Foreign Direct Investment and Economic Growth - Essay Example

FOREIGN DIRECT INVESTMENT AND ECONOMIC GROWTH By Location Foreign Direct Investment and Economic Growth Foreign direct investment refers to the process in which individuals or business organizations from a certain country invest in production or businesses in a different country from the one they are in. This can always take place when these individuals or business organizations buy an existing business in the target nation or expand their operations of an existing business organization in the targeted country. There are three main types of foreign direct investment, namely: horizontal foreign direct investment; platform, foreign direct investment; and foreign direct investment. The horizontal foreign direct investment takes place when a business duplicates their activities in their home country in the targeted country. Platform foreign direct investment refers to the investment from a country to another country with the aim of breaking into the market of a third country. The vertical foreign direct investment takes place when a firm performs value addition gradually and vertically in the host nation. This paper aims at discussing why export push and FDI were important for Chinas sustainable growth from the late 1990s onwards. Economic forums that took place in China in the early 1990s were fundamental to the economic developments that were experienced during that period. The country carried out changes in the legislative process, value system, infrastructure, and a number of other socioeconomic reforms. By the late 1990s, China had developed into one of the greatest recipients of foreign direct investment. In the year 2002, they even managed to become the biggest recipient of foreign direct investment. Despite that fact that foreign direct investment in the United States of America took over as the largest in the year 2004 it is indubitable that foreign direct investment has been highly beneficial to the economy of China. One thing that can be used in support of the economic importance of foreign direct investment is the fact that it has contributed to the booming of the manufacturing export sector. Foreign investments have increased the number of companies that produce exports that are exported to countries all over the world. This is basically because when the foreign investors invest in china they bring with them capital that lead to the increase in the volume of production made in the country (Fortanier 2007, p. 44). This means that there will be a bigger volume of exports that are exported to foreign market, leading to an increase in what the country earns through such export activities. Currently, more than half of the exports from china are produced by foreign-based business organizations. Another way through which China must have benefited from foreign direct investment is through the exchange of technology. When foreign investors take the initiative to start their production activities in China come with technologies that they do use in their native countries. Such exchanges are always very good for the economy of a country. When these technologies are introduced in China, the local business organizations can adopt some of them that will help in improving the various aspects of production in the country. The aspects of productions that can be affected by the adoption of new technologies include production cost, production period, and production quality (Hermes & Lensink 2003, p. 152). When these qualities in products are improved it is most definitely that the profits that are earned from these production activities will increase, thus increasing the rate at which the Chinese economy benefits from these activities. Another way through which China has benefited foreign direct investment is the transfer of knowledge. When foreign investors invest in China, they come with their own management teams. Some of the skills and knowledge that these people might have are new to local managers. As a result of these investments the local managers can learn a few things from the new manager thus improving their managerial skills (Cheng & Kwan 2000, p. 388). This will improve the way businesses are managed in China leading to a higher rate of economic growth. China also has highly benefited from foreign direct investment because of the millions of job opportunities that have been offered to their citizens by business organizations that exist as a result of foreign direct investment. China has a very high population, which can be sued as human labour. However, the population would not be economically important in the absence or limitation of economic activities in the country. Foreign direct investment will definitely require human labour to help in their production activities (Buckley, Clegg, Cross, Liu, Voss & Zheng 2007, p. 502). In exchange for the services given they usually pay the employee leading to an increase in the general public’s purchasing power. When foreign direct investment takes place in a country, there is always a competitive effect in the host country. Regardless of the industry in which the foreign investors decide to invest in, the introduction of a new player in any industry. When an industry is highly competitive, there is always an improvement in its performance. This is because every player will be striving to make sure that they survive in the industry. The fight for survival will mean that the players that are involved in the market will have to make sure that they do their best in order to cope with the high standards that are always associated with high levels of competition (Haskel, Pereira & Slaughter 2007, p. 489). With the increased production standards and quality goods produced in China has experienced an increase in international demand over the past three decades. This will mean that the country’s economy is indirectly benefiting from the high levels of competition that is brought about by the existence of foreign direct investment. Whenever individuals or business organizations involve themselves in foreign direct investment they usually have to invest a certain amount of capital in the new venture. The capital that they invest can have many effects on the economy of the country in which the new investment is in. This was the exact case in China. Given that there are a big number of companies that are started through foreign direct investment in China, there is a huge amount of capital that was initially invested in the country as a result of foreign direct investment (Sun, Tong & Yu 2002, 99). The economic effect of foreign investment does not just come through the crowding of capital in the local market but also in stimulating the local capital. The first point that should be noted is that china mixes two factors in its economy; the socialist and market factors. For this reason, china has grown and is still growing at a steady pace, perhaps more than any other county in the world. This then means that other countries should learn from it. Discussed below are the various factors that have transformed China into arguably the leading economy in the world. When Oskar Lange introduced the idea of market socialism in the year 1930’s, which ideally means that the state has control of the factors of production, but followed the normal supply and demand structure, the Chinese economy literary changed for the positive. Although agricultural reforms and urban reforms were introduced, which gradually expanded the market element, the control of the factors of production remains key to the success of china’s economy? Understanding these elements is the only way one can understand the growth of china’s economy (Berthélemy & Demurger 2000, p. 148). In the year 2004, China overtook the USA as a destination for the FDI. Currently, foreign enterprises are at 28% and 57% of the goods and services are exported. All these are attributed to steps China has taken in ensuring it stays ahead of the pack when it comes to sustaining FDI and exports (Broadman & Sun 1997, p. 344). China has learnt from Singapore, Thailand that are one of the countries that are experienced and are the pioneers of FDI that Leeds to the growth of exports in China. Exports have been the engine of efficient economic growth since the year 1985. Export has led growth strategy converted China from an autarchy into an essential link in the global production chain developed between 1965 and 1985 by the NeIndu wly strializing Economies and the ASEAN 4. The first step taken by China is to identify potential foreign developers across the globe. This has been indiscriminately by choosing from developed and less developed countries. It does this by ensuring it offers a clear road map for the foreign investors who can improve its expertise, skill, and technological levels and mostly increase its exports sustainability considered. Since 1997, their FDI has been between 3 % and 5%, which has been attributed to competitive capital subsidies offered by china (Liu 2002, p. 584). The banks offer loans to state owned business that in turn produces goods at zero cost or negative effective capital cost. It then naturally transforms into subsidies that are offered to the FDI. This is an effective means of attracting the foreign investors. Through this process, competitive items are discovered which go a long way in forming a chunk of the skill intensive exports (Graham & Wada 2002, p. 2). Export processing is another way in which china increases its exports. This is done where the buyer supplies the required ingredients and gets back a finished product for export. This forms 17% of the exports. These kinds of goods are called to labour intensive goods or LI, which is very competitive. This process gives china an advantage in mass production. The secret in the perceived superior productivity of Chinese workers in not in the per-hour worker productivity. However, it is in the labour laws because it is not constrained by bourgeois labour laws. This transforms the number of hours per month higher than any other country in the world. Another secret that China uses is that it builds infrastructure well ahead of demand and for this reason, it brings attention to China from investors as a suitable location for the FDI. This becomes an advantage because even if the infrastructure is underutilized, it will become an asset to be used in the future. China’s economy has grown for 8-9% per year since 1980’s and this has been a contributor to the largest foreign investment experienced in the country. Rapid market growth provides business opportunities for the businesses and for this reason; China has been able to attract a large number of foreign investors for a long period. The geographical distance between the host country and the FDI plays a key role for FDI a country experience. The lesser the distance between the two countries means that there shall be less monitoring charges and transportation costs. However, China has had tremendous growth in the communications technology and as a result the distance barrier has had little or no effect on the foreign investment in China. Exchange rates are also an important factor that attracts investments. China’s currency is stronger compared to many countries and for this reason many countries would want to invest in china since that means that they will get a higher return on their investments compared to other countries. With the ever growing and steady economy, it means that china’s currency has been strong and steady for a long time (Zhang & Song 2002, 387). This boosts confidence and encourages business to continue investing in the country. Between the year 2000 and 2007, the exports of china rose from 20% to 35%, which means that the imports were left chasing the exports making china dependent on its exports. In 2009, china became the largest global exporter and in 2010 managed to become the second largest economy in the world after beating Japan. When china finally entered the world trade organization in 2001, it immensely helped its textile, apparel, and furniture industries to blossom by an amazing 220% by taking advantage of its low cost labour. When it comes to metals, it grew by 630% from 2001 to 2007 that was higher than Japan and almost 10 times more than USA. This is because energy prices were controlled by the government and subsidized significantly over a short period. Machinery grew by 520% over the same period, which accounted for about 45% of china’s total export growth. This is growth was attributed to the exchange rate regime. The Renminbi was pegged to the U.S. dollar, but due to the increasing exchange reserves, the authorities have intervened and stopped it from appreciating. The area that grew most is the laptops, LCDS, and cell phones (Zebregs & Tseng 2002, p. 76). The growth in these sectors can be attributed to the fact that laptops are a new product in the market, but also because china has invested a lot in the science parks, which are incubation centres. It is clearly evident that China has highly benefited from foreign direct investment in the past two decades. This can be seen in the manner in which the economy of China has benefited from foreign direct investment during this period. However, the rise in foreign direct investment in China should not be taken for granted. China had to do many things in order to make sure that foreign direct investment increase in the country. For foreign direct investment to take place the government of China had to do many things to make the Chinese economy attractive to investors. Other natural factors in China also contributed to the rise of foreign direct investment in China. Judging by the facts given in this paper, it is clearly evident that the economy of China has highly benefited from foreign direct investment. Bibliography Berthélemy, JC & Demurger, S 2000, “Foreign direct investment and economic growth: theory and application to China”, Review of Development Economics, 4(2), 140-155. 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