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Proceedings of the 15th Annual Conference of the Association for Chinese Economics Studies Australia (ACESA)
EU FDI IN CHINA: LOCATIONAL DETERMINANTS
AND ITS ROLE IN CHINA’S HINTERLAND
Bernadette Andreosso-O’Callaghan#
Xiaojun Wei∗
University of Limerick, Ireland
ABSTRACT
The Western Development Strategy launched by the Chinese government in the year 2000 is aimed
at addressing the growing problem of regional disparities in China. Based on attracting foreign
direct investment (FDI), the FDI-led Economic Development strategy in China’s hinterland may
ultimately benefit both the whole of China and the foreign investors themselves. The question of
how to prevent a potential danger of further developmental disparities caused by FDI in China is
imperative to the current Chinese economy as well as to its political authorities.
This paper mainly analyses the EU FDI location determinants in China. It also addresses briefly its
role, along with the other major stakeholders in promoting Chinese economic integration in
China’s hinterland. This article focuses on the disparities of FDI allocation as well as on the
comparative advantage and barriers to FDI in China’s hinterland. Following a background
literature review, the article will analyze the spatial determinants of EU investment in China, using
# Correspondence to: Dr. B. Andreosso-O’Callaghan Jean Monnet Professor, Head, Department of Economics Euro-Asia Center, University of Limerick IRELAND Email: bernadette.andreosso@ul.ie Tel:00353 61 202204 Fax: 00353 61 202572 (Email: bernadette.andreosso@ul.ie) ∗ Xiaojun Wei PhD Researcher, Euro-Asia Center, Graduate Center of Business, Univeristy of Limerick, IRELAND Email: xiaojun.wei@ul.ie The help of Ms Jun Zhang, in the collection of relevant data at the initial research stage, is greatly acknowledged.
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of a comprehensive data set of EU FDI in the late 1990s; it will then discuss the role and benefit of
EU FDI in China’s hinterland.
For many years, MNCs as main FDI players in China, - either market seekers or resource seekers -
, have been benefiting from locational advantages, labour advantages and government policies
such as the special economic zones and the export promotion development strategy in Coastal
China; foreign investors have in turn been contributing to this area’s dramatic economic boom.
Yet, these players are discouraged to venture into China’s hinterland, a disadvantaged location
congested with SOEs (State Owned Enterprises), thereby further exacerbating the economic
disparities that have traditionally existed. However, in the long term, foreign investment, especially
that originating from an area such as the EU, characterized by its commitment to the Chinese
domestic market more than to exporting, is expected to flow substantially into China’s hinterland, if
and only if more open government policies are introduced to enhance the comparative advantages
therein.
KEYWORDS
Spatial Determinants of FDI in China, E.U. FDI to China, FDI to China’s Hinterland
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INTRODUCTION
Due to its large economic scale and special political background, China’s “open door policy” and
development strategy through FDI constitute a unique and vast laboratory for the study of economic
and social change in China, as well as its influence on the world economy. In addition, these are
also a testimony of the successfulness of the economic policies introduced by the Chinese
authorities. It is well acknowledged that China’s current foreign investment regime remains far
from open, and that FDI is still too much concentrated in the more developed eastern sea belt
region1. On the one hand, the investment policy allowing the approval of projects involving FDI
was transferred to special economic zones and/or cities in the coastal regions since the “open door
policy” was implemented. The existence of foreign MNCs helped build a healthy cycle in
improving the investment environment attained in these areas. On the other hand, the unbalanced
development strategy and the concentration of FDI in the eastern coastal areas have caused
constantly growing regional developmental disparities ever since the Chinese economic
transformation. The Chinese Central Government has devoted lots of energy and resources to
address this issue. Nevertheless, the Western Development Strategy2 launched in 2000 may seem to
address more a political will than a pan-economic reality. It may be that the FDI-led Economic
Development strategy in China’s hinterland (Central and West regions)3 could benefit both the
whole of China and the foreign investors themselves. The question of how to prevent a potential
danger of further developmental disparities caused by FDI in China is imperative to the current
Chinese economy as well as to its political authorities.
Virtually no study on FDI in China has failed to point out the gigantic gap of foreign capital inflows
between Coastal and Hinterland China, and its fatal consequences in terms of Chinese economic
integration; however few have really addressed the possible ways in improving the situation. In
addition to the analysis of current FDI location determinants, this paper takes one step forward by
discussing briefly the role and benefits of FDI along with other major stakeholders in promoting
1 According to the national administrative division, the Eastern region includes Beijing, Tianjin, Shanghai, Liaoning, Hebei,
Shandong, Jiangshu, Zhejiang, Fujian, Guangdong, Hainan and Guangxi (3 Municipalities and 9 Provinces). 2 The West Development Strategy adopted by authorities also includes Guangxi and Innner Mongolia. 3 The Central Region includes Inner Mongolia, Heilongjiang, Shanxi, Jilin, Henan, Anhui, Jiangxi, Hunan, Hubei (9 Provinces).
The Western Region includes Chongqing, Shannxi, Ningxia, Ganshu, Sichuan, Qinghai, Xingjiang, Tibet, Yunnan, Guizhou (1 Municipality and 9 Provinces).
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Proceedings of the 15th Annual Conference of the Association for Chinese Economics Studies in Australia (ACESA)
Chinese economic integration in China’s hinterland. Particular emphasis is placed on EU FDI,
given the fact that EU MNCs have already played an important role in the area. The focus is on two
aspects: Part I addresses briefly the disparities of FDI allocation, the comparative advantage as well
as the barriers to FDI in China’s hinterland. In Part II, after a general survey of the characteristics of
EU FDI in China, a background literature on the FDI regional bias and on location determinants to
China in general, as well as a preliminary statistical analysis of EU FDI to China in particular are
provided. This analysis will rely on the use of a comprehensive data set on E.U. FDI in China in the
late 1990s. A further discussion of the role and benefits of EU FDI along with the other major
stakeholders in China’s hinterland is also addressed in Part II.
PART 1: FDI REGIONAL DISPARITIES, COMPARATIVE ADVANTAGE
AND BARRIERS
1.1 DISPARITIES OF FDI ALLOCATION IN CHINA
Over the last two decades, China has emerged as the largest FDI recipient among the developing
countries and, for the first time, surpassed the United States, positioning itself as number one FDI
recipient in the world in the year 2002. Although the number of countries investing in China is quite
large, only a few countries account for the majority of investment (take in Table 1).4 Motivated
either by resource or market considerations, FDI to China swarmed and congested in the coastal
location, albeit however with different concentration levels.
Taking advantages of the coastal location, low labour costs, traditional cultural links, the
introduction of SEZs and the government’s policy based on export promotion, FDI from the NIEs
(Newly Industrialized Economies) mainly crammed in Guangdong and Fujian Provinces. FDI from
the Triad (EU, Japan and US) is stretching widely, albeit also clustering in specific coastal locations
such as The Pearl River Delta (Guangdong), The Yangzi River Delta (Shanghai, Zhejiang and
Jiangsu) and the Bohai area (Beijing, Tianjin, Hebei, Shandong and Liaoning). The transfer of
downstream, labour intensive stages of production from the NIEs not only helped Eastern China to
4The main FDI players in China can be classified as European MNCs (mainly from the UK, Germany, France and Netherlands in the EU-15), American MNCs (US and Canada), Japanese MNCs, non-Japanese controlled Asian MNCs (mainly from the Newly industrialized economies such as Hong Kong, Taiwan, Macau, Singapore and Malaysia) and those from Free Ports (Virgin and Cayman Islands).
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Proceedings of the 15th Annual Conference of the Association for Chinese Economics Studies in Australia (ACESA)
become integrated in the international production process, but it also helped maintain the NIEs’
competitiveness on the world market. Moreover, capital and technology-intensive FDI from the
developed Triad, taking advantage of China’s human and natural resource endowments, helped to
upgrade constantly the Chinese economic and productive structure. As for the entry strategy of the
MNCs, the joint venture has been the main form of investment whereas a growing number of
wholly owned foreign enterprises have been the feature of the late 1990s (take in Table 2 and
Figure 1).5 Furthermore, with more flexible ways of MNCs’ entry strategy other than that of
Greenfield investment in the Chinese market, a new wave of FDI is increasingly based on the mode
of mergers and acquisitions. Just as the FDI distribution is uneven in China, FDI allocation across
industrial sectors is also imbalanced. The manufacturing industry accounts for the higher proportion
(59.6 %), and real estate comes next with a share of 24.4 % (take in Table 2). Within the
manufacturing sector, approximately half of contractual FDI has been directed towards the labour-
intensive industries. Technology-intensive and capital-intensive sectors share almost equally the
rest, with the proportion of the former being 26.9% and the latter 22.7% (OECD Report, 2000).
With respect to manufacturing oriented FDI, a bipolar structure has developed with small-scale,
export-oriented enterprises on the one hand, and large-scale, local-market oriented enterprises on
the other. While the former are mostly joint ventures by Hong Kong and South East Asian
investors, the latter are mostly FIE (Foreign Invested Enterprises) with European and US interests
(Tian, 1999). In other words, FDI from NIEs such as Hong Kong and Taiwan tend to focus on low
labour-intensive production technology and standard manufacturing products, e.g. textiles, plastics
products, etc., while FDI from developed economies such as the EU leans towards high technology
and differentiated products, e.g. chemical fibres, automobiles, electronics and telecommunication
equipment. This dichotomy is in line with the Dunning-Ozawa FDI development path (Ozawa,
1992).
1.2 COMPARATIVE ADVANTAGE AND BARRIERS TO FDI IN CHINA’S
HINTERLAND
By the end of the first half of the year 2003, China had received a cumulated amount of
approximately 478.221 billion US dollars of realized FDI, which is equivalent of about 10 percent
5 A constant growing percentage of Wholly Owned Foreign Enterprises was seen in the last decade. (From around 30% in early 1990s to 62.14% in 2002). Its share is expected to further increase as China meets its WTO commitments in the coming decade.
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of direct investment worldwide and about 30 percent of FDI directed to all the developing countries
put together. However, during the twenty-five years since 1978, more than 406.488 billion have
gone to the Coastal area which accounts for around 85 percent of total FDI inflows (take in Figure
5). In the year 2000, China’s hinterland, which covers 86.5% of the national territory and 58% of
total population, contributed only for 35.7% of the nation’s GDP. Its per-capita GDP equals 67% of
the national average and reaches merely 40% that of the eastern region. In terms of per capita
realized FDI, China’s hinterland has attracted only 10% of the amount flowing to the eastern region,
representing 15% of the national average in the same year (take in Figure 6).
In order to lessen the significant uneven spatial distribution of FDI, the year 2000 has seen the
introduction of the Chinese government Western Development Strategy. However, little
improvement has been experienced so far. In the year 2001, China’s Hinterland received only
12.85% of all FDI inflows, a figure, which is even lower than that for the former year (at 12.88%;
take in Figure 5). The reasons behind this can be summed up as the follows: first, it should be
stressed that the locational advantages a region offers to attract FDI inflows can only be partly
shaped by government intervention. Second, the Coastal provinces with larger GDP, higher per
capita income, higher levels of FDI stock, more intensive transport infrastructure and higher level
of telecommunications are thus more attractive for foreign investors. Consequently, the returns on
capital investment in the Coastal provinces are much higher than in the rest of the country, thus
attracting more FDI into the region and causing more growth disparity. To overcome the vicious
cycle - FDI attracts FDI - an innovative and long-term strategy based on China’s hinterland
comparative advantages needs to be formulated. Obviously, until the implementation of the ‘Going
West Strategy’, barriers to FDI in China’s hinterland far outweighed its comparative advantages. A
22-year discriminatory policy, in favour of coastal areas and a lack of central government
investment in the western and central areas, combined with harsh climate circumstances, natural
conditions, poor infrastructure, a relatively limited market size compared with the eastern sea board,
a substantial brain drain, an outflow of labour, and a faltering over-weighted state sector, all call for
a different type of FDI strategy in the west. This is based on the mergers and acquisitions mode of
entry, a process made easier with WTO entry, instead of replicating those FDI development
strategies, which succeeded in eastern China. Since the comparative advantages of China’s
hinterland lie in rather low labour costs, rich natural resources, sound industrial bases, a relatively
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skilled labour force in state and military enterprises (a legacy of the Third Front Strategy)6, and a
cluster of research and academic institutions (mainly in Sichuan, Hubei and Shannxi Provinces), the
strategy should be to attract resource and market seeking FDI first to the provincial capitals, namely
Wuhan in Hubei Provinces, Xian in Shannxi Province and Chengdu and Chongqing (a municipality)
in Sichuan Province, so as to build technological and logistic centers and to position them as
leading developed service centers, from which, trickle-down effects to adjacent areas would
materialise. The imperative question is what kind of FDI will be most likely to pour into China’s
hinterland by using the comparative advantages of the area. We will use EU FDI as an example to
analyse China’s location determinants, its role as well as benefits to China’s hinterland.
PART 2: STATISTICAL ANALYSIS OF EU FDI REGIONAL
DETERMINANTS IN CHINA
2.1 CHARACTERISTICS OF EU FDI IN CHINA
With regard to the weight of the EU-15, realized FDI accounted for 7.57% of total FDI inflows to
China, and ranked fourth in cumulative terms up until the end of 2002(take in Table 1). However,
the EU-15 has been positioned as the largest investor in China for a consecutive three years from
1998 to 2000 (excluding Hong Kong, which represented the lion’s share of FDI inflow either based
on yearly or total cumulative value terms). Apparently, a catching-up process of EU firms in China
started in the mid-1990s, and expanded from 1997-1998 (take in Figure 2). This can be summarized
by the following characteristics:
In the first place, among the Triad, the EU lag in the Chinese market, with respect to other investors,
started to narrow from the mid-1990s. The years 1993, 1994 and 1997 have seen EU realized FDI
6 During the early 1960s to the mid 1970s one of the main features of China’s economic policy was the third front strategy. Due to the expecting danger of the outbreak of a new war, the Chinese government tried to transfer the industrial backbone from the Coastal to the Hinterland area.
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inflows climb from US$ 671 million, to 1,538 million and 4,171 million respectively; this
corresponds to year-on year growth rates of 176.13%, 129.21% and 52.39% respectively (take in
Figure 2) In contractual EU FDI value terms, the year-on year growth rates jumped to 91.72% and
116.21% in 1993 and 2000 respectively. The triple-digit growth of realized FDI in 1993, 1994 and
contractual FDI values in 2000, together with a decline of Japanese FDI to China due to the Asian
Financial Crisis in 1997, has made the EU, for the first time, the largest non-Chinese investor both
in realized and contractual value terms, although this lasted only for periods of three years and one
year respectively. Nevertheless, and as in the case of other investors, a great gap between realized
and contractual EU FDI values is easily identifiable through the 1993-1997 and 1999-2001 periods
(take in Figure 2). This phenomenon can be explained as follows: on the one hand, the extreme
caution of EU MNCs vis-à-vis the Chinese market could be the fundamental raison d’être for the
quiet period right after Deng Xiaoping visited the southern coastal economically opened areas and
SEZs in 1992, a famous tour which led to deeper, faster and wider economic liberalisation. It is
only after the settlement of EU-China Human Rights Disputes and the Chinese government’s
commitment to a market-oriented economy (i.e. since 1997-8) that stable and substantial EU FDI
inflows have materialized. On the other hand, the dramatic jump and fall of contractual EU FDI in
the 1999-2001period reflected the growing enchantment and disenchantment of EU MNCs
regarding the Chinese WTO accession. In 2000, with the reaching of US-China and EU-China
WTO accession agreements, both contractual FDI from the US and the EU to China increased
considerably. However, as the process dragged on, FDI pledges from both sources have not been
realized. As China gained its WTO membership in 2001, a boost of FDI inflows from the Triad is
thus expected, at least in the medium-term.
In the second instance, the contribution of EU FDI by country source, and its allocation in the
Chinese market are both uneven. Due to the differences in terms of economic scale and stages of
development among the EU countries, the UK, Germany, France, the Netherlands and Italy
contributed together for 82% of total EU projects, 90% of contractual and 92% of realized FDI until
1999. In contrast with the labour-intensive investment projects, - mainly from Hong Kong and
Taiwan, which congested in Guangdong and Fujian Provinces -, EU investment mainly
concentrated in the Yangzi River Delta (accounting for 43% of EU investment projects until 1999),
and in the Bohai Area (24%), where excellent industrial infrastructure was present (Wang Luolin,
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2000). For the same reason, there has also been a relatively important presence of EU MNCs in
large cities such as Chongqing in China’s Hinterland.
Third, EU FDI is characterized by a relatively high-realized value per project, and by a higher
degree of technology-content. Among the top five FDI contributors to China (Hong Kong, US,
Japan, EU and Taiwan), EU FDI positioned itself as having the lowest percentage in terms of
project numbers (less than 4%; take in Figure 3), but it ranked number 1 when assessed on the basis
of the realized value per project (take in Figure 4). The main reason behind this is that EU FDI
mainly focuses on technology-intensive manufacturing industries such as automotive, chemical,
electronics; communicate equipment and pharmaceutical and instruments. For example, a
questionnaire survey from the Investment Research Unit in the Academy of Macroeconomic
Research attached to the National Development and Reform Commission of the PRC in 1998,
disclosed that a small percentage of EU FDI projects in automotive (8% of total projects) and
medicine, medical device (4%), represented however 27% and 21% of the realized FDI values in
the above industries respectively (Wang Luolin, ed. 2000). Another example is represented by the
case of the energy sector, and in particular of the nuclear sector, in which key technologies and
equipment have originated from the EU. Because the energy sector is capital intensive, the average
size of EU investment projects is bigger than FDI projects in other industrial sectors.
Finally and most importantly, EU FDI tends to be market-oriented, and thus more committed to the
Chinese domestic market than to foreign markets through exports. This is in contrast to Asian FDI,
in particular to Japanese FDI. Most of China’s imports of machinery, electrical machinery and
vehicles have come from the EU, and more than a third of China’s imports from the EU concern
machinery and equipment goods. This phenomenon can be directly linked to FDI activities, and it is
testimony to the fact that EU FDI in China is characterized by relatively capital-intensive projects
(OECD Report, 2000). In addition, despite a rather low per capita GDP, the current Chinese
economy has the second largest total GDP (in Purchasing Power Parity terms) in the world, thus
making it attractive to foreign investors such as those from EU countries with competitive industrial
sectors such as pharmaceutical and chemicals, electronics, automobiles and telecommunications to
invest.
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2.2 BACKGROUND LITERATURE
Contrasting with the availability of a substantial body of literature on the identification and
explanation of international inflows of capital investment at the national level, much less attention
has been devoted to the spatial distribution of FDI in the case of developing countries. Although
there is a growing interest on location determinants of aggregate FDI inflows in fast growing
developing economies like China (Broadman and Sun 1997; Chen 1997; Wei, Liu, Parker and
Vaidya 1999, Huang 1999, Wu 1999, Coughlin & Segev 2000, Andreosso-O’Callaghan and
Cassidy 2002), empirical studies on the regional determinants of EU FDI in China have been quite
limited. Studies on EU investment and Technology Transfer to China have tended to remain very
much at the macroeconomic level, given the difficulty of obtaining appropriate and reliable data at
the regional level (Andreosso-O’Callaghan and Qian 1999). The broad picture reveals however that
in general, FDI in China would have tended to flow to specific areas with a large market size, high
economic development level, well-developed infrastructure, skillful labor, and highly developed
service industries. The empirical work on the spatial distribution of FDI in China identifies the
different variables that influence, with various degrees, the MNCs’ locational decision. We can
group these variables into two groups: (i) the non-institutional and economic variables (such as
GDP, GNP, inflation rates, domestic investment, savings, current account, etc.), and the non-
institutional and locational variables (such as transportation, geographical location, energy
consumption per capita, adult literacy, labor quality and the service industry); (ii) the institutional
variables (such as the investment and trade policies, the attitude to foreign investors and cultural
links, financial restrictions, corruption, effectiveness and efficiency of the legal system, etc.). In the
case of China, a selected variety of these determinants have been tested by the above-mentioned
literature, yielding however different results.
With regard to the tests on the institutional determinants and non-institutional determinants, a
general convergence of results and conformity with the theory has been reached. For example, Wei
et al. (1999) found that pledged FDI was positively influenced by a preferential investment policy
and by closer links with overseas Chinese. Most of the literature sees the investment policy as the
most important institutional variable, and coastal location, infrastructural development, labor
quality as the most significant locational variables, showing a positive correlation with FDI
distribution. Unsurprisingly, coastal location was unanimously identified as positively related to
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FDI and significant in the analyses by Broadman and Sun (1997), Chen (1997), Coughlin & Segev
(2000) and Andreosso-O’Callaghan and Cassidy (2002). Illiteracy was the chosen labor quality
variable in Broadman and Sun (1997), Chen (1997), Coughlin & Segev (2000) and was found to be
negatively associated and significant. However, in the case of Japanese FDI, Andreosso-
O’Callaghan and Cassidy (2002) found it still negative but insignificant, whilst, by taking tertiary
education as an alternative variable, it was found positive and significant. With respect to
infrastructure, the studies referred to above showed highways, paved roads and inland waterways to
be positively significant determinants of FDI inflow respectively. Coughlin & Segev (2000) found
paved roads to be positively related and a significant determinant of FDI inflows 1990-1997 in
China. However, Andreosso-O’Callaghan and Cassidy (2002) disclosed that when paved roads
were controlled for, they were positively related to Japanese FDI stock in China, but not significant.
Transportation infrastructure in the form of air-staff was positively correlated but not significant in
the work of Coughlin & Segev (2000), whilst Andreosso-O’Callaghan and Cassidy (2002) found
air-staff to be negatively related and insignificant to Japanese FDI in China.
By contrast, the tests highlighting the non-institutional determinants of FDI, such as the economic
variables, produced contradictory results. Taking efficiency wage as a proxy for labor costs, Chen
(1997) and Coughlin & Segev (2000) showed it to be negative and significant. On the contrary,
Broadman and Sun (1997) and Andreosso-O’Callaghan and Cassidy (2002) found it positive and
insignificant. With respect to the market size variable, Broadman and Sun (1997) and Coughlin &
Segev (2000) used provincial GNP, while Chen (1997) and Andreosso-O’Callaghan and Cassidy
(2002) chose provincial GDP. Andreosso-O’Callaghan and Cassidy (2002) did not find it
significant as in the case of the other tests. This result is in line with the fact that Japanese FDI in
China is not primarily of the market seeking type, but rather is the result of de-industrialization in
Japan (kûdôka). The finding supports Kojima’s Theorem, which highlighted Japanese FDI as being
trade-oriented.
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2.3 STATISTICAL ANALYSIS OF EU FDI REGIONAL DETERMINANTS IN
CHINA
2.3.1 DATA, MODEL AND SPECIFICATION OF VARIABLES
One has to admit the fact that exact yearly data on EU FDI at provincial level in China are difficult
to obtain. Cumulative data at the provincial level is also unavailable. As far as the source of the data
is concerned, there are two reliable ways of finding relevant information.
One is to use the chronological versions of the Almanac of China’s Foreign Economic Relations
and Trade, where the source of foreign investment of each province and municipality is
documented in the section on ‘Local Economic Relations and Trade’. However, this data should be
used with great care, since some provinces only disclosed the top 10 source countries of FDI, and
since the data is based on individual EU (major) countries rather than on an aggregate figure for the
EU-15 as a whole (The only exception is Zhejiang province, for which the EU-15 figure is
available); also it is not clear whether the data refers to contractual or realized values. As most EU
FDI comes from the UK, Germany, France, the Netherlands and Italy, FDI from other EU-15
countries is therefore neglected from this data source.
However, it does show a general picture of EU FDI allocation in China. Since EU investors have a
preference for coastal locations such as Yangzi River Delta and Baohai Area, 36.1% and 30.95% of
EU FDI in the 1996-1999 periods flowed to these two areas respectively. This is in contrast to the
fact that overall FDI inflows mainly concentrated in Guangdong and Fujian Provinces (accounting
for 38.03% of the total cumulative FDI inflows in China until 2002). Only 14.49% of EU FDI
flowed to these two provinces between 1996 and 1999. In the same period, a very small proportion
of EU FDI went to China’s hinterland (about 11.79%). This is roughly the same proportion as the
total FDI flowing into China’s hinterland until 2002 (14.44%). In China’s hinterland, EU FDI
primarily favored 4 provinces e.g. Shannxi, Sichuan, (including Chongqing before 1997), Hubei
and Jinlin, which account for 6.46% of inflows from 1996-1999 altogether 7(take in Table 4).
7 This could be explained by the fact that major industrial cities in China’s Hinterland are located in provincial capitals within these 5 provinces e.g. Xian in Shannxi Province, Wuhan in Hubei Province, Changchun in Jilin Province and Chengdu and Chongqing in Sichuan Province. (Chongqing was granted municipality status in 1997)
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Another way of finding relevant data source is to trace back the statistical yearbooks of each
province, where realized FDI from major European investing countries is documented. This source
of data is the most reliable for the statistical analysis.8 As shown by chronological and cumulative
EU data at national level, EU FDI in China increased dramatically in 1997 and remained constant in
the late 1990s. Therefore, EU FDI at provincial level in the late 1990s (from 1996-1999) may be
seen as the crest of a wave of EU FDI inflows, and it would therefore be the most convincing data
for any statistical analysis of EU FDI regional determinants in China.
In order to test the relative determining importance of the chosen variables in the location decisions
of EU FDI in late 1990s, a model using ordinary least squares regression is constructed:
EUFDI inflow 1996-1999 = α + β1 Per capita GDP + β2 Market Proximity + β3 Efficiency Wage +
β4 Education + β5 SOE + β6 RCA + β7 LOC + U
Where, EU FDI yearly-inflows from 1996-1999 on a provincial level is set as the dependent
variable and 7 independent variables are chosen, namely: PGDP (Per capita Gross Domestic
Product), MKT (Market Proximity), EW (Efficiency Wage), EDUC (Education set as labour
quality), SOE (Economic benefit of Stated-owned industrial enterprises), RCA index (Revealed
Comparative Advantage) on a provincial level from 1996-1999. The economic benefit of SOEs is
calculated as the SOE’s value-added divided by its gross output value in a given period (1996-99) at
the current prices. A dummy variable for ‘coastal location’ is also added to the model. All variables
used are further described in table 5 (take in Table 5).
2.3.2 RESULTS AND INTERPRETATION
Despite shortcomings due to the scarcity of available data, this pioneer study does present a first
insight into the EU FDI location determinants in China (take in Table 6). In model I, LOC and RCA
are found to be statistically significant, Efficiency Wage is found negative and insignificant,
whereas PGDP and MKT are positive and insignificant. In testing for multicollinearity and using
stepwise regression method in model I, variables such as EW and SOE are found as having a high
8 Statistical yearbooks of provinces such as Sichuan, Jilin, Heilongjiang, Guizhou and Tibet are lacking such data.
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level of minimum tolerance. The results of Model II show that PGDP is found positive and
significant, while MKT and EW are also found positive but insignificant. In both models, SOE is
found negative but insignificant.
Generally speaking, the results from the tests are in conformity with the hypothesis. First, variables
such as PGDP, Location, and RCA, where Coastal China maintains a substantial comparative
advantage (and still will in the long term), are the most influential factors in attracting current EU
FDI flows. Second, given the fact that Per capita GDP and MKT (even by taking the population size
in 1996-1999 of each province into consideration when specifying of variable) vary greatly at a
provincial level in China, the results show that PGDP is positive and significant determinants of EU
FDI location decisions, substantiating the hypothesis that EU FDI is more market-oriented than
other types of FDI (Japanese for example). Third, as far as the future role of EU FDI in China’s
hinterland is concerned, the result pertaining to the SOE variable brings a new dimension to the
study of the determinants of FDI in China. This result needs to be considered in light of the fact that
FDI, especially that from developed economies, is more attracted by regions with a mature market
economy, which implies a lesser involvement of SOEs. Results with regard to the SOE variable are
in conformity with the hypothesis. However, it cannot be ascertained that higher SOE performance
in a region is a noteworthy determinant to block EU FDI inflows. A priori, the results pertaining to
efficiency wage are contrary to most findings on direct investment in developing countries.
However, given that EU FDI tends to be more high-tech than other foreign investment, regions with
a higher development rate, higher skills (and therefore higher labour costs) are more attractive for
foreign investors. Also, these results reveal a new general trend of rapidly growing labour costs in
coastal China. Therefore, future low labour-cost seeking FDI projects are likely to flow either to
China’s hinterland or to boarder countries such as Vietnam. From a Chinese point of view, the first
alternative is preferred although this depends very much on the quality of the infrastructure and on
overall policies.
Therefore the data of these provinces is based on the Almanac of China’s Foreign Economic Relations and Trade in this analysis.
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2.4 PROMOTING FDI TO CHINA’S HINTERLAND: THE ROLE AND
BENEFIT OF EU FDI IN THE AREA
As far as a solution in preventing further FDI allocation disparities and in promoting FDI to China’s
Hinterland is concerned, the role and benefit of different major stakeholders9 in influencing the
formulation of such a solution is strategically critical.
On the one hand, the Chinese central and local governments are playing the role of facilitators of
FDI. The responsibility for putting in place investment promotion policies in China’s hinterland,
and the capability of re-directing resources by improving infrastructure in the west, are lying in the
hands of the Chinese central government. 10 The modernization of the banking system, the
restructuring of SOEs, the creation of employment opportunities in China’s hinterland, as well as at
the national level, and the narrowing-down of developmental disparities through the involvement of
MNCs, are all favourable conditions for maintaining economic and social stability, thus benefiting
the current political authorities and allowing the transformation process to be carried out peacefully.
Furthermore, decentralisation has meant that local governments have increased their power of
discretion over their own local matters, and that they have become more active in promoting local
economic development through attracting FDI. Thus, different local policies in attracting FDI and
their implementation are significant for both local economic development and the MNCs’
presence.11 However, there have been enormous variations in FDI policies from central and local
governments across both provinces and time, with a tendency to increase the level of competition in
the area of incentives provided to investors at provincial level. The development of China’s
hinterland through FDI will also benefit the sustainable growth of the Coastal area.12 In this sense,
9 There are two decisive groups: one is the Chinese central government and provincial local governments, one are MNCs themselves. However, stakeholders such as FDI source country government, NGOs, International Financial Institutions and International Organizations also have their influence but not regarded as decisive factors, taking the fact that the economic integration between Coastal China and Hinterland China is much less than that between Coastal China and the developed world. In this sense, FDI in China’s Hinterland is much more influenced by the stakeholders on regional level than international level. 10 For example, provincial capitals such as Changsha in Hunan Province, Chengdu in Sichuan Province, Guiyang in Guizhou Province, Hefei in Anhui Province, Kunming in Yunnan Province, Xian in Shannxi Province and Zhengzhou in Henan Province have been recently raised from provincial-level special economic zones to national-level status. 11 For instance, Chongqing, the only municipality in China’s hinterland, has recently introduced policies to permit foreign-funded high-tech enterprises, with foreign funds accounting to more than 60% of total investment, to draw a certain amount for a risk compensation fund in the first three profit-making years before paying tax. 12 The coastal provinces do have some reasons of their own for wanting the west to develop. Not only will the west provide markets, energy, and a supply of raw and semi-finished materials that will contribute to the east’s own economic restructuring, but the environmental and ecological programs of the upstream part of the Yangzi River will also reduce flooding in the eastern provinces. Better infrastructure will allow the east to move its goods more easily to the west’s 300 million consumers. Improvements in electrical distribution and the construction of more pipelines will also directly benefit the east (Taube and Ogutcu, OECD Report)
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the central government is playing more a role of mediator, adjusting the diverging interests of
various stakeholders. Therefore, provincial government in China’s hinterland should aim at
attracting resources as well as market-seeking MNCs, which would help the area’s integration into
the value chains of the business already established by those MNCs in the Coastal area. In addition,
policies should also target those MNCs willing to overtake large SOEs in the area, through the
implementation of new FDI entry modes such as mergers and acquisitions.
On the other hand, MNCs as main FDI players in Hinterland China, especially those from the E.U.,
have already played an important role in provincial capitals13 in China’s hinterland because of rich
natural resources, a potential market, a fine industrial base, lower labour costs and a large supply of
technical personnel. 14 Furthermore, as a result of the accession to the WTO, and of further
liberalisation of the FDI regime, the primary sector, - including agriculture, forestry and fishing -,
where China’s hinterland maintains competitive advantages, is likely to attract more FDI. This will
only depend on the degree of market openness in the area of agricultural products. The service
industries such as finance, telecommunications and wholesale & retail commerce, where EU MNCs
maintain well-known competitive advantages, are expected to take up a further larger share of FDI
inflows. For example, the telecommunication industry has received appreciably large amounts of
EU investments, with Alcatel, Ericsson, Nokia and Simens grabbing large market shares. The entry
strategy of the EU telecommunications MNCs, their consolidation and growth on the Chinese
market have espoused perfectly the increasing technological awareness of the Chinese government
as embodied in its evolving industrial policy (Andreosso-O’Callaghan and Qian, 1999). EU
telecommunication MNCs like Ericsson and Nokia have been pioneers by investing in the large
cities of China’s hinterland such as Chongqing, and they are planning to include the western region
into their global purchase network.15 Therefore, with a further strategy of attracting capital or
technological-based FDI such as that from the EU, China’s hinterland will not only benefit from
13 Taking the fact that, 13 and 18 of the world’s top 500 enterprises have invested in the high-tech zone of Chengdu, capital of Sichuan Province and Chongqing respectively until 1998. 14 The EU MNCs’ presence in China’s hinterland big cities such as Chongqing, is represented by firms such as BP AMOCO and Glaxowellcome of UK, Carrefour of France, Nokia of Finland and Ericsson of Sweden; these few firms have invested a total of 356.57 million US$ there up to the end of 1998 (Wang ed.2000). 15 In mobile telecommunication, China is Nokia’s second largest market in the world. Nokia’s investment in China has reached US$ 1.7 billion in year 2001. It has established over twenty offices, eight joint ventures and two R&D centres, with over 5,000 employees in China. Ericsson also plans to double its investment in China and will reach US$ 5.1 billion by the end of 2005. It has ten joint ventures, four solely funded companies and employing more than 4,500 workers. Both have two joint venture companies in China’s hinterland, namely Guilin-Nokia Telecom Ltd, ChongQing Nokia Telecommunications Co. Ltd; and Chongqing Ericsson Technology Co., Ltd, Chongqing Ericsson Communications Co., Ltd, representing together approximately a 58 million US dollars investment stake up to 1998.
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windfall fiscal revenues that can be used to develop its infrastructure, but it will also benefit from a
major impetus in terms of regional economic restructuring and openness, thereby contributing to
regional even development.
CONCLUDING REMARKS
For many years, MNCs as main FDI players to China, - either market seekers or resource seekers -,
have been benefiting from locational advantages, labour advantages and government policies such
as the special economic zones and the export promotion development strategy in Coastal China;
foreign investors have in turn been contributing to this area’s dramatic economic boom. Yet, these
players are discouraged to venture into China’s hinterland, a disadvantaged location congested with
SOEs, thereby further exacerbating the economic disparities that have traditionally existed. Thus, a
new policy from the central government leaning towards a liberalized FDI regime in hinterland
areas, and the implementation of these policies by the hinterland’s local governments is a
prerequisite for sustaining economic growth and social stability. With the efforts of the Chinese
central government to improve the investment environment in the hinterland region by steering
huge funds for improving local transport facilities and telecommunication infrastructure, China’s
hinterland now calls for further investment inflows, for a re-organization of its SOEs, an upgrading
of skills and an improvement of the local investment environment.
Promoting targeted investment in China’s hinterland should be a core issue in Chinese FDI policy
as well as a decisive approach of achieving a sound solution in the area. As an empirical study of
the determinants of EU FDI across China shows, EU investment tends to be more resource and
market-oriented, larger in scale, more capital intensive and most importantly, it tends to be
characterised by a higher level of technology content than FDI flowing from other countries. In the
long term, foreign investment, especially that originating from an area such as the EU, is expected
to flow substantially into China’s hinterland, thus playing an important role in promoting Chinese
economic integration. This can only happen if and only if more open government policies are
introduced to enhance the comparative advantage in the region, and if EU firms benefit greatly from
locating in the remote parts of China. The presence of EU telecommunication MNCs in China’s
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hinterland shows that this seems indeed to be the case. This is due to the relatively low
infrastructural requirements of these firms.
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Table 1: Cumulative FDI in China: Top 15 Countries till the end of year 2002 (Billion US$)
Projects % Contractual
Value
% Realized
Value
%
Hong Kong 210876 49.71 373.806 45.14 204.87523 45.73
U.S. 37280 8.79 76.2819 9.21 39.88943 8.9
Japan 25147 5.93 49.53212 5.98 36.33986 8.11
E.U. 14084 3.3 60.08859 7.256 33.92204 7.57
U.K. 3418 0.81 19.63261 2.37 10.69550 2.39
Germany 3053 0.72 14.32209 1.73 7.99367 1.78
France 2033 0.48 7.19215 0.87 5.54335 1.24
Netherlands 1065 0.25 8.97448 1.08 4.33815 0.97
E.U. Others 4515 1.04 9.96726 1.206 5.35137 1.19
Taiwan 55691 13.13 61.47086 7.42 33.11028 7.39
Virgin Islands 6659 1.57 49.34803 5.96 24.38765 5.44
Singapore 10727 2.53 40.14955 4.85 21.47270 4.79
Korea 22208 5.24 27.47593 3.32 15.19896 3.39
Macau 7827 1.85 10.9181 1.3 4.77322 1.07
Cayman Island 706 0.17 9.48071 1.14 3.80333 0.85
Canada 6040 1.42 10.3774 1.25 3.35789 0.75
Malaysia 2538 0.6 6.20053 0.75 2.83544 0.63
Others 28928 6.82 63.0264 7.61 29.35131 6.55
Total 424196 100 828.05981 100 447.96597 100
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Table 2: Cumulative FDI by Form till the end of year 2002(100 Million US$)
Form No. of
Projects
% Contractual
Value
% Realized
Value
%
Equity Joint Venture 225883 53.25 3275.48 39.56 1922.04 42.91
Contractual Joint
Venture
52965 12.49 1633.19 19.72 827.83 18.48
Wholly Foreign-
Owned
145165 34.22 3325.38 40.16 165.16 36.97
Joint Exploration 183 0.04 46.54 0.56 73.64 1.64
Total 424196 100 8280.59 100 4479.66 100
Table 3: Contractual FDI by Sectors till the end of year 1998 (Billion US$)
Sector Number of
Projects
% Contractual
Value
%
Manufacturing 249352 73.0 365.547 59.6
Real Estate 33877 9.9 149.977 24.4
Distribution Industry 21279 6.2 36.929 6.0
Wholesale, Retailing, Catering 17558 5.1 21.960 3.6
Transport, Warehouse,
Telecommunication
3721 1.1 14.969 2.4
Construction 8826 2.6 18.860 3.1
Agriculture, Forestry, Animal
Husbandry & Fishing
9534 2.8 10.827 1.8
Scientific Research Technical
Service
2410 0.7 1.874 0.3
Education, Broadcasting, Film and
Television Industry
1317 0.4 2.040 0.3
Healthcare, Sports & Social Welfare 999 0.3 4.618 0.8
Other Sectors 13944 4.1 23.045 3.8
Total 341538 100 613.717 100
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TABLE 4: Cumulative FDI distribution by the year 1999 and EU FDI distribution in 1996-
1999
(US$ 10 Thousand)
Province Total
projects
Number
Till
1999
% Total
Contractual
Value
Till 1999
% Total
Realized
Value
Till 1999
% EU
Realized
FDI
inflow
1996-
1999
%
Beijing 14725 4.31 2722627 4.44 1271475 4.13 99327
7.4
Tianjin 13029 3.81 2410583 3.93 1210860 3.94 60500 4.51
Hebei 9127 2.67 1294391 2.11 611825 1.99 31825 2.37
Shanxi 2035 0.60 333581 0.54 130113 0.42 9088 0.68
In. Mongolia 1417 0.41 144563 0.24 52521 0.17 3058 0.23
Liaoning 19367 5.67 3267365 5.32 1280004 4.16 137798.8 10.27
Jilin 5601 1.64 503131 0.82 258466 0.84 18322 1.37
Heilongjiang 5938 1.74 562694 0.92 336306 1.09 4480 0.33
Shanghai 20218 5.95 5837521 9.51 2517965 8.19 322136 24.0
Jiangsu 37924 11.1 7403650 12.06 3730497 12.13 95236 7.1
Zhejiang 16727 4.90 2171194 3.54 957493 3.11 66587 5.0
Anhui 4430 1.30 487782 0.79 271583 0.88 14242 1.06
Fujian 26303 7.70 5961324 9.71 3007847 9.78 115276 8.59
Jiangxi 4964 1.45 441289 0.72 248563 0.81 3843 0.29
Shandong 26318 7.71 3654281 5.95 1813791 5.90 85851 6.4
Henan 6088 1.78 759115 1.24 375340 1.22 8682 0.65
Hubei 7827 2.29 873324 1.42 548588 1.78 27993 2.09
Hunan 5401 1.58 671230 1.09 456507 1.48 8042 0.60
Guangdong 47994 23.42 16033000 26.12 8691119 28.25 78594 5.9
Guangxi 6757 1.98 1267781 2.07 641839 2.09 89597 6.67
Hainan 8710 2.55 1175960 1.92 579898 1.89 7341 0.55
Sichuan 5111 1.50 718949 1.17 274164 0.89 9675 0.72
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Province Total
projects
Number
Till
1999
% Total
Contractual
Value
Till 1999
% Total
Realized
Value
Till 1999
% EU
Realized
FDI
inflow
1996-
1999
%
Chongqing 2708 0.79 369042 0.60 200450 0.65 5004 0.37
Guizhou 1368 0.40 155498 0.25 39737 0.13 3084 0.23
Yunan 1953 0.54 252270 0.41 84166 0.27 5131 0.38
Tibet 20 0.01 1263 - 3 - 3090 0.23
Shaanxi 2982 0.87 535288 0.87 275753 0.90 25648 1.91
Gansu 1303 0.38 93568 0.15 39381 0.13 1827 0.14
Qinghai 200 0.06 24651 0.04 1968 0.01 34.1 -
Ningxia 556 0.16 39788 0.06 11115 0.04 402 0.03
Xinjiang 944 0.28 96607 0.16 35056 0.11 554 0.04
Others 1593 0.47 1108494 1.81 807678 2.63 N/A -
Total 341538 100 61371741 100 30763071 100 1342267.9 100
Source: Almanac of China’s Foreign Economic Relations and Trade and Ministry of
Commerce of PRC.
Website: http://www.mofcom.gov.cn/waimaotongji.shtml
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TABLE 5: SPECIFICATION OF VARIABLES IN REGRESSION ANALYSIS OF
E.U. FDI IN 1996-1999
Variable Names
Specification of Variables
Source
Dependent
variable
EU FDI1998
EU FDI inflows into each Province in 1996-
1999 (ten thousand US$)
Almanac
of
China
Foreign
Economic and
Trade;
Statistical
yearbooks of each
provinces, 19997-
2000
Independent
variables
PGDP
Per Capita Gross Domestic Product of Each
Province in 1996-1999(RMB Yuan current
price) and expected to be positive.
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MKT
EW
EDUC
Market Proximity gives an indication of market
access. It reflects the importance of freight in
each province and it is calculated as the number
of 100 million ton-km including national
railways, local railways, Highways and
Waterways, divided by the population in each
province, for the years 1996-1999. Expected to
be positive.
The Efficiency Wage is measured as the ratio
between the average wage per
province/municipality and the average
productivity per province/municipality in 1996-
1999. The calculation of average productivity is
the total industrial output divided by the total
number of workers. The lower the ratio, the
higher the efficiency wage, and the more
attractive to FDI. Expected to be negative.
The Employed Persons’ Education Level in
Each Province and measured as the percentage
of employees above college level in each
Province in 1996-1999. Expected to be positive.
China
Statistical
Yearbook
1997
1998
1999
2000
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SOE
Main indicator on economic benefit of state-
owned industrial enterprises with independent
accounting system by each province and is
measured as SOE’s ratio of value-added to
Gross industrial Output value in each province
in 1996-1999. Expected to be negative
RCA Revealed Comparative Advantage is the
indication of international competitiveness
between foreign invested and local enterprises.
RCAp=(Ep/GDPp) / (En/GDPn), where
Ep/GDPp is value of export goods of foreign
invested enterprises in each province divided by
provincial GDP and En/GDPn is value of
national export divided by national GDP in
1996-1999. Expected to be positive.
LOC
Coastal Location as a dummy variable, which
assumes a value of 1 of the province is a coastal
location, and of 0 if otherwise. Expected to be
positive.
Andreosso – O’Callaghan, B., & Wei, X., ‘EU FDI in China: Locational Determinants and its Role in China’s Hinterland’. - 21 -
Proceedings of the 15th Annual Conference of the Association for Chinese Economics Studies in Australia (ACESA)
TABLE 6: REGRESSION OUTPUT: DEPENDENT VARIABLE EU FDI 1996-
1999
Explanatory
Variables
Coefficient t- Statistic
Model
1
PGDP 7.136E-02 .160
Market
Proximity
-96.826 .728
Efficiency Wage -1.839 -.235
Education
-242.785 -.547
SOE
Performance
-47.861 -.294
RCA Index
6706.387 4.113
Location
10664.046 3.148
Constant 5039.293
Durbin Watson
2.238
R-Square .702
Adjusted R-
Square
.493
Model
2
PGDP
1.846 4.861
Education
-1108.551 -2.348
EW 3.957 .440
Andreosso – O’Callaghan, B., & Wei, X., ‘EU FDI in China: Locational Determinants and its Role in China’s Hinterland’. - 22 -
Proceedings of the 15th Annual Conference of the Association for Chinese Economics Studies in Australia (ACESA)
SOE
Performance
-320.528 -1.804
Market
Proximity
71.099 .498
Constant
10751.529
R-Square
.538
Adjusted R-
Square
.289
Figure 1: Percentage of Forms of Investment in China (Based on Contractual Value)
010203040506070
1979
-1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
Percentage of Joint Ventures
Percentage of Co-operative ofJoint-VenturesPercentage of Wholly OwnedForeign Enterprises
Source: Ministry of Commerce of PRC.
Website: http://www.mofcom.gov.cn/waimaotongji.shtml
Andreosso – O’Callaghan, B., & Wei, X., ‘EU FDI in China: Locational Determinants and its Role in China’s Hinterland’. - 23 -
Proceedings of the 15th Annual Conference of the Association for Chinese Economics Studies in Australia (ACESA)
Figure 2: Contractual and Realized E.U. FDI to China from 1986-2002
020406080
100
1986
1988
1990
1992
1994
1996
1998
2000
2002
Total Contractual FDI fromE.U. (US$100Million)Total Realized FDI from E.U.(US$100Million)
Source: Almanac of China’s Foreign Economic Relations and Trade, Ministry of Commerce
of PRC.
Website: http://www.mofcom.gov.cn/waimaotongji.shtml
Figure 3: FDI from E.U. in Percentage in Terms of Projects, Contractual and Realized values
to Total FDI inflow in China (From 1986-2002)
0
5
10
15
1986
1988
1990
1992
1994
1996
1998
2000
2002
Percentage in terms ofProjectsPercentage in terms ofContractual FDIPercentage in terms ofRealized FDI
Source: Ministry of Commerce of PRC.
Website: http://www.mofcom.gov.cn/waimaotongji.shtml
Andreosso – O’Callaghan, B., & Wei, X., ‘EU FDI in China: Locational Determinants and its Role in China’s Hinterland’. - 24 -
Proceedings of the 15th Annual Conference of the Association for Chinese Economics Studies in Australia (ACESA)
Figure 4: Realized FDI value per project among Top 15 FDI source countries to China till the
end of year 2002. (US$ 10 Thousand)
0100200300400500600
Hong Kong
U.S.
Japan
E.U.Averag
eU.K.
German
y
France
Netherl
ands
Macau
Cayman
Islan
d
Canad
a
Malays
ia
Singapore
Taiwan
Virgin Is
lands
Korea
Avera
ge
Source: Ministry of Commerce of PRC.
Website: http://www.mofcom.gov.cn/waimaotongji.shtml
Figure 5: Percentage of Realized Value
of FDI Distribution in Coastal (East) and
Hinterland (Central and West) China from 1979-
2001
Figure 6: Per Capita Realized FDI in the year
2000 in Coastal (East) and Hinterland (Central
and West) China
010203040506070
East
Centra
lWes
t
Averag
e
Per-Capita RealizedFDI in the year2000(US$)
0
20
40
60
80
100
1979-1995
1996 1997 1998 1999 2000 2001
WestCentralEast
Source: Almanac of China’s Foreign Economic Relations and Trade, Ministry of Commerce
of PRC.
Website: http://www.mofcom.gov.cn/waimaotongji.shtml
Andreosso – O’Callaghan, B., & Wei, X., ‘EU FDI in China: Locational Determinants and its Role in China’s Hinterland’. - 25 -