Since the late 1970s, the People’s Republic of China (PRC) has built its economic modernization strategy on a philosophy that regards foreign direct investment (FDI) as functioning in two distinct but interconnected stages. “Welcoming in” (Yin jinlai) facilitates domestic capital formation, market reform, and technological advancement. It is accompanied by a subsequent “going out” (Zou chuqu) of surplus capital intended to deepen access to foreign markets, natural resources and advanced technology, bringing about additional growth and stabilization. The concept bears an analogy, in one sense perhaps, to the ebb and flow of Yin and Yang at the heart of Taoism’s dualistic cosmology, in which complimentary forces interact with one another to create balance in the natural world.
The PRC began to “welcome in” significant FDI after Deng Xiaoping–who chaired the Chinese Communist Party (CCP) after Mao Zedong and initiated its economic “reform” and “opening up” program (Gaige Kaifang) – proposed to integrate China into global capitalism as a means of resurrecting its former imperial prosperity, which, after protracted internal upheaval, had been destructed by a series of foreign incursions and civil wars spanning the 19th and early 20th centuries. From its inception in 1949 to 1978, the PRC tried unsuccessfully and, at times, disastrously, to reconstruct under a communist system in which the state controlled production, exchange, and distribution.
It mattered little to Deng that his vision of China’s economic future represented a reversal of Mao’s policy of self-reliant industrialization. Purged and persecuted by the Party during the Cultural Revolution (1966-76), he was left with few illusions. If no longer a classical Marxist, he remained a fervent nationalist who summed up his pragmatic way of thinking in his now-famous, though often misquoted, saying: “It doesn’t matter whether it is a yellow cat or a black cat; a cat that catches mice is a good cat.” Since his youth, Deng’s aspiration had always been to draw on Western knowledge and resources to, as he put it, “save” China.
China began laying the groundwork for a global strategy in 1978 when it initiated widespread market reforms that saw the de-collectivization of agriculture, experimentation with free markets, and the introduction of foreign capital. At the time, inbound FDI came mainly from (or through) the British Dependent Territory of Hong Kong. Only state-owned enterprises (SOEs) or other approved provincial and municipal entities were allowed to invest overseas, which they did on a modest scale.
A second round of market reforms followed in the late 1980s and into the early 1990s. Non-SOEs were allowed to invest overseas, provided they put up sufficient capital and partnered with suitable foreign entities. Outward FDI quickly rose to over US$1 billion.
In 1992 the CCP announced at its 14th Congress that it would institute a “socialist market economy with Chinese characteristics”. It seemed paradoxical, but Deng reasoned that since economic planning takes place even in capitalist societies, it does not define socialism any more than do market forces, which are evident also within a centrally-planned socialist society. He believed that China could harness the economic benefits of capitalism to the moral imperatives of socialism under the guidance of a centralized and technically proficient bureaucracy.
Deng’s market reforms and China’s immense pool of cheap labor kick-started an export drive that would fuel economic growth for decades and win for the nation the laudatory, if not sardonic, accolade “factory to the world”.
In the early 1990s, China languished under sanctions imposed by Western countries in response to its government’s crackdown on pro-democracy demonstrators at Tiananmen Square in the spring of 1989. But these sanctions had an unintended consequence, for they motivated the CCP to speed up economic development as a way to legitimize its rule – with some success as it would turn out–and to justify authoritarian control as necessary to achieve difficult but fruitful reforms.
In 1992 Deng, now retired from active politics but near the height of his influence, toured southern China, signaling his support for more overseas investment in Special Economic Zones, where market liberalization was encouraged in order to accelerate modernization. In time, continued growth and capital market reform would make it possible for increased outflows of Chinese FDI through new multinational corporations.
By the mid-1990s, it had become apparent that SOEs had to be made more self-reliant. Beijing undertook to transform all but the largest (those it had built up to achieve economy of scale through consolidations and mergers in key industries) into “Modern Enterprises”. That is, it allowed them to reorganize as joint stock companies, capitalized by private shareholders, and to seek to maximize profit, paving the way for their eventual floatation on domestic and overseas stock exchanges. Effectively, the policy pushed many former SOEs in an outward direction because they could no longer compete domestically against large state-controlled oligopolies. SOE reform also facilitated significant capital flight, as new grey areas opened up in the legal framework governing their structure, offering a channel for corrupt officials and SOE managers to drain state assets using investment activities conducted through overseas branches.
In the early stages of China’s “Going Out” strategy, the bulk of overseas investment was directed to trade and supporting business like marketing and distribution. Problems emerged as China’s rapid growth continued to be driven by the export of low value-added products. The model drew mounting criticism from Western countries, such as the United States, whose manufacturing sectors were being deeply eroded by competition from inexpensive Chinese imports, as well as from conservative Party elders who regarded exports on such a large scale as a net outflow to the benefit of foreign countries. Nonetheless, light industrial, export-oriented firms, especially those requiring a low capital base, continued to flourish and expand, which in time would cause China’s manufacturing sector to experience overcapacity and spur progressively more aggressive real-estate and stock market speculation.
In the wake of the Asian financial crisis of 1997-98, the State Council, confident that Chinese manufacturers could achieve better global competitiveness and brand recognition, decided to alleviate overcapacity by assisting Chinese multinationals to establish production bases overseas, where they could integrate into new markets and acquire Western technology, management skills and foreign currency. It began offering export tax rebates and financial assistance to Chinese companies operating abroad that utilized materials, parts and machinery from China.
By 2001 China had acceded to the World Trade Organization (WTO), and its “Going Out” strategy had been consolidated and formalized as one of China’s “Four Modernizations”, or primary economic development goals, in the 10th Five-Year Plan (2001-05). Chinese companies were encouraged to strengthen their international competitiveness by availing themselves of their rights to enter WTO markets, to which membership entitled them, and for which Beijing had committed itself to several major domestic market-opening concessions. Chinese embassies and consulates overseas were directed to beef up their commercial services to assist Chinese companies in navigating unfamiliar foreign investment and legal environments, and to help them understand their own advantages and disadvantages abroad.
Outward FDI rose dramatically in subsequent years. China moved to the front ranks of large global investors, transforming itself from a major exporter of goods into a major exporter of capital. Continued reforms and a booming export trade increased its capacity for foreign investment. The government encouraged companies to “go further outwards” (Jinyibu zouchuqu) in its 11th Five-Year Plan (2006-2010), partly in an attempt to steer surplus capital away from speculative investment in real-estate and the stock market, as well as to ease growing pressure on the Renminbi (RMB), China’s currency, to appreciate. The National Development and Reform Commission (NDRC) drew up a list of natural resources and technologies that Chinese outward FDI ought to target. During this period, Chinese companies engaged in larger and more complex foreign investment deals. While they continued to forge joint ventures, and some to establish wholly-owned entities overseas, particularly in the manufacturing sector, they turned increasingly to mergers and acquisitions (M&A) because these offered quicker access to new markets and technologies.
China’s outward FDI soon swelled to unprecedented levels. By the end of 2010, according to China’s Ministry of Commerce, more than 13,000 Chinese investing entities had established 16,000 overseas enterprises in 178 countries and regions globally. The accumulated outward FDI net stock volume had reached US$317.21 billion (compared to US$4.84 trillion for the United States). Of this, US$261.96 billion was non-financial outward FDI. China’s outward FDI flows for 2010 alone amounted to US$68.81 billion (compared to US$328.9 billion for the United States), placing China 5th among all economies in terms of outward FDI flows and 17th in terms of stock. Foreign affiliates had total assets exceeding US$1.5 trillion and employed 1.1 million workers. Chinese state-owned commercial banks had established 59 branches and 17 affiliated entities in 34 regions or countries, employing 41 thousand foreign staff. In the first half of 2011, China’s non-financial outward FDI rose 34 percent from a year earlier, and observers expect it to reach US$1 trillion by 2020.
After the 2008 global financial crisis, some Chinese officials felt that China ought to accelerate its program of overseas investment in advanced markets, particularly in countries like the United States, where assets looked cheap from a longer-term strategic perspective. But not everyone agreed. Some policy makers and researchers felt that more urgent structural issues in the domestic economy needed attention first. Excess liquidity, high domestic investment rates, and ballooning government expenditure, particularly at local levels, were seen to be hampering mass consumption, which China considers crucial to balancing out its economy and maintaining social stability. Although domestic consumption has increased among China’s newly wealthy and burgeoning middle classes—in many areas it has reached conspicuous excess—mass consumption remains relatively low. Some researchers felt it better to stay home rather than go out, pointing to the losses sustained by their investments in the United States and Europe during the financial crisis and drawing a parallel to those experienced by Japanese companies in the 1980s when they went out to invest in U.S. real-estate.
Others were beginning to aggressively question the government’s policy of encouraging capital export while the country remains unevenly and relatively less developed. Although China has grown its GDP impressively over the past thirty years, reducing the poverty rate from about 51 percent in 1981 to 2.5 percent today, GDP on a per capita basis remains many times below its Western counterparts, especially in rural and western areas. Average per capita GDP is only now approaching that of the United States before the First World War. They argued that more investment must be made in domestic infrastructure and social services, particularly in those rural and western areas where income inequalities are most prominent, rather than utilized to secure energy and raw materials to perpetuate an export-machine that has accrued benefits predominantly to eastern urban centers.
China’s current 12th Five-Year Plan (2011-2015) was designed to address these issues by focusing on “inclusive growth”. Recognizing that the country’s market-share of global trade in basic, low-end manufacturing is not sustainable over the long run, it places new emphasis on high-quality growth, laying out national policies to encourage the integration of science and technology into industry and thereby move Chinese products up the value chain. “Innovation”, rather than “production”, is the CCP’s new catchword, with precedence given to strategic emerging industries such as biotechnology, information technology, new materials and precision manufacturing.
The goal is to transform coastal regions from low-skill manufacturing cesspools into innovative, precision manufacturing and R&D hubs—a significant challenge considering that hundreds of millions of Chinese migrant-workers, mostly drawn from starkly less-prosperous rural areas, still depend on basic factory jobs for income and advancement. Reckoning 7 percent annual growth in per capita GDP as a critical threshold for social stability, Beijing aims to boost domestic consumption, which has fallen from 55 percent in the early 1980s to 34 percent in recent years. To ameliorate rising inequality, it intends to promote more balanced wealth distribution and to upgrade social infrastructure such as educational institutions, healthcare facilities and the social security system. During the current 12th Five-Year Plan period, China expects its outward FDI, still only a fraction of its massive inward FDI, to grow on average by 17 percent. In developed countries it will concentrate on deepening distribution networks and brand recognition, as well as on acquiring advanced technologies and R&D capabilities.
More of this FDI, as well as trade, will likely flow to Europe as Chinese investment arouses mounting political resistance and scrutiny in the United States. The Committee on Foreign Investment in the United States (CFIUS), an inter-agency government panel originally established by President Ford in 1975 to vet foreign investment in sensitive assets, has conducted a rising number of investigations in recent years into potential security risks posed by foreign takeovers of U.S. companies, discouraging Chinese efforts. Chinese M&A activity has provoked additional resistance after a string of recent high-profile scandals involving alleged fraud at Chinese companies that have accessed North American capital markets using reverse takeovers. In consequence, China is striking larger investment and trade deals, worth billions, in Europe. These are prompting less vociferous calls for the EU to establish a committee similar to CFIUS to safeguard access to critical infrastructure like telecommunications and to monitor Beijing’s ability to use its economic leverage to gain political influence.
Investment has also been gravitating at a quickening pace to energy and raw materials, which China needs to sustain its domestic growth targets. Already, substantial FDI is flowing to countries and regions rich in natural resources, such as Africa, Latin America, Southeast Asia, Australia and Canada, stirring up global fears that Beijing is attempting to lock up a dangerously large share of the world’s natural resources and pursuing a neocolonial agenda that ignores human rights and humanitarian concerns. Chinese companies are quickly finding themselves ill prepared to operate in countries with substantial political risk and internal strife, however, as evidenced by numerous killings of Chinese workers in African countries like Ethiopia. In time, Beijing will no doubt realize that its characteristic approach of turning a blind eye to repression and poor governance is, if not morally reprehensible, at least impractical in the long term. Since Beijing has neither the desire nor the capability in today’s geo-political climate to protect its assets in such regions by extending its hard power, it will have to use economic means to mollify local and regional disputes and to follow through on hefty pledges to invest meaningfully in developing countries’ social infrastructure.
China’s equity ownership of foreign public companies also continues to rise, mainly through its large sovereign wealth funds. These funds were established in the 2000s to diversify Beijing’s foreign exchange reserves, the largest in the world, now amounting to $3.2 trillion and invested chiefly in U.S. treasury bonds and other debt securities issued by governments and government-sponsored enterprises. While these funds were set up to oversee the long-term stewardship of Beijing’s reserves by investing only to maximize risk-adjusted financial returns, it is clear that they are also being used to support overseas acquisitions and to leverage Beijing’s political influence.
The China Investment Corporation (CIC), for example, China’s largest sovereign wealth fund, established in 2007 with $200 billion in investable assets (which have since doubled), claims that it “usually does not take a controlling role—or seek to influence operations—in the companies in which it invests.” It has made relatively small investments in well-known American companies like Apple, Coca-Cola, Johnson & Johnson, Motorola, Visa, Bank of America, and Morgan Stanley. But like Chinese FDI, these share purchases have aroused public concern and attracted government scrutiny in the United States. CIC too is starting to gravitate towards opportunities in Europe. Last month, for example, it announced that it had taken a significant stake in the UK’s largest water and sewage company, its first investment in Britain, while George Osborne, Britain’s chancellor of the Exchequer, simultaneously announced that Britain had agreed to work with Hong Kong to turn the City of London into a major offshore trading center for the RMB. These agreements have significant ramifications for China’s global economic expansion and political influence.
To say that CIC is strictly a financial investor, motivated only by diversification and profit, rather than an entity building strategic positions in companies and regions to effectively advance China’s national interests, directly or indirectly, strikes many observers as somewhat naive. Still, it remains to be seen what role its investments and China’s broader “Going Out” strategy may play in shaping the PRC’s future role in the global politico-economic order. China’s “Going Out” policy clearly has benefits both at home and abroad as capital that once ebbed to China from the West now flows back, producing potentially mutual benefits. If China adheres to it stated goal of seeking a “peaceful rise” and avoids overburdening the world’s resources or coming into conflict with other nations over access to these resources, it could, like the Yin and Yang of Taoist philosophy, exert a balancing effect.