China World
Why Overseas Chinese Dominate China's Exports
Yasheng Huang
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Since the early 1990s, more foreign direct investment (FDI) has flowed into China than to any country except America. Of this vast capital inflow, overseas Chinese – from Hong Kong, Taiwan, Macao and Southeast Asia – delivered the lion’s share. Investments from Hong Kong and Macao claimed 70% of Chinese FDI in the early 90s; since then their share has decreased, yet it still accounts for 50% of China’s total FDI.
That China receives so much capital from expatriates is a global source of envy. Indian officials bemoan the fact that overseas Indians lack both the wealth and the propensity to invest back home. Economists and China-watchers celebrate this ready supply of capital, know-how, and marketing channels which enabled China to become – in a short period of time – Asia’s manufacturing base and export power-house.
Lavish praise for this stream of expatriate FDI, however, misses its deep flaws. Yes, expatriate-invested firms produce many Chinese exports, but they often do it by seizing control of export-oriented businesses from indigenous Chinese. Two ratios tell the story. One is the export/GDP ratio, which rose from 15% in 1990 to 20% in 1999, an increase of 5%. The other is the share of exports by foreign firms of total Chinese exports: this rose from 15% to almost 40% during the same period. So, foreign firms may create exports for China, but they also divert a big slice of the export pie away from indigenous Chinese entrepreneurs.
Expatriate control of so much export-oriented businesses reflects a fundamental failing in China’s financial system. China may have the second highest savings rate in the world, lagging behind only Singapore, but these funds are usually wasted on inefficient state-owned enterprises (SOEs). These investments have failed to increase the competitiveness of Chinese SOEs, yet have starved efficient local entrepreneurs of the credits they need.
As a result, expatriate Chinese investors buy up businesses controlled by indigenous entrepreneurs on the cheap because the money they bring is the only source of funds available for business expansion. China’s ability to attract so much export-oriented FDI is thus a warning that there is something very wrong with the financial system.
Discrimination against indigenous private entrepreneurs in China goes beyond finance. Until recently, private Chinese firms could not export directly to foreign buyers and could not retain foreign exchange earnings. But if you are in the export business, you need foreign exchange to import designs or intermediate inputs. The restriction of access to foreign exchange made it impossible for private entrepreneurs to run independent export businesses.
Chinese law also discriminated against local export businesses. Foreign investors often complain that their property rights go unprotected. True, perhaps, but private Chinese entrepreneurs get a far worse deal. As early as 1982, China’s Constitution contained a clause to protect property rights of foreign investors; domestic private entrepreneurs were not offered the same protection until 1999!
Supposedly, the match between China’s cheap labor costs and the entrepreneurship of expatriate Chinese investors is made in heaven. The problem with this view is that it implies that indigenous Chinese entrepreneurs are somehow incompetent. What matters about FDI is not only that foreign money comes into China, but also that it brings foreign control of business. And foreign control only makes sense if it brings in the management know-how that local entrepreneurs lack.
Is this a plausible explanation as to why Chinese entrepreneurs cede control to expatriates? A look at other countries may be instructive. Native Indian and Turkish entrepreneurs run successful export garment businesses in their countries and contract with foreign buyers to sell goods. The foreign buyers provide designs and even raw materials, while domestic entrepreneurs put them together according to required specifications.
Unless Chinese entrepreneurs are more incompetent than their Indian and Turkish counterparts - and no one suggests that – there is no reason why expatriate Chinese cannot contract with indigenous entrepreneurs to produce goods for export. The difference is that FDI brings not only a business opportunity but also financing to liquidity-starved Chinese entrepreneurs, whereas a contract only brings forth a business opportunity. China’s entrepreneurs lack money, not talent.
In fact, in some areas, Chinese entrepreneurs should know more than expatriates. Take traditional handicrafts like jade and ivory carving. In 1995, there were some 900 foreign-controlled firms producing traditional Chinese handicrafts; the average foreign equity share was 88%. Thus, in industries in which Chinese have excelled for thousands of years, foreign control is now almost absolute.
Cheap labor is the least plausible argument why so much export-oriented FDI has gone to China. FDI is not the only form of cross-border economic transaction. A Hong Kong firm can contract out its production in Guangdong province to reap the same labor-savings benefits it would gain from investing in China. Cheap labor explains why expatriate Chinese seek to produce in China; it does not explain why their investments are so sought after by the Chinese.
As China nears membership in the WTO, its political and administrative apparatus is mobilizing to improve the investment environment and property rights for foreign investors. But why not look after the interests of domestic entrepreneurs as well? The most urgent task for China’s government is not WTO membership, but improving the political, regulatory and financial treatment of Chinese entrepreneurs, who are as talented, innovative and hard working as their expatriate counterparts. There is no compelling reason why they should lose control of their businesses – often at fire-sale prices – to overseas cousins on so massive a scale.
Yasheng Huang is an Associate Professor, Harvard Business School.
Copyright Project Syndicate 2012
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