By: Daniel Allen

China rolls out the welcome mat to foreign investors. As long as they’re the right sort.

Wind the clock back 15 years and foreign direct investment (FDI) in China was all about low-cost processing. Today, China is no longer a factory to the world. Backed by billions of dollars in investment from the state, Chinese corporations and overseas firms, the country is rapidly developing its service and advanced manufacturing sectors. As an increasingly mature economy, China is moving up the value chain.

Thanks to a combination of targeted government policy and market forces, FDI in China is reflecting this economic transition. Such investment is increasingly about leveraging a booming Chinese consumer market and satisfying Beijing’s desire to develop innovative, high-tech industries.

An investment imperative

China-bound FDI has reached a plateau in recent years. Commerce Ministry figures show that while 2016 saw FDI in China up 4.1 per cent year-on-year to US$118 billion, Beijing is keen to further ramp up investment levels. A period of economic opening is now likely to catalyse increased inflows, as the Chinese government looks to make resurgent FDI a pillar of the country’s new, consumption-led economy.

Stephen Olson, a research fellow at the Hinrich Foundation in Hong Kong, believes many people underestimate the importance of FDI to China, and its critical position in the Chinese government’s thinking on economic growth.

“From R&D centres and technological ‘spillover’ right through to the acquisition of world-class management skills by Chinese nationals, the impact of FDI in China continues to be huge,” Olson says. “Beijing will take whatever steps are necessary to keep FDI flowing.”

Policy progress

China’s low and middle income households are now demanding better jobs, better services and increasing salaries. Observers such as Richard Hoffmann, a partner and co-founder of legal and consulting firm Ecovis Beijing, believe these demands can only be met by higher productivity, technological innovation and higher quality service provision. He says without foreign investment, China will not be able to meet these requirements fast enough to guarantee social stability.

“China needs FDI for a variety of reasons,” says Hoffmann. “The country still lacks technological and managerial know-how. Chinese businesses are also expanding abroad. By relaxing restrictions at home, Beijing is hoping to avoid a backlash abroad, which could harm those companies.”

Beijing is well aware that a tightly controlled economy and currency impedes growth, and is now taking concrete steps to make China more accessible and attractive to FDI. The country’s 13th Five-Year Plan, a blueprint for the country’s social and economic development until 2020, encourages foreign investment in advanced manufacturing, high and new technologies, energy conservation and environmental protection, as well as a range of modern services.

Following up on the plan, China’s Ministry of Commerce and the National Development Reform Commission revised its 2015 Catalogue for the Guidance of Foreign Investment Industries, opening it up for public comment in January this year. The catalogue outlines measures to open up manufacturing, service and financial industries to FDI. Foreign businesses will also be encouraged to bid for infrastructure projects through local franchises, and provincial governments will be empowered to approve FDI proposals valued up to US$300 million.

Commentators such as Jake Parker, the vice president of China Operations at the US-China Business Council, have described these moves as superficial, decrying the ongoing restrictions that limit or prevent FDI in many of China’s industrial sectors. China’s “negative list” currently includes 96 items – such as online publishing – in the prohibited category and 232 items in the restricted category, including telecommunications.

Other observers, such as Hoffmann, believe the situation on the ground is more nuanced. He points to the growth of China’s service industry and the rapid development of high-tech sectors as areas where foreign businesses can leverage growth and accessibility.

“If we’re talking about social media or telecommunications software, then China has indeed tightened controls,” he says. “For most other sectors we’re seeing a more open attitude. In some areas, such as the automotive sector, there has even been talk of completely lifting caps on foreign ownership.”

As China’s FDI policy environment evolves, one thing is clear: those companies that can help Chinese economic development and establish world-class Chinese industries are likely to be the ones benefitting from greater access and support.

“Beijing is walking a tightrope when it comes to FDI,” says Olson. “It wants to take the cutting-edge benefits without ceding control. If you’re a manufacturer of low-quality plastic toys looking to set up a factory in Shanghai, don’t expect to be welcomed with open arms.”

Service shift

According to China’s National Bureau of Statistics, China’s service sector accounted for 51.6 per cent of GDP in 2016, up 1.4 per cent year-on-year. The Chinese Government wants to get this number into the 70-80 per cent range, the norm for developed countries, Sara Hsu, assistant professor of economics at the State University of New York, wrote in Forbes.

The increasing consumption of services in China is driving growing levels of both domestic and foreign investment. Last year, total investment in the Chinese service sector increased 10.9 per cent year-on-year to US$5 trillion.

According to China’s Ministry of Commerce, 2016 saw FDI in China’s service industry rise 8.3 per cent year-on-year to US$83 billion, representing more than 70 per cent of total FDI. Investment in high-tech services was particularly strong, up 86 per cent year-on-year to US$13.8 billion.

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China’s shift toward services is increasingly driving investment flows across the Asia-Pacific region. From aged-care provider Aveo and medtech consultancy Ausbiotech, through to educational institutions such as Melbourne’s Haileybury College, a growing number of Australian businesses are now focusing their attention on developing Chinese trade and investment.

“Many Australian services businesses, for example those involved in education and aged care, are hoping that development of Chinese business will eventually lead into other Asian markets,” says Kristen Bondietti, principal trade consultant at Australian consultancy ITS Global.

Room for growth

The China-Australia Free Trade Agreement (ChAFTA), which came into force at the end of 2015, provides Australian companies with far greater opportunity to invest in a diverse range of Chinese economic sectors, including services.

“As Australia’s largest trading partner, China is strategically critical for Australian companies that want to be globally competitive,” says a spokesperson from Austrade, the Australian Government’s trade, investment and education promotion agency. “Investment in China’s advanced manufacturing and service sectors can move such companies up the value chain.”

ChAFTA opened doors to many Australian companies – from Queensland-based Cox Rayner Architects through to aged-care provider Aveo – that may remain closed to their European and North American competitors for years to come. Financial services providers, for example, are well placed to gain from the growth and liberalisation of services and investment in China. They now enjoy substantial access to the Chinese market, second only to competitors based in Hong Kong and Macau.