Effect of FDI on Chinas Technological Status - Essay Example

Effect of FDI on China’s Technological Status By China is an emerging economy and has continued to experience great economic success starting about thirty years ago when the country achieved economic liberalization. China has successfully participated in trade and investments at the global level, thus is well integrated in the economy at the global level. Most importantly, the FDI inflows in China today are considerably high and the many foreign firms in the country continue to enhance its growth economically. Technology being a critical component of any country’s economy remains highly crucial for the development of any country, including China. In China, the policy makers have in the recent years paid great attention to technological development in the country and the major aim is to make China a technology sophisticated country (Adams, Gangnes, Shachmurove, 2006). Being an important component of the economy, it is with no doubt that FDI in China influences the country’s technology. This paper examines how FDI affects the technological status of China. China has experienced a remarkable increase in its FDI, and this has continued to grow starting from the mid 1980s. Figure 1 below shows data on the yearly FDI inflows of China between the year 1985 and 2014 and this exhibits an increase in FDI inflows in China, even as this stood at $2 billion in the year 1985 and grew to reach $128 billion in the year 2014 (Morrison 2015). Figure 1. Chinese Data on Annual FDI Inflows to China: 1985-2014 ($ billions) In all the developing countries of the world, China ranks among the four largest receivers of FDI (Sjöholm, 2008) and in the year 2014, as shown in figure 2 below, estimates by the United Nations indicated that China was the worlds largest destination for FDI inflows and Hong Kong and the United States followed behind. It is predicted that there will be persistent FDI inflows in China even in the future because currently, they are still modest (Morrison 2015). Figure 2. UN Estimates of the Largest Recipients of Global FDI Inflows in 2014 ($ billions) Foreign companies contribute immensely to the growth of the economy in China, even as these are the source of FDI in the country. These foreign-invested enterprises remain core to Chinas foreign trade even as they continue to contribute to the growth of foreign trade in China. In the year 2014, foreign companies accounted for 46.3 percent and 45.9 percent of Chinas imports and exports respectively, even though the peak was experienced in the year 2006 when the percentage of imports and exports accounted for by the foreign companies were 59.7 and 58.2 respectively as indicated in figure 3 below. Nonetheless, comparing the share of Chinas export and imports attributed to foreign companies between the years 1990 and 2014 shows a vast difference and this mainly points to how foreign companies in China continue to contribute immensely to exports and imports in the country (Morrison 2015). Figure 3. Share of Chinas Exports and Imports Attributed to Foreign-Invested Enterprises in China: 1990 - 2014 With regard to capital intensity, productivity and wages, the multinational companies in China surpass the domestic companies and other categories of firms by ownership in the country (Morrison 2015). This therefore, implies that the FDI inflows in China have been of great benefit to the workers in China as well as the Chinese economy. Sjöholm (2008) notes that the foreign and non-privately owned firms in China are of the same size, but these are larger and quite incomparable to the private firms in the country. The aspect of exportation is the main factor that differentiates multinational companies in China, even as most domestic firms produce for local consumption while the foreign firms export more than 50 percent of their products. The increase in FDI inflows in China which has a positive effect on the countrys economy is attributable to the different policies that the country has adopted which have created a conducive environment for International trade. Most importantly, the Open-Door Policy that China adopted in 1978 was key in enabling the country to renounce its previously held self-reliance mechanism that had closed it to foreign trade and hence FDI. This policy did away with the monopolization by government corporations and resulted in the emergence of private corporations which together were later allowed to participate in foreign trade (Jong 1993). Furthermore, the Go Global Policy that the Chinese government adopted in the year 2007 was a strategy for development and saw the rise in exports in the country (Bellabona & Spigalli 2007). More recently in 2014, China has adopted the One Belt One Road Initiative which is considered a development plan and diplomatic strategy that mainly aims at realizing economic cooperation among countries via their linkages through transportation infrastructure. This will have implications for economic development as well as international relations between China and its neighbors (Bocom International n.d). Sjöholm (2008) notes that in China, there is no clarity on the extent to which FDI influences the technology of local companies, but an increase in competition in the market could influence technology development in domestic firms as they try to compete in the market or it could decrease the level of technology development in domestic firms because of diminishing monopoly rents. It is generally considered that when firms fail to earn rents in the case that they experience no innovation but become monopolistic when they experience success in innovation, they become innovative. According to Liu & Wang (2003), the effect of FDI can be theoretically explained by different approaches. The industrial organization theories offer an explanation on how FDI indirectly influences the host countries and also examines explicitly the role that FDI plays in technology transfer in the host country. In international trade theories, the effect of FDI on technology of host countries is not discussed explicitly. On the other hand, the endogenous growth theories consider FDI as important source of technology change in the host countries, thus relevant in this case. A major concern has been that FDI do not influence in a significant extent the development in technology as compared to their significant contribution to production and exports in China. China’s policy makers and scholars have noted that although foreign firms contribute significantly to export and production, their impact on research and development including technology in China is lower (Pack 2001). However, some arguments have acknowledged the important role that FDI plays in China’s technological development. Lin & Cheung (2004) in their study using provincial data to examine how FDI affects technology in China found that the domestic patent applications in China had experienced various positive influences of FDI, and the effect of FDI on technology was strongly felt at the level of minor innovation which include external design patent. Liu (2006) found that the extent and influence of FDI on the technological status of China can be either positive or negative. On the positive side, technology spillovers enable domestic companies to experience increased effectiveness in their production process, while on the negative side; technology transfer is costly, as firms must use scarce resources for training on the new technology. A recent analysis by Zhu (2010) shows that FDI inflows in China are of great significance to the country’s economy and counterparts. The multinational firms in China together with the domestic firms have formed product value chain. In addition, the foreign firms through purchasing and supplying have highly contributed to the advancement of the technological level of domestic firms. For instance, the foreign firm GE Healthcare subsidiary based in China adopts close to two hundred suppliers drawn from public, private and joint-venture firms in China who serve to provide mechanical and electronic components and parts. GE Healthcare is known to have major principles in its operations and procedures thus influences positively on the Chinese companies that act as its suppliers, making their products to compete effectively in the global market. About 92 percent of foreign firms in China in the year 2002 had adopted their technology in the production process of the domestic firms in the country, and more than 60 percent of foreign firms localized at a rate of 50 percent within the same year in China (Zhu 2010). Apart from technology transfer, many foreign firms in China have increased their efforts in research and development through the development of campaigns aimed at localizing their products so that they can be attractive to the Chinese customers (Fosfuir, Motta & Rønde 2001). Through such research and development campaigns, the foreign firms in China achieve a major competitive edge and diffuse positive technology to the domestic firms in the country. By September, 2008, the foreign firms in China had established a total of 12200 research and development centres and of these, 33 were raked as world-class while 13 were the biggest centres that the main companies had developed overseas (Zhu 2010). Different foreign firms in China are also known to have invested financially in research and development in the country. For instance, with regard to research and development, by the late 2006, GE had invested 100 million US dollars whereas Microsoft invested 200 million US dollars in China mainly for its technology-related operations in the year 2007. On the other hand, Bosch, a German-funded multinational, in the year 2005 developed an engineering centre in China and put plans in place to invest 60 million US dollars annually in order to develop automotive devices that are of high quality (Zhu 2010). In China, the East areas receive more FDI compared to the West and Central areas because the East is more inclined and open to receive foreign technology, they are more likely to benefit technologically more even in future as compared to other regions that are not inclined to accept technology spillover effect. This was made possible since the year 1984 when the Chinese government declared the region open for foreign direct investment and technology soon after the adoption of the Open Door Policy (Jong 1993). Foreign firms in China endeavour to produce high-quality products thus focus more on raw materials as well as upstream services and in close association with the upstream businesses (Zhu 2010). These firms will also select the best suppliers and will offer professional and valuable technological and managerial advice and assistance to these suppliers. This guidance serves to increase the level of development of the domestic firms thus enabling them to compete effectively in their respective markets (Gao & Zhang 2009). For instance, the foreign firm Panasonic moved its U.S. base for microwave manufacturing to China and by the year 2010 had linked up with 2800 domestic firms in China which serve as its component providers. By cooperating with Panasonic, the domestic firms in China have grasped important technology as well as improved their product process’ operations management (Zhu 2010). When foreign firms make an entrance into the Chinese market, they cause a break in the original state of the market and increase the level of competition mainly because China’s technology and management level is lower. This according to Zhu (2010) means a demonstration effect on the domestic firms in China by the foreign firms. For this reason, the domestic firms will attempt to copy the advanced technologies of the foreign firms. On the other hand, good opportunities for the Chinese local companies to exercise innovation have been created by foreign firms in the country through their establishment of highly-ranking research and development centres (Xu n.d). Employee training and staff turnover is an important channel of technology spill over in China, even as foreign firms hold in high esteem training and orientation of their staff (Fosfuir, Motta & Rønde 2001). In 2007, a data-based survey in Shanghai, Beijing, Suzhou and Nanjing indicates that half of the investigated foreign firms scored more than 80 percent in training of their staff (Zhu 2010), thus implying that technology spill over is possible through staff mobility. After staff training in the foreign firms, some of the already highly trained employees in the foreign firms move to join the workforce of domestic firms. (Liu 2006). This way, it becomes impossible for technology transfer and extension not to occur, thus improving the level of innovation of the domestic firms. In the recent past, the science and technology policy in China has put an emphasis on the aspects of “indigenous innovation” and “indigenous capacity building” and this points out to the fact that there is some level of skepticism and uncertainty that China holds towards FDI as far as technology development is concerned (Lin & Cheung 2004). FDI inflows have an effect on indigenous technology in a country when for instance domestic firms copy the technology of the foreign firms. In addition, FDI could have an influence on competition in the Chinese market, and this would eventually impact on the level of technology development in domestic firms (Liu & Wang 2003). Some policy makers and economists have drawn attention to how FDI inflows influence indigenous technology in developing countries since it is possible for technological transfers through FDI to substitute the domestic technologies that domestic firms adopted in their manufacturing processes (Lan & Young 1996). Using the firm-level survey data in China, Fan & Hu (2006) conducted an empirical study to establish the ways in which FDI inflows influence the creation of indigenous technology and had two major findings. First, a firm experiences a decrease in its expenditure on research and development depending on the amount of FDI it receives. Second, the firms with more foreign presence experience a higher positive impact on their research and development efforts. The overall finding that even Chen (2007) shares is that the net effect of FDI on indigenous technology and research and development effort in China is negative. Nevertheless, Zhu (2010) argues that the benefits that FDI has on the technology level of China are to a larger extent conditional because the foreign companies do not want to lose their monopolistic edge as far as technology is concerned. In this case, the foreign companies in China will not reveal or share their core technology with the domestic companies in China but will only share their technology that can be considered to be second-class or less-critical. In addition, since the foreign firms in China are mainly attracted by the cheap labour and professional human resources, most of these foreign firms conduct most of their research and development activities in their parent countries and not in China. Currently, there are limited cooperative research and development campaigns between China and the developed countries that are also parent countries of the foreign firms in China. Nevertheless, the technological, managerial and property right structure of domestic firms in China today is highly dependent on technology transfer from foreign firms in the countries, thus making this an important area of focus in China’s utility of FDI today and in future. Conclusively, this paper has shown that FDI in China significantly affects the technological status of the country, especially considering that China is still a developing country with a lower level of technology. Even though FDI may influence the technology of a country either in a negative or positive manner, this paper has shown that to a larger extent, FDI influences the technological status of China in a positive way, as it has significantly elevated China’s technological status of China through various ways. Foreign companies which are the source of FDI in China have caused high competition in the market compelling domestic firms to improve on their technology level. Technology transfer from the foreign firms and research and development are also major ways through which FDI has impacted China’s technological status. FDI in China has no major negative impact on the country’s technological status. There however continues to be a debate on whether technological transfers through FDI substitute the domestic technologies in China. Furthermore, technology transfer is costly while the benefits of FDI on the technology level of China are considered to be conditional. Nevertheless, from the 1980s since China started to receive FDI inflows, there is an immense improvement in the country’s technological status, and this is all attributed to FDI. As an emerging market, there is need for China to ensure its continued technological growth and development thus should ensure a consistent increase in its FDI inflows in future. Works Cited Adams, F.G., Gangnes, B., Shachmurove, Y 2006, “Why is China so Competitive? Measuring and Explaining China’s Competitiveness,” The World Economy 29, 95-122. Bellabona, P. & Spigalli, F 2007, "Moving from Open Door to Go Global: China Goes on the world stage," International Journal of Chinese Culture and Management, Vol. 1, No. 1, pp. 93 - 107. 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Sjöholm, F 2008, “The Effect of FDI on Employment and Technology in China,” Research Institute of Industrial Economics and Örebro University, Accessed from http://www.ifn.se/BinaryLoader.axd?OwnerID=249d8b54-39ec-431d-9baf-9e969bf4a631&OwnerType=0&PropertyName=File1&FileName=SjoholmChina10-20.pdf, 25 June 2015 Xu, B n.d, “The Impact of Trade and FDI Policies on Technology Adoption and Sourcing of Chinese Firms,” Accessed from http://www.ceibs.edu/faculty/xubin/Tech.pdf, 25 June 2015. Zhu, Y 2010, “An Analysis on Technology Spillover Effect of Foreign Direct Investment and Its Countermeasures,” International Journal of Business and Management, 5(4): 178 – 182. Read More