Ten Years of Direct Foreign Investment in China

Abstract

ASIAN PERSPECTIVE, Vol. 13, No. 2, Fall-Winter 1989, pp. 35-53 TEN YEARS OF DIRECT FOREIGN INVESTMENT IN CHINA Richard Pomfret In the late 1970s the People's Republic of China (PRC) re­ versed its economic development strategy, ending three decades of economic isolation by adopting the Open Door policy. The most dramatic component of the new strategy was the June 1979 Law on Equity Joint Ventures which permitted direct foreign investment (DFI) in the PRC for the first time. Foreign capital had, of course, played a significant role in other coun­ tries' economic development before 1979, but the PRC decision came at a time when many developing countries were rejecting foreign investors or, if they sought foreign funds, they preferred loans, which did not pose the same perceived threat to economic independence as DFI involving foreign control. In this respect China was ahead of the times, as the post-1982 Debt Crisis revealed the dangers of loans as sources of external finance and stimulated a more favorable reassessment of DFI by capital­ scarce nations. China also led the way among communist coun­ tries in permitting DFI, and the path has been followed since by the USSR, other East European countries, and the communist nations of Indochina.1 The Chinese experience with DFI is thus of interest both in itself, as a new move by the world's largest nation, and for its lessons for developing countries and for communist states. Because DFI involves a time horizon measured in years rather than months and because the inevitable initial uncertainty slowed foreign investors' response to the 1979 Law, some time had to elapse before an assessment of the Chinese experience 1. The USSR passed a joint venture law in January 1987. Vietnam adopted a law permitting DFI in June 1988 and Laos followed in the next month. 36 Richard Pomfret with DFI could be made. Ten years is an arbitrary but reasonable length. Moreover, the tenth anniversary of the June 1979 Law was marred by the massacre in Tiananmen Square and subsequent repression, which may change the DFI situation as potential foreign investors reassess their views of the PRC as a place to do business. This paper describes and evaluates the Chinese experience with DFI between 1979 and 1989. Many features are, of course, specific to China—the lure of the billion person market, the absence of direct colonial experience, etc.—but others are predictable consequences of China's resource endowment, level of economic development and policy choices. The paper examines the types of joint ventures (JVs) which have been formed, their characteristics in terms of size distribution, type of activity, nationality of foreign partners, determinants of success, and the role of policy in all this. The situation has changed over time as foreign investors have learned more about operating in China and as Chinese attitudes and policies have changed; the most useful distinction in this respect is between the situation before and after October 1986 when important modifications in the Joint Venture Law were announced. China's Open Door Policy Adoption of the Open Door policy represented a dramatic shift from China's previous inward-oriented development strategy. This section describes the four elements of the new strategy: trade policy, the Joint Venture Law, exchange rate and macroeco­ nomic policies, and the spatial dimension. Meanwhile, China was also undertaking far-reaching domestic reforms in agriculture and industry which were changing the organization of produc­ tion and the role of central planning. This paper is not concerned with these economic reforms, but they are important back­ ground events. Before 1979 China's trade policy was driven by imports and was highly centralized. Exports were determined by the amount needed to pay for imports, which were the shortfall between planned needs and domestic availability of each good. International trade was conducted by twelve foreign trade cor­ porations (FTCs), who insulated the domestic economy with its fixed prices from market-determined world prices. In Decern- Ten Years of Direct Foreign Investment in China 37 ber 1978 the Central Committee of the Chinese Communist Party rejected this approach, and by 1984 foreign trade decisions had been decentralized and controls over imports and exports...