget predictions that we carried out at the back end of 2008.

However, while the figure in itself looks reasonable, another story behind them marks a huge trend. Ninety percent of those FDI dollars came from existing clients in China and not businesses that are new to the country. New businesses investing in China have nearly dried up. While this can attributed to the global downturn, we however share the opinion- having been involved in China FDI for 18 years- that businesses that want to play the China card have all largely done so.

Analysts look at figures, and patterns within them to determine trends. Often forgotten is the fact that there are only a finite number of foreign businesses and only a finite portion of them will invest in China. We believe the international business community has, by and large, reached close to saturation point when it comes to Chinese investments. Future FDI in China will be driven by businesses with existing China operations and less now from new investors.

Development Opportunities

Additionally, infrastructure opportunities for foreign investors in China are slowing down. For example, Beijing, built its airport highway 17 years ago and New Delhi, by contrast, is still completing theirs. The investment opportunities created by China’s reform and development have now largely been completed. There are only so many underground railway systems that can be built and only so many airports.

While it is true to say that China’s opportunities lie in the central and western regions, and much needs to be done, the truth is that these are not so attractive to foreign investors. Difficult to reach, awkward to administer with expensive logistics costs, and often beset of local government interference the costs and risks of investing in inland regions are proving to be a barrier.

Tax incentives have disappeared, and the average foreign investor isn’t interested. Our firm’s enquiry forms and China Briefing’s subscribers tell us the same story. While destinations like Chengdu may appear to be the next big thing, the reality is that foreign investment isn’t, by and large going into the second and third-tier cities in great numbers. We maintain a marketing presence in Chengdu as well as many other cities and we read the results. Investors are still attracted to the primary markets of Shanghai and Beijing, and are only moving inland in small numbers.

Competition and Emerging Markets

As China has led the way in FDI over the past two decades, a spill-over effect has occurred across Asia. Other regional markets are now taking up part of China’s manufacturing capacity and are starting to compete or be attractive enough to offer alternative, perhaps more financially attractive markets.

Vietnam has been taking FDI dollars away from China over the past few years, and countries such as Thailand and Malaysia have also been booming. China isn’t now just the only game in town. Additionally, India has now woken up. With a massive domestic market of its own, a huge requirement for infrastructure development, and a global political need to restore some sense of balance against a China-dominated Asia, India will be the source of the majority of FDI over the coming decade.

The country needs it and is offering attractive financial returns. More so, it is now politically able to move on with its own reform and development. The building cranes overlooking Shanghai will be moving to Mumbai.

The China Plateau

It means that foreign investment in China, unless radical changes are made to actively encourage FDI into the inland regions, is reaching its plateau and will not grow at ever-increasing rates. Indeed, the FDI boom in China – which has lasted so long it’s been seen as a given norm – is slowing down.

In one sense, China is a success story now completed. Investment will of course still continue to be made as the country evolves and more necessary investment moves in but it is now getting back to a level of reality. The country has its ports, its roads, and energy infrastructure largely in place.

The boom days of China investment are in fact now over, and we are moving into a period of normality. The result will be a lower level of FDI into the country, less impressive growth rates and a period of consolidation and settlement. GDP will also be affected, and despite recent optimism, so far this year’s GDP growth has been spurred on by China’s fiscal stimulus plan, rather than normal investment criteria.

What This Means

China has now reached a certain level of maturity. While opportunities will continue to exist in certain sectors, the on-going pace of FDI is now slowing down. It’s an inevitability, but one that has been largely masked by the circumstances of the overall global downturn. The days when everyone was able to find something to do and make money are over.

Investment is becoming more considered, and is largely in the hands of those that are already China players. For services firms, if they have not already become established in China, it will become increasingly difficult to enter the market and prosper.

Manufacturers will now be concentrating more on selling to the domestic market, China purely is not as financially attractive a destination to manufacture and export from anymore. The demographics of China have irrevocably shifted, and a return to a sustained normality has now been reached. It’s an inevitable end to what has been- for close to 20 years- the greatest orgy of foreign direct investment that has ever occurred.

Chris Devonshire-Ellis is the founding partner of Dezan Shira & Associates and is the publisher of China Briefing. He has lived in China for 21 years and is now based in Mumbai.