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Peking University – Guanghua School of Management

China in Transition – Final Term Paper

Outward Foreign Direct Investment and economic


Alessandro Dalla Via



For China outward foreign direct investments have recently showed a huge increase both in the
growth and in the amount, even if this is are still low compared to the direct investment that the
country receives from others. This paper has the purpose to study what is the impact of the OFDI
to the Chinese economic growth in it macroeconomic dimension. The research is so not related,
like previous studies did, to the impact of the investments on the employment, productivity or to
firm aspects; it is instead conducted considering the economic development as evolution of the
Gross Domestic Product. The time range of the analysis is from 1983 to 2009, namely since
when the reform period started until recent years, passing from different government policies in
regard to the abroad investments. The model made demonstrate that there is a correlation and a
bi-directional causality between the stock of OFDI and GDP, which can also be used to forecast
the next step of China’s evolution on outward investments.
1. Introduction

In the last 30 years China has been under observation and analysis by a lot of economists and
experts, due to its fast change (also given government policies) that carried it to become one of
the main players on the global market. It has attracted for a long time investments from all over
the world, from companies that wanted first of all the benefit of lower cost of labor; this has
brought in China firms with their knowledge and technology, but also investments into the local
economy. Thus, thanks to the huge domestic market with its specificities and its factors, to
unidirectional government policies, and to the willingness of pursue economic growth, have
permitted to China to become the “dragon” that now it is, overtaking Japan for volume of GDP
in summer, positioning now at the second place in the world after the United States.

Recently, China has attracted the attention of the world for its increasing amount of outward
foreign direct investments and especially for its growing presence in Africa; but this is just a part
of the total transformation of China. It will be showed in this paper that there is an heterogeneity
in the geography and in the sectors in which “the dragon” is directing its investments, and that it
can be considered an exception on the theory of growth of normal developing countries, even if
some theories are still applicable. What is sure is that the behavior of China within the global
economy has changed very much in the last decade; two main reasons can be identified: the
transformation of the government policy that passed from “finding the stepping stone” to “going
abroad”, and the access to WTO in 2001; thus had the consequence of encouraging the Chinese
firms to expand their business beyond the border of their own country.

The hypothesis at the base of the research is that China, with its policy of “going abroad” and its
growing amount of OFDI, is building the foundations for a future progress, for when the internal
growth helped by foreign investments will slow down. For this reason the aim of our research is
to connect the economic development of the last years with the increasing amount of OFDI from
China, to observe if and how they influence each other. Before doing that it will be examined in
Section 2 the literature concerning this topic, showing also the lacks in research; in Section 3 it
will be presented the method of study and the steps of study. In Section 4 will set out the results
of the analysis of the OFDI, showing the distribution among countries and sectors, as well as the
motivations that drive this choice. It can be anticipated that a correlation between GDP and
OFDI is expected; it will be showed if it is bidirectional or unidirectional and in which direction.
In the last Section, based on the previous evidences, it will be proposed a foresight on the future
evolution of China’s OFDI, with its consequences for the economic growth of the country.

2. Literature Review

The quick growth of China in the last part of the past century and moreover in the past decade
has interested many economists and social scientist worldwide. However the impact of China’s
outward foreign direct investment can be considered a new topic of research, due to the
increasing amount of it and also to the recent interest of China for developing countries, as it is,
for example, Africa; so for this motive, pushed by the big relevance given by the media more
people have started to observe and analyze the reasons of Chinese’s investments abroad.

Before few years ago, the attentions were focused almost only on the relevance of foreign direct
investments for the developing economies with the consequences carried for the growth. China
was analyzed as well as other countries’ economies, observing the role of FDI in its
development. It has been demonstrated (Chen, Chang, & Zhang, 1995) that FDI supported the
growth of China and played an important part in increasing the total fixed asset investment, as
well as in carrying to the people many benefits connected with the possibility to compete
globally for domestic manufacturers. Even if the role of the FDIs in the Chinese economic
development after 1978 (the begin of Deng’s era) cannot be considered only good given to the
fact that they accelerated the difference between coastal and inland cities and worsted the income
distribution, from the point of view of the growth of the GDP the help of FDIs is unquestioned.
The relevance of this factor deserved the attention paid to it, also because the growth it has had,
according to the world bank data, has been huge (except for some light downturn), considering
that in 2008 the net inflows have been bigger almost 350 times more than the ones in 1982.
Some people contended that there were many doubt among the sustainability of FID as a source
of growth for China (Broadman & Sun, 1997), but the empirical evidence supports the opposite

Watching the outward FDI, for what has been discovered and except for recent papers, no one
have taken a look on the China situation or tried to forecast it, maybe for the quick
transformation of its economy as the main reason, faster than the research improvement.
However, general theories among the relationship between OFDI and economic development
and about what brings the companies to move abroad have been formulated. Important remains
the contribution of Dunning, for the Eclectic Paradigm of International Production and also the
Investment Development Path theory (Dunning, 1981); the first says that the OFDI is the
outcome is the outcome of three advantages: ownership, location and internationalization. The
second theory enlace the economic development to the extent of FDI, that can be summarized in
five main stages of the country: the pre-industrialization time, where the domestic economy is
inward-looking, the second stage where there have been some progress under the guide of
government policies and the growth in the inward flows of investment is even higher than the
GDP one; this happens because the foreign investments are especially resource and market
seeking. In the third stage there is a dramatic advance in the outward FDI, even if it is still
smaller than the FDI; thanks to some domestic advantages the companies invest in other

countries to seek resources and market. In the fourth stage the asset abroad turn to be a factor of
increasing competitiveness of the companies and the net flow of FDI become positive, with the
overtaking of FDI by OFDI. The last stage is the one where both the outward and the inward
flows stabilize after the huge growth and so the net FDI stock revolves around zero.

The theory presented could be useful if it gets compared with specific countries. Only recently it
has been applied to China (Zhao S. , 2007), trying to recognize in which stage it currently is.
Zhao argues that China is still in the second stage of the IDP, because the main aim is still to
make the best usage of the FDI received, and to gain knowledge and technology from them;
furthermore, according to Dunning’s analysis, it is in an early stage of its economic development
because it is investing in other developing countries (China is investing first of all in Asia and
Latin America), due to its low international experience. But Zhao also add that China is going to
enter to the third stage of the path, given its changes of investment distribution by sector and
geography in the last years. It can also be said that, if there is agreement with Dunning’s theory,
the transition to the third stage can be considered as happening, because the government is
promoting the “going abroad” strategy (even if it has been proved that policies specifically
directed to promote OFDI are unnecessary because it tend to follow economic development
automatically (Liu, Buck, & Shu, 2005)), with a change also on what the companies are looking
for: not just resources to sustain the growth in the home country, but also markets to gain
technology and innovation (Ramasamy, Yeung, & Laforet, 2010).

However China represent an exception from the normal path of developing economies, because
of its high level of OFDI in the last decade, pushed by government policies when it was still at an
early stage in its economic development. For this reason some experts argue that China cannot be
analyzed utilizing the IDP theory, but new ones are needed (Gao, 2008); in fact it still can be
considered an economy that is transiting from central planning to the market, and so with its
factors it request special analysis.

Many economists have in recent times analyzed the motivation that guide the choice of China to
invest beyond the boundaries of the country and which are the characteristics of the countries
that attract China. The results shows that the determinants aren’t weaknesses of institutions or
desire of resources exploitation (Kolstad & Wiig, 2010), as can be assumed with a superficial
overview, but that Chinese firms are pushed to globalize, due to many factors such as increasing
competition inside the domestic market, government encouragement, and financial support (State
owned companies have a lower cost of capital thanks to abundant domestic liquidity and foreign
exchanges reserves), in order to establish local sales and distribution networks in host countries,
support exports and open up new markets, secure raw materials, and acquire technology and
global brands (He & Lyles, 2008).

If on one hand the financial world is showing a relatively high interest about the analysis of the
pattern China is following in its outward investments and the determinants of its choices, on the
other hand there is still a lack in research on the consequences and on the implications of the

increasing amount of OFDI for the growth of the country. The economic literature abounds of
studies on the impact of FDI on the evolution of the GDP and its factors in developing countries
(e.g. (Alfaro, 2003) and (Hansen & Rand, 2006)), showing that there is a strong link between
them, but it hasn’t been extended to further exploration on the association between OFDI and
development; nothing can be cited that could provide a clear picture of the influence of the first
on the domestic economy activity. A relevant article (Herzer, 2010) put the analysis out of the
firm and industry level (that show how OFDI affect productivity and employment), focusing on a
macro-economic level; the result is a bidirectional correlation in the long term between outward
FDI and economic growth, demonstrating that they have a strong impact on each other. Other
studies are about other East countries that has followed an economic development: Japan and
Singapore (Lee, 2009), South Korea (Debaere, Lee, & Lee, 2010), Malaysia (Wong, 2010).
However, going in detail on China, the literature provides only studies on the link between
outward investments and productivity (Zhao, Liu, & Zhao, 2010), proving wide margin for
future researches.

The aim of this paper is to partially fill the gap left by the economy literature, analyzing the
impact of the Chinese OFDI trend in the last years, and verifying if the analysis of Herzer can be
applied also to this country. The purpose is then to evidence the future evolution of the economic
growth, assuming that it will be helped by the increasing amount on investments abroad. Finally,
if the hypothesis is confirmed, the aim is also to observe which sectors will be attracted by the

3. Study Design

In this study it will first be showed what has been, in the last past years, the trend of different
factors in China: GDP, FDI and OFDI. The reason is to better compare them in the later analysis.
Main sources of the data are both international and Chinese institutions; the research is helped
first of all by the use of data from the UNCTAD, then from the World Bank and from its
agencies (especially the one dedicated to investments in emerging markets), and the OECD,
institutions with a high grade of reputation that should assure good quality of data. For the same
aim essential is also the availability of Chinese specific data, not always accessible in the website
cited above; thus are used statistics provided by the Chinese government through the Ministry of
Commerce, the Investment Promotion Agency (branch of the MOFCOM) and the State statistics
database. Furthermore important is also the presence of tables and arranged data that has been
collected by previous researchers.

Will also follow a descriptive part using the data mentioned above concerning the structure of
the China’s OFDI; the reason is to have the possibility of having a detailed view of the reasons
that drive the choice in terms of industry and location of the investments. This can help in the
further and deep analysis of the OFDI, making easier a theoretical result on the link with the

The analysis will then follow with a regression model between OFDI and GDP in China based
on time series of the last decade (from 1983 to 2009), from when the Chinese policy about
foreign investments started to change; the aim is to have an empirical result on the connection
between OFDI and economic growth. It will be measured the correlation between the two
variables and so the direction of the dependence: is the domestic economic growth increasing the
amount of outward foreign investment or is this last that have a positive effect on the GDP? It
can be anticipated that bidirectional causality is expected. Will be verified that also comparing
the growth of the GDP with the OFDI stock one. OFDI stock should be considered a better
variable than the OFDI flow, because it presents a higher similarity to the GDP trend and it’s less
influenced by differences during the years.

4. Results

The analysis starts with the observation of the trend of GDP and its growth in the last thirty
years, from 1978, when the reforms in China started and it changed the behavior in respect of the
international world. It can be seen by Fig.1 and 2 that the economic development of China has
undergone a dramatic growth during these years, and this, as said before, has been already
proved by specific research it has depended also by Foreign Direct Investments.

5000000 16,00
3000000 10,00
2000000 6,00
1000000 4,00
0 0,00
Fig.1 Growth of GDP calculated in US dollars at current 2008
Fig.2 Real GDP growth rates. Source: UNCTAD
prices and current exchange rates in millions.
Source: UNCTAD

The data collected show the evolution of the inward and the outward FDI since the opening of
China to the global economy; it is revealed being almost exponential both for the flows and for
the total stock of investment (that are connected to first ones). The key difference between them
is the period in which the growth starts: while the FDI shows an almost immediate increase in its
flow amount, for the OFDI only recently has begun an exponential growth, for the main reason
that before 2001 the government has first discouraged the transfer of money abroad, for a more
attention on the domestic market (phase in the period between 1984 and 1990, called “Fresh
Flowers” or “Poisonous Grass”) and second it didn’t promoted it until recent years (phase of

“Finding the Stepping Stone” in the years between 1991 and 2000), with the beginning of the
“going abroad” policy.

120000 500000,00
100000 400000,00
S 300000,00
F 60000 T
L 200000,00
40000 O
20000 C 100000,00
0 K
S 0,00

FDI OFDI flow FDI stock OFDI stock

Fig.3 Inward and Outward FDI flows measured in Fig.4 Inward and Outward FDI stock measured in
million US dollars. Source: UNCTAD million US dollars. Source: UNCTAD

Nevertheless, fig.5 shows that the FDI flows, and in particular the outward flows, still can be
considered low if related to the GDP of China, and if they are summed the total percentage is
almost stationary; however its composition it is changing, with a more importance of the OFDI
in recent years. This is also supported by the tendency of the growth of OFDI stock (see fig.6); it
can be observed that since year 2000, and except a negative value in 2003 (probably due to
inaccurate data and difficult access to high quality measurements), its evolution have follow an
exponential trend, with a high gap of percentage respect the FDI.

6 60,00
5 50,00
4 40,00
3 30,00
2 20,00
1 10,00



ODFI net flows (% of GDP) -20,00

FDI net inflows (% of GDP) FDI OFDI GDP

Fig.5 OFDI and FDI percentages related to the GDP. Fig.6 GDP, OFDI and FDI stocks growth.
Source: World Bank. Source: elaboration of UNCTAD data.

The FDI evolution has demonstrated that this is still a strong component of the Chinese
economic development. Will be showed now in detail the structure of the OFDI of China, to see
how they are changing in recent times (elements that will be useful for our discussion).

In table 1 is presented the distribution of the outward investment of China by sector. It can be
seen that all the values present a huge growth between the two sample years (2004 and 2009);
the more important are the one of the primary and the tertiary industry, that gain share to the
detriment of the manufacturing.

2004a 2009
Sector / industry total share total share growth
All sectors / industries 44.796 100,00% 2.458.000 100,00% 5387,15%
Primary 6.786 15,15% 425.234 17,30% 6166,71%
Agriculture, forestry, and fishing 834 1,86% 19.664 0,80% 2257,14%
Mining, quarrying and petroleum 5.951 13,29% 405.570 16,50% 6714,73%
Secondary 4.539 10,13% 135.190 5,50% 2878,36%
Manufacturing 4.539 10,13% 135.190 5,50% 2878,36%
Tertiary of which: 33.471 74,72% 1.895.118 77,10% 5561,99%
Leasing and commercial services 16.446 36,71% 73.740 3,00% 348,39%
Financial services n.a 459.646 18,70% n.a
Wholesale and retail 7.843 17,51% 356.410 14,50% 4444,15%
Transport, storage and postal services 4.581 10,23% 167.144 6,80% 3548,99%
Not including financial OFDI.
Table 1. China: distribution of outward FDI stock, by economic sector and industry, 2004, 2009; measured in US$
million. Source: MOFCOM, Statistical Bulletin of China’s Outward Foreign Direct Investment.

The following table shows what choices guide the geographic distribution of China’s OFDI. The
main continents are Asia and Latin America, even if this last one shows a decrease in the two
years considered for the benefit of Africa and developed countries. However the expansion
percentage is still low and so it can be said that the general evolution has not changed too much.
It must be said that, even if here are reported the locations only by continent, the distribution
inside each one is very heterogeneous; for example in Asia China is investing principally in
Hong Kong, with a share of 74% in 2004 and 67% in 2009 of the total Asiatic investment.
Furthermore Cayman Islands and British Virgin Islands hold respectively 11% - 6% and 2% -
6% of the investment in Latin America in 2004 and 2009. The reason of this behavior has to be
researched in fiscal facilitations, and so that can cause a distortion in our analysis.

2004 2009
Region/economy total share total share
World 44777,26 100,00% 2458000 100,00%
Africa 899,55 2,01% 93000 3,78%
Asia 33409,53 74,61% 1855000 75,47%
Europe 746,66 1,67% 87000 3,54%
Latin America and Caribbean 8268,37 18,47% 306000 12,45%
North America 909,21 2,03% 52000 2,12%
Oceania 543,94 1,21% 64000 2,60%
Table 2. China: geographical distribution of outward FDI stock, 2000-2009; measured in US$ million.
Source: MOFCOM, Statistical Bulletin of China’s Outward Foreign Direct Investment.

In the second part of the study it is analyzed the potential influence of OFDI to GDP and the
opposite direction. A first regression has been made considering the following independent

variables (the dependent one is GDP): OFDI flow, OFDI stock and growth of the OFDI stock.
The result in unfulfilling: the model cannot be correct; the reason is that the variables are
interrelated. Thus a second model has been created considering only the OFDI stock. It is
considered the variable that should better fit with the GDP because it has the same behavior: they
both represent the past and the present year and they are a sum of the past flows; it also presents
a statistic significance and an higher beta-weight a so it is the one that help more to explain the
trend of the dependent variable.

At a first view the result seem satisfactory because the variable has significance (P-value=
0,000%) and R2= 91,5%, that means that the GDP variation can be explained by the OFDI stock
for the 91,5%. However the presence of heteroskedasticity invalidates our model.

To eliminate this problem, both the GDP and OFDI stock variables have been converted to a
logarithmic function. The model is now satisfactory, with significance of the OFDI variable.
Here is the resulted equation:


The model shows an acceptable robustness, given that the GDP can be explained at the 85,5% by
the OFDI stock (and this variable is significant), and the Breusch-Pagan test indicates that there
is no heteroskedasticity. The equation implies that the Chinese GDP increases by about 0,42
percent in response to a 10 percent increase in outward FDI stock.

It has also been proved the connection between GDP and OFDI stock in the opposite way: how
is the GDP affecting the amount of outward foreign direct investment.


The model can be considered acceptable, even if the Breusch-Pagan test reveals the presence of
heteroskedasticity. The result can be kept because it is better than comparing the variables GDP
and OFDI stock used before, and the problem could be provoked by the low number of variables
considered. The equation extracted implies that an increase of 10 percent of the GDP causes an
increase of almost 1,27 percent of the OFDI stock.

The figures below demonstrate that a linear model for the variables considered is tolerable due to
the distribution of the data. Furthermore the relationship between GDP and OFDI (stock) shows
a correlation of 90,83%, indicating an high influence between them.

8000000 16

6000000 15


4000000 14

2000000 13

0 12
0 100000 200000 300000 4 9 14
OFDI stock lnOFDI stock

Fig.6 Relationship between GDP and stock of OFDI. Fig.7 Relationship between ln(GDP) and ln(OFDI_stock).

5. Discussion and Conclusion

In the last thirty years China has faced huge changes; with the reforms and the opening to the
global world in 1978, it has started a period of big economic development. This has been
supported by the foreign direct investment, that brought to the country money to sustain the
growth, knowledge transfers and adoption of new technologies (Hansen & Rand, 2006), as well
as more employment for the local labor. The data collected show an increase of the flows of FDI
connected to the level of GDP, but also the appearance of outward FDI in recent years, that does
not affect the amount of FDI in China. The trend started to grow exponentially from 2001, with
the change of policies by the government and the access of China to the WTO.

The aim of this study is to observe the connection between the OFDI and the GDP of the home
country, to see if, as well as the FDI does, it can have an influence on the economic growth. The
empiric evidence has showed that this link exists, and it tends to be bidirectional, suggesting that
increased outward FDI is, in fact, both a consequence and a cause of increased domestic output,
even if the weight of the two variables is different. According to the model created, GDP seems
to have more influence on the stock of OFDI than the opposite; this means that more the GDP
grows, more the country have the tendency to expand its economy abroad. In general, the reasons
can be found in different aspects: at the top of the economic growth a country could be affected
by a decrease in its internal market, that could bring companies to move to other ones; with more
economic development the technology and managerial skills also should be more accessible and
diffused, giving the capacity of the domestic players to compete with companies abroad.
However, the relationship between the two variables should be different in terms of time; even if
the analysis made is not able to show this aspects (and future research is needed), it can be
hypothesized that first the OFDI affect the GDP helping the growth of it, and later this second
element influence the first, causing an intensification of its amount.

Looking at equation [1] it can be observed that the influence of OFDI to the GDP is quite low.
This result is totally accepted and can be justified by the fact that a lot of factors affect the
economic growth of a country and in this case of China, and the stock of OFDI is just one of
them. For this reason further studies should include also other variables such as productivity,
effectiveness of the government, and human capital, to see which percentage of the Chinese
growth of GDP is caused by the OFDI.

On the other way, the influence of the GDP to the OFDI was expected to be higher, due to the
general considerations made before. The cause of this effect can be seen in how China, with its
characteristics, is evolving in the kind and amount of abroad investments. The fact that the GDP
has such a low influence on the OFDI is probably motivated by the fact that China is still an
emerging country, transiting from a state owned to a market economy; for this reason its
domestic market has still big spaces for the development, given that there are still many sectors
not served by the market (with also all the opportunities that this brings to the companies), and so
with future possibilities of expansion. Thus for China the FDI has still a positive effect on the
growth, and, on the other hand, the companies have not reached the skills in terms of technology
and management that could make them able to compete in the entire world, beyond the specifity
of the internal market.

It would also be interesting to observe in which sectors there is still a margin for potential
growth; to do this some considerations can be made looking at the distribution of the Chinese
OFDI, with the awareness that they cannot be as exhaustive as a specific analysis. The data
shows that currently the first type of investment for total share is the tertiary industry (77%),
followed by the primary (17%) and the secondary (6%); however it must be said that large part
of the advantage of the tertiary over the other two sector is due to financial services, that are
most of the time done under fiscal reasons (see considerations in Section 4). It can be said that
China is increasing the investment in resources beyond the country’s boundary to support the
economic development “at home” (the principal M&As of the last years have concerned
companies involved in mining, oil and natural gas); this is followed by the research of market
access and technology (emblematic is the acquisition of IBM by Lenovo in 2004, that is said to
have been done to acquire knowledge and not only market share). However the percentage of
manufacturing seems to show a decrease during the years. This last element can be considered a
crucial one, which demonstrates that still there is a big margin for low cost labor in China, given
to the reason that no kind of outsourcing has started. Also it cannot be said if China is putting the
basement for its future development, because the amount of OFDI shows that it is still almost at
an early stage of its evolution.

In a forward prospect, if China will follow the path of developed countries, it can be expected
that there will be a growth in the amount of OFDI, with this structure of the components: a
constant value in the resource seeking, maybe with a change from mineral to energy resources,
due to need of supporting the economic growth; can be also forecasted, in a future maybe not

very close, an increase of the OFDI in manufacturing and technology, given that, when the
domestic market will tend to be saturated, the companies will need to be able to compete with
foreign ones in other countries.

In conclusion the study made can make a good contribution to the research because it has
revealed a positive association between outward foreign direct investments and economic growth
in China. For this reason OFDI can be seen as a factor of increase for the domestic output, even
if the contribution of it to the total volume is not clear; hence further analysis have proved to be
necessary (considering a more variables and more sophisticated approaches). Lastly the analysis
of the structure of the Chinese OFDI and the results obtained made it possible to forecast the
future increase in the amount of stock of OFDI and its components.

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