Comparative Analysis of FDI Trends in China and India - Essay Example

? Comparative Analysis of FDI Trends in China and India: An Examination of the Favourable FDI Trends in China. Introduction In the World Investment Prospects Survey released by the United Nations Conference on Trade and Development showed that China is the most popular destination for foreign trade in the World (Siyu, 2010). China increased its foreign direct investment by 20% between 2009 and 2010 and is to continue increasing its position in the next five years (Siya, 2010). In the same survey, Brazil, Russia and India came in the top five. However, China remained the topmost and most preferred destination for foreign direct investments in the year and is to remain so for the next couple of years. This is apparent in the fact that China became the leading destination for foreign investment after 2005. The main factor that prompted this was the changes that occurred within the country's national and legal structures which caused China to become attractive to the rest of the world. “Foreign direct investment is the process whereby the residents of one country (the source country) acquires ownership and long-term business interest in another country” (Moosa, 2002:). In other words, foreign direct investment (FDI) is the transfer of funds from one country to another for the acquisition of business stakes for the purposes of furthering its business interests in the nation. The Organisation for Economic Cooperation and Development set the threshold of FDI to include making payments to attain a degree of control in businesses in a different nation (Jones and Wren, 2006) This paper examines the reasons behind China's increased growth in foreign direct investments. It examines why China' FDI levels has continued to increase in the past. In doing this, the researcher would undertake a comparative analysis of China's FDI trends with the Indian FDI trends. It would seek to explain why China attains more foreign investments than China. In attaining this aim, the following objectives would be examined: 1. A review of the vital factors in the movement of FDI in the global context. 2. A critical analysis of the trends in FDI in China. 3. An analysis of FDI trends in India and a comparison with China. 4. An observation of the differences between the Chinese FDI terrain and the Indian situation. Foreign Direct Investment “Foreign direct investment is defined as investment by a resident entity in one economy with the objective of obtaining a lasting interest in an enterprise resident in another economy” (OECD, 2010 p88). Foreign direct investment involves a company in one country investing in another entity in another nation to attain a long-term business interest in a business that exists in another economy. In other context, any investing activities that control and manages value creation in other countries is considered a foreign direct investment (Peng, 2011). These entities are known as multinational enterprises and they aim at creating control either through agreement or equity acquisition in a foreign country to help the firm obtain some advantages in the foreign nation (Peng, 2011). “Foreign direct investment is defined as an investment involving a long-term relationship and reflecting a lasting interest and control by a resident entity in one economy in an enterprise resident in another economy” (Takamura, 2011 p245). This definition of FDI focuses on the long-term aspect of FDIs. This suggests that these foreign direct investments seek to attain some relationship that would span into the distant future. This is to be separated from short-term interests which might last for three years or less. Such arrangements cannot be classified as FDIs they are more or less some kind of operational agreement and may not qualify to be viewed as an FDI. Examples of FDIs include building production plants to retain control and acquiring a research and development entity in a foreign country (Neuhaus, 2011). Prompters of FDIs, OLI Theory Every business exists to maximise profits by cutting down costs and increasing revenue. However, there are imperfections in every market which can potentially stand in the way of attaining the goal of profit maximisation (Aswathappa, 2010). Most businesses set out to balance the imperfection of their home market by taking advantage of better conditions that exist in other markets outside the country. The eclectic theory indicates that businesses use a combination of factors to attain this end (Aswathappa, 2010). John Dunning's eclectic theory indicates that the multinational entities are relatively more successful than their strictly local competitors because they take advantage of ownership, location and internalisation advantages (Dunning,. 2003). “If a firm is to be profitable abroad, it must have some ownership advantages not shared by its competitors which are internal and specific to the enterprise but readily transferable across borders within the MNE's network” (Dunning, 2003). In other words, a profitable entity would have to get competitive advantage by identifying a section of its operations which can be carried out in a more favourable part of the world where there are some advantages. This can be done by internalising this external entity through the outsourcing of some functions and the attainment of significant control in this foreign entity. In effect, the international entity would allow the business to control affairs in the foreign country and this would allow them to access important trends and activities in a different part of the world where there would be positive returns. The OLI (Ownership, Locational and Internalisation) framework put forward by Dunning is very important and crucial in the definition of competitive advantage in terms of foreign direct investment. The ownership advantages are defined as the unique capability proprietary to the firm which may be built upon product or process, technology, marketing or distributional specific skills (Weiss, 2011). This means that the ownership element allows a firm to acquire control and use that control to its advantage. This could include controlling a technology, marketing, distributional, process amongst other things to enable the business to thrive in a different jurisdiction. The alignment of competitive advantage in an ownership specific context is based on the relative advantages that exists in the location (Dunning, 2002). In other words, the locational advantages form a key and fundamental element and aspect of the success of an MNE for the parent company. The ability to make use of these advantages relates to the integration and the internalisation of these advantages to help the parent company to attain its desired goal or end (Dunning, 2002). The prompters for these arrangements differ. Dunning identifies that there are two main bases for the growth of these FDI arrangements. This include Resource Based factors and Evolutionary Based factors (Dunning, 2002). The resource based factors relate to creating and sustaining new competitive advantage in a foreign country. The evolutionary based motive for FDIs is steeped in the fact that the specific FDI arrangement has potentials for further expansion over time. Foreign Direct Investment in China China commenced the open-door policy on foreign investment in 1978 (Wei, 2004). This was after running the nation as a secretive Communist nation built around the clouds of mystery surrounding its leader, Mao Zhedong. In this era, China was closed to foreign investments and there was limited room for interaction with the rest of the world. However, in 1978, the nation opened up and began its liberalisation process. FDI grew rapidly in China and reached record values of $448 billion in 2003. The country is the largest host of FDI in the developing world (Wei, 2004). China is currently very attractive to academic researchers and businesses. The purpose of opening up was announced to be in relation to attaining foreign capital, attaining advanced technology and attracting management skills ( Wei, 2004). The development of China's business environment in relation to receiving foreign direct investment was in relation to the attainment of the experience they needed. Being a nation that was closed for years, China began its foreign investment process in four main observable phases (Wei, 2004). This include: 1. Experimental Phase (1979 – 1983): At this phase, the country opened up special economic zones in Guangdong and Fujian with the view of learning about how to control foreign investments. Through this, the country institutionalised FDI and maintained a close eye on the process. 2. Growth Stage: (1984 – 1991): The country replicated and institutionalised the successes attained in the special economic zones. This allowed for them to consolidate their successes and open up China to further FDIs. 3. Peak Stage (1992 – 1993) At this stage, the successes led to the growth and expansion of the appropriate structures of the country. 4. Adjustment Stage (1994 Onwards): At this point, China adjusted and spread the inflow of FDIs to the different parts of the country. Ownership as enhanced through the attainment of Equity Joint Ventures (EJV), Contractual Joint Ventures (CJVs) and Wholly Foreign Owned Enterprises (WFOE) (Wei, 2004). These three legal structures and arrangements enabled foreign investors throughout the world to acquire business stakes directly in China. This allowed Chinese businesses to easily cooperate and integrate foreign business interest in their operations. Locational Advantages in China came in different ways and forms which allowed foreign businesses to build interests and flourish in China. Some of the national causes include the market size and the demand from the large population of the nation (Mercereau, 2004). The country with a population of 1.5 billion has a large market and China remains a good market with huge demand trends which supports the economy. The country also had a rapid economic growth. The country continues to increase its economy and the economy remains one of the fastest growing in the world. Additionally, China remained the head of the Third World In the era of the Cold War, China maintained its neutrality in the bipolar contest between the United States and the USSR. China rather positioned itself as head of the Non-Aligned Movement which put together nations in the Third World. Through this, China established bilateral and multilateral pacts with nations in Asia, Africa and the rest of the developing world. Due to this, the market of China continue to increase since they export to different parts of the world. China also continues to grow its influence in these nations. Thus a business that acquires stakes in China is likely to get some access to the large market and the markets of the developing world through China (Takamine, 2012). Also, China remains a major strategic location. It is close to many different nations around the world. It has linkage to the United States and Japan. This makes it easy and convenient for these nations to transact business with China without having to cover large distances. Additionally, China's infrastructure and human capital base is strong. The country has good infrastructure and well functioning systems and structures in most sectors. Adult literacy in China is large and the cost of labour remains low. China's cost of materials is low and this allows businesses from foreign nations to attain benefits like lower costs if they operate in China. Internalisation remains very simple and positive in China. The country has a predictable and reliable business system that allows businesses to easily and conveniently link its ambitions with other businesses in China (Santiso, 2007). There are numerous regional investment conglomerates in nations like Hong Kong, Taiwan and Singapore that provide appropriate international services that allows businesses to link their finances with mainland China. China joined the World Trade Organization in December 2001 (Gernaut, 2007). This was after 15 years of negotiations that saw the standardisation of several elements of the Chinese business environment. China continues to maintain liberal systems and structures to support foreign businesses in the nation. China's tax code also provide a tax rate of 33% for foreign entities that operate as wholly owned foreign entities (Gernaut, 2007). The tax rate for local Chinese businesses is 25% whilst the rate for companies with foreign investments is just 15% (Gernaut, 2007). This means that there is a proactive approach used by the government to encourage foreign investment. Foreign Direct Investment in India India and China are at the forefront of attracting foreign direct investment. This is because the two nations have the world's largest population. India has some trends and systems that mark its foreign direct investment framework and systems. According to Ray (2005) India maintained an indigenous system of supporting its businesses and industry. The Indian government provides support for businesses that run the indigenous systems and models of doing things. The government came in to liberalise foreign business operations in the country but this was done in what Ray describes as a 'negative way'. The negativity that the Indian's government's attempt to promote FDI created was that they did not seek to directly help and support transnational companies. They just liberalised by word of mouth and that was supposed to be it. No effective step was taken to promote foreign direct investments and no special entities were set aside for conscious care and monitoring. Due to the fact that no proper care was taken in accepting foreign investments, there were problems and issues with the way FDI integrated into the Indian economy. There were no conscious efforts to promote important and strategic industries and enhance FDI in those sectors (Rameshan, 2008). Instead, an open system was created and maintained by the government. Also, specific adjustments were not made for the different regions of India. This was necessary because India is not even in its infrastructure and wealth distribution. Hence there was the need for a conscious effort to redirect foreign direct investment in relation to the importance of the regions of the nation. Also, local partnerships were not given any kind of assistance or support. This led to major structural and adjustment issues. In terms of ownership, there was no effort to promote the growth and ownership of FDI ventures in the country. In terms of the Indian economy, there is a major problem with the country. First of all, the annual growth rate of India is estimated to be between 6% and 7% on the average (Allaoua, 1996). However, the economic growth rate is cancelled by the high birth rate which stood at 5% in the 1990s. This rate of 5% meant an ideal economic growth of 15% to promote and sustain development (Allaoua, 1996). On another angle, the Indian integration into the global markets and international business is restricted in many ways (Namla, 2007). India maintained its linkage to Britain and focused on outsourcing for British businesses and new industries like pharmacy and information technology (Krafft and Mantrala, 2010). Also, writers like Sinha and Mohta (2007) state that the infrastructural base of India was very weak and poor. Unlike other countries, India had a limited infrastructural base and this limits the ability to integration. This makes it hard for foreign businesses to link up with the national environment. Reasons for growth in FDI in China, ahead of India Rugman provided a critical analysis of the differences between the FDI trends in China and India (2007).In the analysis, he identified the core factors and situations that made China more attractive to foreign investors who seek to invest money overseas. In the first case, he identified that the development of China for foreign direct investment was done in a very structured and carefully cultivated manner. Through this plan, people from different industries and units were covered by the plans of the government. The Chinese government spent money and promoted different units of its economy. It set standards for some specific sectors and units. On the other hand, India's foreign direct investment system was not very well structured. It was developed in a fire-fighting system. Thus, the sectors that were not favoured were not developed for further FDI investments. Due to the unstructured system, the Indian FDI industry only developed around the areas that India had global competence like outsourcing of business processing, Information Technology and the Pharmaceutical industry. China also prepared itself for the internalisation of foreign businesses and the creation of the right infrastructural system and structures for foreign investors. This was done through the mobilisation of capital and the development of a cheap labour market. India did not make any conscious effort to improve its infrastructure ahead of liberalising trade. Rather, India opened up with strict and tough labour laws which turned out to be tough and difficult for foreign businesses to adapt to. Conclusion Foreign direct investment involves one entity investing in a business venture in a foreign country. These investments were often meant to promote control in a foreign country in order to attain power and further their interest in a foreign entity. FDI is meant to enable a given business to attain opportunities in foreign countries. Ownership, Locational Advantages and Internalisation form the crux of foreign direct investment. Ownership relates to how a business attains control and rights in a foreign business. Locational advantages relate to the ability of a business to take advantage of the local opportunities in a given country. Internalisation refers to how a business makes good the advantages that the FDI brings to it. This research identifies that China and India are both attractive destinations for foreign direct investments. However, China is ahead of India in terms of foreign direct investment because of several factors. First of all, the Chinese made a conscious and structured effort to promote FDI in their nation. The Indians on the other hand used an unstructured system which turned out to be detrimental to their FDI systems. China offered structured and favourable ownership systems whilst India failed to draw up such definite systems of ownership. China maintained advanced infrastructure and systems that promoted FDI. India expected its foreign investors to work within the local context which was not very favourable. China had a high quality literate adult population that charged very little for their labour. India did not restructure its labour laws before inviting foreign investors. Also illiteracy is high in India and this stands in the way of the country's attempt to attract foreign investors. Businesses that operate in China have a reliable business environment and there are many financial institutions that support business investments in mainland China. China provides tax incentives for transnational entities and enhances cooperation. India's business environment has many issues that prevents regular business. India has limited financial support and due to this, more international businesses prefer to invest in China than in India. References Allaoua, Z. (1996) India: Five Years of Stabilisation & Reforms & The Challenges New York: World Bank Publication. Aswathappa, M. (2010) International Business New Delhi: Tata McGraw Hill Dunning, J. H. (2002) The Selected Essays of John H Dunning: The Theories in Analysis of Global Business Surrey: Edward Elgar Publishing. Dunning, J. H. (2003) Extending the Eclectic Paradigm in Industrial Business Surrey: Edward Elgar Publishing. Gernaut, R. (2007) China: Limiting Markets for Growth New York: ANU E Press. Jones, I and Wren, C. (2006) Foreign Direct Investment: And the Regional Economy Surrey: Ashgate Publishing. Krafft, M. & Mantrala, M. K. (2010) Retailing in the 21st Century London: Springer. Mercereau, B. 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