The OLI Paradigm: German FDI in China - Example

The OLI Paradigm: German FDI in China By: Several global investors found Asia appealing for international trade from the 1970’s. All through the 1970’s, 1980’s and 1990’s, Japan was the preferred trade partner of European nations like Germany. The accession of China to the World Trade Organization in early 2000 shifted focus, and direct foreign investments from Germany to China progressed at a high rate. In as much as German investors functioning in China have had to put up with several challenges, most of them have often laid their intentions bare and failed to hold back their intentions. This research paper therefore aims to shed more light on the motives and prospects of German FDI in China, as well as whether such investments fall within the OLI framework. Introduction From the 1970’s to early 2000, Japan was the key German trading partner in the Asian block. This was principally because its market was open, and the cost of production of goods and provision of services was reasonably priced. Chinese membership to the WTO in 2002 however, proved productive for China than it imagined. This is because it opened up its market for venture, and German companies opted for direct foreign investment instead of collaborating with local Chinese firms to produce goods and offer services on their behalf. One of the reasons why German investors had high repute for the Chinese market was the accession of China to the WTO, just as mentioned in the abstract. This was a key turning point for the Chinese market, for all the trade barriers that had been obstructing business in the past were eradicated. Research carried out by Deutsche Bank in the year 2003 and published in August 2004 indicated that 1500 German companies were operating in China by the end of 2003. The volume of German FDI in China similarly increased by tenfold from 800 million in 2002 to Euros to 7.9 billion Euros in 2003 (Deutsche Report 2004, pg.1). In as much as China was unquestionably the ideal trade destination at that time, Deutsche Bank similarly reported that the German investors faced countless encounters while operating in China. The effect of the Chinese market for example, was double edged. This is because it provided a ready market on one hand, and made it difficult for German investors to concentrate on a standardized market on the other hand. All the same, German investors have continued to operate in China and the number of German companies in China currently has more than tripled. Going through the coursework and various sources such as World Bank reports on multinational trade, makes me hold the opinion that direct foreign investments in China from Germany fall within the OLI paradigm. The major objective of this research paper is to provide additional information on the motives and challenges of German FDI in China. At the same time, the research paper looks into the future by focusing on the prospects of German FDI in China, in light of the changes that have taken place within the market in recent past. Based on the intentions above, the research paper answers the question as to whether German FDI in China falls within the OLI paradigm, which is a policy that helps corporations assess the profitability of all their direct foreign investments. Literature Review The Deutsche report of 2004, which also forms an integral part of the coursework reports that in as much as German companies invested in the Chinese market, most of the corporations were in the manufacturing sector. The companies majorly focused on automotive, with Volkswagen taking the lead, as well as electrical, mechanical and chemical engineering. According to the report, service companies also partook the Chinese market on some occasion with TUI in the travel sector, Deutsche Post in logistics, and Allianz in Insurance, Metro in retail and a good number of German banks, which participated in the finance industry (Deutsche Report 2004, pg. 2). The report argues that the key reason why there were several German manufacturing industries in China was the German industrial background, which perfectly supplemented the Chinese assembly line. The Report further attests that most of the German companies that invested in China were large corporations, which took 80% with the Small and Medium Enterprises taking up approximately 10-20%. The metropolis of Shanghai was an integral destination for German corporations, as most of them considered it as the perfect destination to help them venture into the Chinese market. Part of the reason why Shanghai was preferred was its good infrastructure, closeness to customers and industrial clusters, as suppliers and distributers frequented the region (Deutsche Report 2004, pg. 4). The report similarly mentions that many investors preferred the Industrial North East of China because of closeness to the port. At the same time, the Pearl River Delta was preferred by many of the Small and Medium Enterprises in light of the fact that the region had been skipped by most of large corporations that were operating in China. As a result, they wanted to take advantage of the untapped market. According to information from the German Chamber of Commerce, the market potential of China was the major motive for German FDI in China. The report mentioned that Germany had approximately 76 million prosperous consumers, who did not find any difficulty in spending. The 76 million was larger than the entire German population, and it was expected that the percentage of prosperous consumers would increase by tenfold to around 700 million in 2010. After China’s accession to the WTO, the German corporations therefore ventured into the Chinese market because of its ability to offer ready market for the products and services presented by the Germans. According to input from Deutsche Report of 2004, the low cost of manufacturing in China is also a motive for German FDI in China. This is because the cost of labor in China stood at $1.5 compared to $20 in Japan as well as South Korea, Taiwan and Singapore’s $8 (Deutsche 2004, pg. 5). The German investors were principally motivated by the fact that the skillful labor offered by Chinese employees made it easy for them to manufacture goods earmarked for export. At the same time, the low cost enabled the organizations to compete effectively with other international manufacturers. The report similarly mentions that the new opportunities created by the WTO membership motivated German corporations to venture into the Chinese market. This is majorly because inroads made before the WTO membership could only be made to a limited extent. The WTO membership therefore provided easy access, and prompted rapid economic growth within China, a fact that was corroborated by the great investments registered in the period leading to the Beijing Olympics. Whereas the Chinese market has been quite attractive to the German corporations over the last few years, things are slowly changing given the current market trends. The German firms have recently faced stiff competition from other manufacturers from the dollar bock such as USA, Australia and Canada. Such an event has made it quite tricky for the German investors to infiltrate some sectors of the economy. At the same time, there is competition from local firms who are preferred by some Chinese citizens because of the fact that they understand its logistics. According to Frey (2005, pg. 3) the fact that most of the local and dollar block organizations began operating in China way be for the German companies has in a way made It difficult for the German investors to control some regions. The increase in rate of industrialization in China made it challenging for all the corporations to acquire power. In addition, most of the German investors have been forced to deal with the soaring prices of raw materials such as copper and aluminum, which were high because of the high demand. The Chinese population may be in a position to offer ready market but German corporations have faced the challenge that comes with lack of market information and accountability. At the same time, the corporations have had to cope with the issue of legal uncertainty, which comes about because China has not put in place regulations that govern property rights, an event that has left most of the German companies open to legal cases. According to Deutsche Report (2004, pg. 6), the Chinese administrators have time and again been hesitant to provide customer information, a fact that has made it extremely difficult for the German investors to plan and focus within a specific market segment. As mentioned in the introduction, the extensivity of the German market has been a point of concern for the German companies. This is because the German organizations have not been able to find perfect suppliers who will make transfer of goods from one point to another manageable. According to information provided by Bloomberg (2005), Germany is China’s main economic partner in Europe while China is Germany’s main economic partner in Europe. This is a fact that can be corroborated by the number of German companies that are currently operating in China, which at present stands at around 5500 firms. Bloomberg similarly reports that German FDI to China is set to escalate to around $400 million in the month of April, all the way from $322 million in the month of March. The Germany-China Centre for Economic Research is an organization that is tasked with the responsibility of assessing trade between China and Germany. According to reports published on the organization’s website, the global market has changed to a greater deal due to intense competition and high customer demands (GCBER). All the same, the organization reports that the future of German FDI in China still looks greater than it was over the past few years. The bureau reports that the Chinese consumer market, which has been a major motive for German FDI in China, is likely to continue increasing and hence shall carry on pulling global investors to Germany. In as much as the Deutsche Report of 2004 reports that German FDI in China may be of no use in the future, trade relations between the two nations is likely to continue for the foreseeable future, for the German corporations will continue providing market for the goods and services they introduce to the market. Given the present economic position of China, one may be tempted to harbor the idea that the region has been fully exploited. That however is not the case given that the bureau of economic research has in the recent past published regions that are yet to be fully exploited by German corporations and other global investors. Such provinces that majorly fall within the interior of the nation include Henan and Anhui, which are still untapped in central China. Recent reports have in some way insinuated that China is no longer appealing to German and global investors at large because of its cost of labor that has sky rocketed due to the tough economic times. The bureau of economic research attests that in as much as the cost of labor in China may be high, the nation still offers private investors and larger corporations a fair deal in all their transactions. This is essentially because of its high level of infrastructure and highly skilled personnel (GCBER). Reports in Germany show that most of the German firms operating in China are doing perfectly well. Implying that they still register considerable profits amidst the tough economic times. The prospective future is likely to come about because of the sustainable Chinese economy, which is purely based on innovation. At the same time, it is important to observe that the Chinese market has developed into one that believes in domestic consumption. As a result, the aspect of German firms investing directly in China makes their products and services readily acceptable by the Chinese inhabitants. This is because they understand all the operations related to the products. As of 2014, the value of bilateral trade between China and Germany stood at above 140 billion Euros and that value is expected to increase by around 0.6% at the end of this year, which implies that the future could never be brighter for German organizations. Results and Discussions Foreign investors depend on the OLI paradigm to determine the profitability of most of their foreign projects. The theory is based on the assumption that companies will opt for internal transactions in case those that take place within the open market are expensive to carry out. Many a times the OLI paradigm works when global corporations have preference for direct investments as compared to collaborating with a local company to manufacture their products before selling. It would be inappropriate to ignore the fact that consumers often have preference for local products to foreign ones. This means that foreign companies may find it difficult to operate in some international markets. All the same, the German corporations still operate in China by buying or putting up their own infrastructural blocks within which they function and manage to register some profits amidst the logistical issues that they face. The fact that the German firms are located within China means that they are able to interact with the clients on first time basis, and that they can carry out their own market research and understand the market, which enables them to provide the goods and services that the customers demand. As outlined by the OLI theory, internalization is an aspect that German companies take seriously. This is because they know collaborating with other local companies may negatively harm their reputation. German firms began investing in China in the seventies, though the WTO membership facilitated their entry. Given that, their number has been increasing with time means that they fall within the OLI theory. This explains why Germany has more than 5000 firms operating in China yet China has only 900 firms operating in Germany. The bilateral links between China and Germany are increasing because of the balanced manner in which they carry out their trade. German firms continue opening their doors in China because of the favorable environment, and such trends are likely to continue into the future. Conclusion In 2003, it was projected that the value of trade between Germany and China will stand at about 20 billion Euros. That has come to pass in as much as German FDI in China makes up only 1.2% of total German FDI. German companies saw an opportunity in China and never looked back. Their investment has long superseded that of the U.K, which was the most dominant European player in China. In as much as issues of legal uncertainties have been rampant in China, the huge market potential and low cost of manufacturing has made the Chinese market quite attractive. 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Foreign Direct Investment in China: Challenges and Prospects for Regional Development. Ramamurti, R., & Hashai, N. (2011). The future of foreign direct investment and the multinational enterprise. Bingley, UK: Emerald. Tisdell, C. A. (1997). Chinas economic growth and transition: Macroeconomic, environmental and social regional dimensions. Commack, NY: Nova Science Publishers. UNCTAD (2004). World Investment Report. Yeung, A. (2011). The globalization of Chinese companies: Strategies for conquering international markets. Singapur: Wiley. Appendix 1 Appendix 2 Appendix 3 Appendix 4 Appendix 5 Read More