Foreign Direct Investment Policies in China from 1990s to 2017: review and analysis

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Government of the Russian Federation

National Research University Higher School of Economics

Faculty of World Economy and International Affairs

Educational Programme

“Socio-Economic and Political Development of Modern Asia"

MASTER'S THESIS

Foreign Direct Investment Policies in China from 1990s to 2017: review and analysis

Student

Vasilisa Cherniavtseva

ReviewerR Reviewer Scientific Advisor

Sergey Shaposhnikov

Moscow, 2018



Table of Contents

Abstract

Introduction

Chapter 1. Concept definition: FDI theory and forms of inward FDI in China

1.1 What is “Policy”

1.2 What is “Foreign Direct Investment”

1.3 Forms of Inward FDI in China

Chapter 2. China FDI policy: Overview from 1990s until 2017

2.2 Ideological Background of China's FDI Policy Development

2.3 Establishment and Evolution of Dualist Regulatory System

2.4 Guidance Policy

2.5 Regional Policies

Chapter 3. China FDI Incentive Policies Effectiveness Analysis

3.1 FDI Guidance Policy Effectiveness

3.2 Regional Policy Effectiveness Analysis on Yunnan Province Example

Conclusion

List of References

Attachments



Abstract

china policy regional sectoral

China is one of the leading countries by FDI absorption. There are many factors which impact its attractiveness as FDI host country, and on one of them is country's foreign direct investment policy. This paper aims to determine whether China's FDI policy has major impact on FDI inflows and distribution by analyzing the effectiveness of regional and sectoral FDI promotion policies. Review and evaluation of both types showed that sectoral incentives policy effect on FDI inflow and distribution is limited, while regional incentive policy is rather effective.



Introduction

It is generally believed that FDI has a beneficial impact on the host country, such as higher output, employment, technology transfer and corporate tax revenue contribution. Prakash Loungani and Assaf Razin : “How beneficial is foreign direct investment for developing countries?”; International Monetary Fund Website: http://www.imf.org/external/pubs/ft/fandd/2001/06/loungani.htm; accessed 22.04.18 However, there can be some negative effects as well: income inequality, environment degradation, dual economy effect and others. Therefore, many countries, including China, introduced special policies to promote and regulate FDI. China's FDI policy is a topic that is regularly studied by a number of researchers. However, by the moment of writing there is no research taking into account the latest policies. This is what this paper is about to do.

Research Method and Objectives

This paper is devoted to foreign direct investment policies in China from 1990s to 2017. The main aim is to analyze the effectiveness of China's FDI policies. The research question of thesis is: “To what extend China's FDI policies influence their inflows and distribution?”. Basing on this question I formulated research hypothesis and null hypothesis, which are:

Hypothesis: “China foreign direct investment policy has major impact on FDI inflows and distribution”;

Null Hypothesis: “China foreign direct investment policy is not a key determinant of FDI inflows and distribution”.

The study considers two important issues which are also research objectives:

What are China foreign direct investment policies and how they changed with the time?

To what degree China foreign direct investment policies actually reached their goals?

The object of studies is China's inward foreign direct investment, while the subject is China's inward FDI policy. To illustrate the object of research mixed method research design was used. Qualitative methods helped to analyze ideological background, particularities of FDI regulatory system and regional policies, and quantitative methods were used to identify main trends in FDI guidance policy and analyze their effectiveness, as well as to evaluate regional policy.

Data

Data supporting this paper can be generally divided into primary and secondary sources. In turn, primary sources can be also divided into several groups. Group one is statistics, which came mainly from China Statistical Yearbook various editions and World Bank. Group two includes different types of legal documents, in most cases published on the official websites of Chinese governmental bodies such as Ministry of Commerce website, National Congress of the Communist Party of China website and Consulate-General of the PRC website. Group three includes speeches of China's officials, published in various media.

As for secondary sources, there are those which helped to understand and illustrate foreign direct investment theories (Buckley, Casson, Dunning, Morgan) and studying China's FDI policy before. China's FDI policy is a topic that is regularly studied by a number of researchers. Obviously, to invest in China it is important to know the conditions for foreign investments, and these conditions are constantly changing. This paper particularly interested in the political aspect, so the literature relevant for the research is also focused on this aspect. Guoqiang Long in "China Policies on FDI: Review and Evaluation" analyses Chinese policy on FDI since 1990s. According to the author, China implemented different types of FDI policies to boost export and introduce technological advancements. He also mentioned, that the policy of PRC changed after China became a member of WTO, and became more neutral and voluntary. Guoqing Long: "China's Policies on FDI: Review and Evaluation", Center for Global Development, 2005, pp. 1-22 However, the latest data used by the author is of the years 2002- 2003, and many things have changed since that time. Indeed, there are relatively many studies on the Chinese FDI regulations after the WTO Accession. For example, Chunlai Chen's paper "The development of China's FDI Laws and Policies after WTO Accession". According to the author, although some important reforms were introduced in a relatively short period, which is a sign of China's commitment to adjust to the WTO's investment-related principles, there is still much to be done here. In particular, China's current FDI policy lacks transparency, national treatment and protection of intellectual property rights. Chunlai Chen: "The development of China's FDI laws and policies after WTO accession"; Australian National University Press Website: http://press-files.anu.edu.au/downloads/press/p113721/pdf/ch063.pdf; accessed 22.12.17 Another interesting fact is that there are several studies, comparing Chinese and Indian policy on FDI. Probably, it is related to the fact that recently India is another Asian economy, absorbing a great deal of foreign investments. In "FDI Policies in China and India: Evidence from Firm Surveys" Yasheng Huang and Heiwai Tang examined empirically the foreign enterprises perception of business environment in China and in India, and made conclusion, that for India the problem is the administrative obstacles foreigners face with, and for China the problem is the domestic liberalization.Yasheng Huang and Heiwai Tang: "FDI Policies in China and India: Evidence from Firm Surveys"; Heiwai Tang website: http://www.hwtang.com/uploads/3/0/7/2/3072318/world_economy.pdf, accessed 22.12.17 However, as far as I can see, by the moment of writing there is no research taking into account the latest policies. Although there are some articles covering the latest changes in China's FDI policy, there is no analysis connecting this new reality with what happened before. This is what this paper is about to do.

Limitations

FDI policy is a huge subject which cannot be ultimately covered in one paper, as well as policy is not the only determinant of FDI inflows. This study is not meant to provide an overview and analysis of all China's policies on all levels which have relation to foreign direct investment, but only the key ones, such as FDI regulation, FDI guiding policy and regional policies. Besides, it considers the ideological frameworks of country's FDI policy development. The study does not provide a comprehensive analysis of China's tax policy and foreign exchange control.

Why Starting from 90s?

China opened itself to foreign direct investment at the beginning of the policy of reforms and opening (1978) and in 2014 China became the world's largest FDI recipient. “China Becomes World's Largest FDI Recipient Amid Mixed Global Outlook”, The State Council of the People's Republic of China website: http://english.gov.cn/news/top_news/2015/06/25/content_281475134110982.htm; accessed 22.04.18 This looks like a success story, but it did not happen immediately. It is important to remember than until 1990s China officially supported national development in accordance with command planning economy model, and within these frameworks it is hard to find a place for FDI.

In 1990s communist party of China officially removed ideological obstacles for reforms by introducing a new paradigm of “Socialist Market Economy”, followed by numerous reforms of China's economic system. This was a starting point for modern commercial system construction.

Besides, 1990s, and the year 1992 more particularly is the starting point of massive FDI inflow growth. From 1970s there was a steady growth in FDI inflows with some fluctuations in the 1980s. The average annual inflow was $65.5 Billion. But since 1992 the FDI inflow has accelerated and average annual inflow from 1992 to 2016 was $1.3 Trillion, which is twenty times more than the figure of years 1970-1991. Nevertheless, this growth was far from being stable, dropping significantly in 2001 and 2009. Foreign direct investment, net inflows; World Bank website: https://data.worldbank.org/indicator/BX.KLT.DINV.CD.WD; accessed 17.03.18



Chapter 1. Concept definition: FDI theory and forms of inward FDI in China

The aim of this paper is to review and analyze foreign direct investment policies in China from 1990s to 2017. Paper's title contains two important concepts that should be addressed before starting the analysis - concept of “policy” and concept of “FDI”.

1.1 What is “Policy”

The word “policy” has a lot of different meanings. Therefore, it is necessary to mention at the beginning what is meant by “policy” in the current paper. Among many definitions of this word I decided that the one by Merriam-Webster dictionary better than others reflect the subject of our studies. According to the Merriam-Webster dictionary policy is “a high-level overall plan embracing the general goals and acceptable procedures especially of a governmental body”. Merriam-Webster dictionary: https://www.merriam-webster.com/dictionary/policy; accessed 02.04.18 This definition was chosen due to two reasons. First, because it mentions government as a producer of policy, and this paper will review the policies only of the Chinese government. Second, it defines a form the policy should take - “high-level overall plan embracing general goals and acceptable procedures”. Merriam-Webster dictionary: https://www.merriam-webster.com/dictionary/policy; accessed 02.04.18

1.2 What is “Foreign Direct Investment”

According to OECD “direct investment is a category of cross-border investment made by a resident in one economy (the direct investor) with the objective of establishing a lasting interest in an enterprise (the direct investment enterprise) that is resident in an economy other than that of the direct investor”. Benchmark Definition of Foreign Direct Investment: Fourth Edition; OECD website: https://www.oecd.org/daf/inv/investmentstatisticsandanalysis/40193734.pdf; accessed 28.03.18 Foreign investor should own at least 10% of the business. The same definition we find in the IMF Balance of Payments Manual. MF Balance of Payment Manual, fifth edition, paragraph 359; IMF website: https://www.imf.org/external/np/sta/bop/BOPman.pdf; accessed 28.03.18

Foreign direct investment has been a subject of interest of many researchers and there is a large number of theoretical studies of this phenomenon. However, there is no a single general theory which would explain the nature of FDI. The main question here is: what makes companies invest overseas? Table 1 presents main theories explaining the motivation of companies who establish their presence abroad.

Table 1 - Main foreign direct investment theories

Theory	Main assumptions	Representatives
Market Imperfections Theory	In a world of “perfect competition” there would be no FDI. Foreign direct investments are determined by specific advantages of enterprises such as innovative technology, brand names or marketing skills, as local firms are by default in a more advantageous position. A selective review of foreign direct investment theories, United Nations ESCAP, Working Paper NO. 143, March 2014; p.4	Hymer, Kindleberger
Internalization Theory	MNE's boundaries are set where benefits of further internalization are offset by the costs; enterprises are looking for a least-cost location for each activity; enterprises profitability depends on innovation. Peter J. Buckley, Mark Casson :“The Internalization Theory of the Multinational Enterprise: A Review of the Progress of a Research agenda after 30 years”; Article in Journal of International Business Studies, August 2009, p.3	Buckley, Casson
Eclectic Paradigm of Dunning	Extent, form and pattern of international production is determined by configuration of ownership, location and internalization advantages. John H. Dunning: “The Eclectic Paradigm of International Production”; University of Reading and Rutgers University, 1988, pp.3-15	Dunning
Uppsala Internalization model	Four main stages of internalization: absence of regular export activity, export via independent intermediaries, establishing of trade missions, establishing of production abroad. Robert E. Morgan and Constantine S. Katsikeas: “Theories of international trade, foreign direct investment and firm internalization: a critique”; MCB UP Limited 1997, p. 72	Johanson, Vahlne, Wiedersheim- Paul

Source: Author's own summary



All of the abovementioned theories agree on one thing: markets are imperfect. In a situation of perfect competition (means: a situation where the sellers of a product or service are free to compete fairly, and sellers and buyers have complete information Cambridge Dictionary website: https://dictionary.cambridge.org/ru/%D1%81%D0%BB%D0%BE%D0%B2%D0%B0%D1%80%D1%8C/%D0%B0%D0%BD%D0%B3%D0%BB%D0%B8%D0%B9%D1%81%D0%BA%D0%B8%D0%B9/perfect-competition; accessed 31.03.18) there would be no need for companies to make foreign direct investments, and international trade would be the only form of participation in foreign market. Stephen Hymer, Canadian economist and author of market imperfections theory argued, that local companies are by default in advantageous position because they know better local market conditions, legislation, culture and so on, so foreign company should have some specific advantages. A selective review of foreign direct investment theories, United Nations ESCAP, Working Paper NO. 143, March 2014; p.4

Peter J. Buckley and Mark Casson internalization theory also recognizes markets imperfection, assuming that “benefits from internalization arise from the avoidance of the imperfections in the external market”. Peter J. Buckley, Mark Casson :“The Internalization Theory of the Multinational Enterprise: A Review of the Progress of a Research agenda after 30 years”; Article in Journal of International Business Studies, August 2009, p.2 However, internalization has its costs as well. Therefore, boundaries of a multinational enterprise “are set at the margin where the benefits of further internalisation of market are just offset by the costs”. Peter J. Buckley, Mark Casson :“The Internalization Theory of the Multinational Enterprise: A Review of the Progress of a Research agenda after 30 years”; Article in Journal of International Business Studies, August 2009, p.2 Another two principles of internalization theory are:

Companies are looking for a least-cost location for each activity;

Enterprises profitability depends on innovation. Peter J. Buckley, Mark Casson :“The Internalization Theory of the Multinational Enterprise: A Review of the rogress of a Research agenda after 30 years”; Article in Journal of International Business Studies, August 2009, p.2

John Harry Dunning continued to develop internalization theory and came up with an eclectic paradigm otherwise referred to as “OLI model”. By now OLI is the predominant theoretical perspective to study FDI. OLI goes for ownership, location and internalization - three conditions necessary for the company to go abroad in form of FDI. Ownership advantages are specific advantages of a company which are determined by the nature and nationality of their ownership. They should compensate the setting up and operational costs of the FDI enterprise. Besides, it should be more beneficial for the enterprise with ownership advantages to “transfer them across national boundaries within their own organizations rather then sell them, or their right of use to foreign-based enterprises”. John H. Dunning: “The Eclectic Paradigm of International Production”; University of Reading and Rutgers University, 1988, p.3 These are “location advantages”. And, finally, it should be beneficial for the enterprise to use its ownership advantages combining with “at least some immobile factor endowments or other intermediate products in another country”. John H. Dunning: “The Eclectic Paradigm of International Production”; University of Reading and Rutgers University, 1988, p.3 According to Dunning, “failure of international intermediate product markets is both a necessary and sufficient condition to explain the existence of MNEs”. John H. Dunning: “The Eclectic Paradigm of International Production”; University of Reading and Rutgers University, 1988, p.4 All of the abovementioned advantages are determined by market failures or distortions: internalization is result of the spacial market failure, location advantages derive from transactional market failure and ownership advantages go from structural market distortions. John H. Dunning: “The Eclectic Paradigm of International Production”; University of Reading and Rutgers University, 1988, p.3-8

Another FDI theory mentioned in Table 1 is the Uppsala internalization model. Uppsala model was introduced by a group of Scandinavian researchers (Johanson, Vahlne, Wiedersheim-Paul) collectively referred to as Uppsala school. If eclectic paradigm is a holistic theory, general framework to be applied in the macroeconomic studies, Uppsala model is designed for microeconomic studies, on the company level. By studying a large number of Swedish multinational enterprises Uppsala school identified four main stages of internalization process:

Absence of regular export activity;

Export via independent intermediaries;

Establishment of subsidiaries;

Establishment of production abroad. Robert E. Morgan and Constantine S. Katsikeas : “Theories of international trade, foreign direct investment and firm internalization: a critique”; MCB UP Limited 1997, p. 71-72

Current paper has Dunning's Eclectic Paradigm as a basis, because it recognizes the significance of location advantages. According to the OLI model, we can generally divide FDI determinants into source factors (ownership and internalization advantages) and host economy factors (location advantages). Location advantages, in turn, are determined by many factors such as low labor costs, infrastructure development, per capita GDP and host country special policies. China's inward FDI policy which is the subject of the thesis is one of the determinants of location advantages.

1.3 Forms of Inward FDI in China

The object of this paper is “China's inward foreign direct investment”. Basically, there are three main forms of inward FDI in China:

Sino-Foreign Equity Joint Venture (EJV);

Sino-Foreign Cooperative (Contractual) Joint Venture (CJV);

Wholly Foreign Owned Enterprise (WFOE).

Sino-Foreign Equity Joint Venture

Sino-Foreign Equity Joint Venture (’†ЉOЌ‡ЧКѕ­УЄЖуТµ) is a limited liability company with a share of investment by a foreign partner not less than 25%. Contribution of partners may be in form of cash, capital goods, industrial property rights or other, and the value of contribution is specified in the JV contract and in articles of association. Parties of equity joint venture operate business together through a board of directors, take risks and distribute profits according to their investment contribution to the registered capital. Law on Sino-Foreign Equity Joint Ventures; MOFCOM website: http://english.mofcom.gov.cn/article/lawsdata/chineselaw/200301/20030100062855.shtml; accessed 03.04.18

Sino-Foreign Cooperative (Contractual) Joint Venture

Sino-Foreign Cooperative Joint Venture (’†ЉOЌ‡Ќмѕ­УЄЖуТµ) otherwise referred to as Contractual Joint Venture is a cooperative enterprise where “investment or terms for cooperation, distribution of earnings or products, sharing of risks and losses, method of business management and the ownership of property on the expiry of the contract term shall be prescribed in the cooperative enterprise contract”. Law on Sino-foreign Cooperative Joint Ventures; MOFCOM website: http://english.mofcom.gov.cn/article/lawsdata/chineselaw/200301/20030100065891.shtml; accessed 03.04.18 Basically, all the rights and duties of joint parties are defined by contract. Just like EJV cooperative joint ventures are managed by a board of directors, and this board of directors or joint management body should also be set up in accordance with the contract. Investment may be in form of cash, kind, land-use rights, industrial property rights, non-patented technology and other property rights. In case of contractual joint venture, the proportion of investment by foreign partner is not specified. Law on Sino-foreign Cooperative Joint Ventures; MOFCOM website: http://english.mofcom.gov.cn/article/lawsdata/chineselaw/200301/20030100065891.shtml; accessed 03.04.18

Wholly Foreign-Owned Enterprises

WFOE (ЉOЧКЖуТµ) is a company founded with solely foreign capital, with the exception of branches of foreign organizations. Law on Wholly Foreign-Owned Enterprises; MOFCOM website: http://english.mofcom.gov.cn/aarticle/lawsdata/chineselaw/200301/20030100062858.html; accessed 03.04.18 By default, WFOE should be a limited liability company, however, other types of liability are not excluded if in accordance with Chinese law. Law on Wholly Foreign-Owned Enterprises points out that WFOEs should “benefit the development of the Chinese national economy”. For that reason China encourages the establishment of export-oriented and innovative WFOEs. Law on Wholly Foreign-Owned Enterprises; MOFCOM website: http://english.mofcom.gov.cn/aarticle/lawsdata/chineselaw/200301/20030100062858.html; accessed 03.04.18

Table 2 - Forms of FDI in China by number of projects 1994 -2015 (unit)

Year	EJV	CJV	WFOE	Other
1994	27890	6634	13007	115
1995	20455	4787	11761	181
1996	12628	2849	9062	134
1997	9001	2373	9602	152
1998	8107	2003	9673	67
1999	7050	1656	8201	115
2000	8378	1757	12196	16
2001	8893	1589	15643	15
2002	10380	1595	22173	23
2003	12521	1547	26943	25
2004	11570	1343	30708	43
2005	10480	1166	32308	47
2006	10223	1036	30164	50
2007	7649	641	29543	38
2008	4612	468	22396	38
2009	4283	390	18741	21
2010	4970	300	22085	51
2011	5005	284	22388	35
2012	4355	166	20352	52
2013	4476	142	18125	30
2014	4824	104	18809	41
2015	5989	110	20398	78

Source: China Statistical Yearbooks 1996-2016

Table 2 shows the number of EJV, CJV, WFOE and other projects from 1996 to 2016. As we can see, initially the most popular form of foreign direct investment was Sino-foreign equity joint venture, but in 1997 the number of wholly foreign owned enterprises overcame the number of EJVs and since then WFOE has been the most popular form of inward FDI in China. Researchers mainly outline three key reasons of these changes: foreign investor's disappointment in other forms of FIE reflected in most research conducted in 1990s, advantages of WFOE, in particular, the highest level of control over operations and strategies, and, on top of that, changes in regulations towards a less uncertain environment. Ping Deng: “WFOEs: The most popular entry mode into China”, Business Horizons, July, 2001, p. 63 Indeed, 1990s was the start of China's commercial legal system construction, and changes in the preferred mode of entry is a significant indicator of fundamental change in China's way to attract foreign direct investment.

Ultimately, Chapter one illustrated the object and the subject of the current thesis which are China's inward foreign direct investment and China's inward FDI policy respectively. It was decided to take Dunning's Eclectic Paradigm as a basis for the analysis of research subject, as paradigm includes location advantages theory, indicating host country's conditions, including special policies, as one of the important determinants of FDI inflows. Later on I will try to find out whether there is a correlation between certain China's inward FDI policies and FDI inflow. Inward FDI in China which is the research object presents in China in three main forms: EJV, CJV and WFOE. Although initially EJV was the most popular entry mode for foreign investors, since 1997 situation has changed and WFOE became the most preferred FIE form. This fact indicates the significant change in China's way to attract foreign direct investment, providing a more certain regulatory environment and more relaxed attitude.

Chapter 2. China FDI policy: Overview from 1990s until 2017

Since 1993 China is, without any doubts, one of the major recipients of FDI in developing Asia. From $153.248 Billion in 1992 China's foreign direct investment net inflows reached $2.3 Trillion in 2016, peaking at $3.099 Trillion in 2007. Foreign direct investment net inflows; World Bank website: https://data.worldbank.org/indicator/BX.KLT.DINV.CD.WD; accessed 17.03.18 And, of course, since that time China has already formulated a set of FDI policies. The aim of this chapter is to make a comprehensive overview of these policies, starting from 1990s until 2017.

2.2 Ideological Background of China's FDI Policy Development

Talking about China it is important to consider the ideological discourse, and FDI case is a good example of why it is so. Although China began to attract FDI since the beginning of the policy of reforms and opening (1978) and even formulated some of the first foreign investment regulations in the end of 1970s and 1980s (Law of People's republic of China upon Sino-Foreign JV, Law of People's republic of China upon Sino-Foreign cooperative enterprises, etc.), officially China's economic system was still a centralized planning command system. Obviously, FDI was not compatible to such a system as it was considered as a purely capitalist phenomenon. Therefore, overall situation remained unclear until the 1990s.

In 1992, 14th National Congress of CPC announced “Socialist Market economy” to replace the centralized command economy system. “By establishing such an economic structure we mean to let market forces, under the macroeconomic control of the state, serve as the basic means of regulating the allocation of resources, to subject economic activity to the law of value and to make it responsive to the changing relations between supply and demand.” Full Text of Jiang Zemin's Report at 14th Party Congress, Beijingreview.com: www.bjreview.com.cn/document/txt/2011-03/29/content_363504_3.htm, accessed 21.03.18, said Jiang Zemin in his speech during the 14th National Congress, “We should continue to improve the investment environment and provide better conditions for foreign businessmen to invest and do business in China, and we should give them full legal protection”. It was the end of the long debate “over what is socialist and what is capitalist”. Full Text of Jiang Zemin's Report at 14th Party Congress, Beijingreview.com: www.bjreview.com.cn/document/txt/2011-03/29/content_363504_3.htm, accessed 21.03.18 Another important point from the 14th National Congress was the demarginalization of the private sector. Although public sector was still meant to be predominant, the existence of the private sector including individually owned and foreign-owned enterprises was no longer ignored. What is even more important, these changes were reflected into China's constitution of 1993. Let's take a look at article 15 before the amendment:

“The State practices planned economy on the basis of socialist public ownership. It ensures the proportionate and coordinated growth of the national economy through overall balancing by economic planning and the supplementary role of regulation by the market. Disturbance of the socio-economic order or disruption of the State economic plan by any organization or individual is prohibited" Amendment to the Constitution of the People's Republic of China, National People's Congress of the People's Republic of China website: http://www.npc.gov.cn/englishnpc/Constitution/node_2828.htm; accessed 22.03.18

and after the amendment:

"The State practices socialist market economy. The State strengthens economic legislation, improves macro-regulation and control, and prohibits in accordance with law any organization or individual from disturbing the socio-economic order." Amendment to the Constitution of the People's Republic of China, National People's Congress of the People's Republic of China website: http://www.npc.gov.cn/englishnpc/Constitution/node_2828.htm; accessed 22.03.18

The constitution amendment officially removed the obstacles for the introduction of FDI policies and laws.

The 15th National Congress of CPC defined “socialist politics with Chinese characteristics” as “ruling the country by law”. Jiang Zemin's report at the 15th National Congress of the Communist Party of China; Wellesley College website: http://academics.wellesley.edu/Polisci/wj/308S/Readings/jzm15CCP.htm; accessed 23.03.18 Since that time the concept of “the rule of law” firmly entered Chinese ideological rhetoric.

The 16th National Congress adopted “Three Represents” theory as a “guiding ideology of the CPC together with Marxism-Leninism, Mao Zedong Thought and Deng Xiaoping Theory”. Report to the 16th National Congress of the Communist party of China; Bjreview.com: http://www.bjreview.com.cn/document/txt/2011-03/24/content_360557_3.htm; accessed 23.03.18 The core idea of this theory is that party should represent not only the interests of the working class, but of all nation, including entrepreneurs and peasants. Report to the 16th National Congress of the Communist party of China; Bjreview.com: http://www.bjreview.com.cn/document/txt/2011-03/24/content_360557_3.htm; accessed 23.03.18 It meant the end of the ambiguous status of private business and entrepreneurship in Chinese economy.

In 2007 on the 17th National Congress party leaders again emphasized the importance of “rule of law” and “Socialist Market Economy”. It was decided that “socialist market economy is basically in place, but there remain structural and institutional obstacles slowing down development”. Full text of Hu Jintao's report at 17th Party congress; Chinadaily.com: https://www.chinadaily.com.cn/china/2007-10/24/content_6204564_7.htm; accessed 23.03.18 Besides, party leaders expressed commitment to ensure the “win-win” cooperation with foreign investors, to “improve the structure of foreign investment utilized, and let the use of foreign capital play a positive role in facilitating independent innovation, industrial upgrading and balanced development among regions”. Full text of Hu Jintao's report at 17th Party congress; Chinadaily.com: https://www.chinadaily.com.cn/china/2007-10/24/content_6204564_7.htm; accessed 23.03.18

The position of 18th National Congress was even more favorable. Decision of the Central Committee of the Communist Party of China on Some Major Issues Concerning Comprehensively Deepening the Reform adopted during the 3rd plenary session of the congress expressed the intention to introduce a number of significant changes, such as:

1. Improve the property rights protection system. Property rights of the public sector are inviolable, as are those of the non-public sector”;

2. Introduce a unified market access system;

3. Introduce a management model for foreign investors with pre-entry national treatment plus the negative list;

4. Uniform market oversight. Decision of the Central Committee of the Communist Party of China on Some Major Issues Concerning Comprehensively Deepening the Reform; China.org.cn: http://www.china.org.cn/china/third_plenary_session/2014-01/16/content_31212602_2.htm; accessed 23.03.18

19th National Congress continued this rhetoric and confirmed the intention to provide equal treatment and status for foreign-invested and domestic enterprises: “We will adopt policies to promote high-standard liberalization and facilitation of trade and investment; we will implement the system of pre-establishment national treatment plus a negative list across the board, significantly ease market access, further open the service sector, and protect the legitimate rights and interests of foreign investors”. Xi Jin ping report at the 19th National Congress of the Communist Party of China, October, 2017; Xinhuanet.com: http://www.xinhuanet.com/english/download/Xi_Jinping's_report_at_19th_CPC_National_Congress.pdf ; accessed 20.03.18

2.3 Establishment and Evolution of Dualist Regulatory System

Shift to “Socialist Market Economy” required the reformation of Chinese commercial legal system. Since 1990s many new laws were introduced including Company Law, Contract Law, Labor Law etc. Company Law which was adopted in 1993 was among the most important developments. It was the first law to regulate organization and activity of business entities in China, clarifying the issues of incorporation and organization structure of limited liability companies and joint stock limited companies, financial affairs and accounting of companies and merger and divisions of companies. MOFTEC, China Company Law 1993; Jus.uio.no: http://www.jus.uio.no/lm/china.company.law.1993/portrait.pdf; accessed 24.03.18 However, talking about foreign investment the law was ambiguous:

Article 18: “The present Law shall apply of limited liability companies with foreign investment. Where laws concerning Chinese-foreign equity joint ventures, Chinese-foreign contractual joint ventures and foreign-funded enterprises provide otherwise, such provisions shall prevail”. MOFTEC, China Company Law 1993: http://www.jus.uio.no/lm/china.company.law.1993/portrait.pdf; accessed 24.03.18

It means: foreign investment entities (FIEs) should be regulated according to the separate provisions. Article 18 reflected the dualism of the regulatory system, establishing one rules for domestic enterprises, and another rules for FIEs. At the same time, Company law did not exclude the possibility of its application to FIEs, which was potentially confusing for foreign investors. For example, Article 37 of the Company Law established shareholders meeting as “the organ of power” of limited liability company. MOFTEC, China Company Law 1993: http://www.jus.uio.no/lm/china.company.law.1993/portrait.pdf; accessed 07.04.18 Company law gave shareholder meetings power to decide on the major issues, including: deciding on business policy and investment plan of the company, electing and recalling members of the board of directors, deciding on matters concerning the remuneration of directors, examining and approving reports of the board of directors, amending the articles of association of the company and more. MOFTEC, China Company Law 1993: http://www.jus.uio.no/lm/china.company.law.1993/portrait.pdf; accessed 07.04.18 As mentioned in the first chapter, Sino-Foreign Equity joint venture is also a limited liability company by its organization. However, according to the Regulations for the Implementation of the Law on Sino-Foreign Equity Joint Venture, “the highest authority of the joint venture shall be its board of directors. It shall decide all major issues concerning the joint venture”. Regulations for the Implementation of the Law on Sino-Foreign Equity Joint Ventures, MOFCOM Website: http://english.mofcom.gov.cn/article/lawsdata/chineselaw/200301/20030100064563.shtml; accessed 07.04.18 This contradiction between two laws results into potential conflicts between the board of directors and shareholders meeting.

The clearest evidence of the regulatory system's dualism was the company registration procedure. Domestic company registration begins with “application for establishment to the relevant company registration authority”. Company law of the People's Republic of China 2014; HFG website: https://www.hfgip.com/sites/default/files/law/company_law_of_the_people_s_republic_of_china_2014_english.pdf; accessed 09.04.18 Company law Article 23 and Article 76 list a number of conditions that should be met to establish limited liability company and company limited by shares correspondingly. They include requirements to the number of shareholders/promoters, capital contribution/share capital, articles of association, company's name, organization, domicile and, for companies limited by shares, it is additionally stated that issuance of shares and preparatory work should be in compliance with the law. Company law of the People's Republic of China 2014; HFG website: https://www.hfgip.com/sites/default/files/law/company_law_of_the_people_s_republic_of_china_2014_english.pdf; accessed 09.04.18 However, Company law mentions that in some cases company establishment requires special approval before the actual registration. That was the case of FIEs. Before the registration EJVs, CJVs and WFOEs all had to get an approval of the Ministry of Foreign Trade and Economic Cooperation (MOFTEC), or, in some cases, they could get such approval from the people's governments of provinces, autonomous regions, directly administered municipalities, cities under separate planning and special economic zones. MOFTEC and local authorities examined and approved projects case-by-case, which, obviously, took a lot of time. Regulations for the Implementation of the Law on Sino-Foreign Equity Joint Ventures, Regulations for the Implementation of the Law on Sino-Foreign Equity Joint Ventures, Ministry of Commerce People's Republic of China website: http://english.mofcom.gov.cn/article/lawsdata/chineselaw/200301/20030100064563.shtml; accessed 11.04.18 Detailed Rules for The Implementation of The Law on Wholly Foreign-Owned Enterprises Detailed Rules for The Implementation of The Law on Wholly Foreign-Owned Enterprises, Ministry of Commerce People's Republic of China website: http://english.mofcom.gov.cn/aarticle/lawsdata/chineselaw/200301/20030100062868.html; accessed 11.04.18 and Detailed Rules for the Implementation of the Law on Sino-Foreign Cooperative Joint Ventures Detailed Rules for the Implementation of the Law on Sino-Foreign Cooperative Joint Ventures, Ministry of Commerce People's Republic of China website: http://english.mofcom.gov.cn/aarticle/lawsdata/chineselaw/200301/20030100062857.html; accessed 11.04.18 established the approval periods of three months, 90 days and 45 days correspondingly, if all the needed documents are submitted.

As mentioned before, the idea of giving FIEs national treatment was first officially expressed in the Decision of the 18th National Congress in 2012. After that this approach which included simplified registration procedure for the FIEs with exception of those investing into the negative list industries was tested since 2013 until 2016 in the Shanghai Pilot Free Trade Zone. The result was more than satisfactory which you can see on the Graph 1. If the average growth rate in the number of FIEs registered in Shanghai from 2008 to 2012 was 4%, in the period from 2013 until 2015 it grew to 7%.

Graph 1: Number of FIEs registered in Shanghai 2008-2015 (unit)

Source: China Statistical Yearbooks 2008-2016

In 2016 China decided to apply negative list registration approach nationwide. National People's Congress issued the “Decision to Amend Four Laws including the Wholly Foreign-Owned Enterprise Law of the People's Republic of China”. (Hereinafter: Decision) “И«№ъИЛГсґъ±нґу»біЈОсОЇФ±»б№ШУЪРЮёДЎ¶ЦР»ЄИЛГс№ІєН№ъНвЧКЖуТµ·ЁЎ·µИЛДІї·ЁВЙµДѕц¶Ё”, NPC website: http://www.npc.gov.cn/npc/xinwen/2016-09/03/content_1996747.htm, accessed 09.04.18 Besides Wholly Foreign-Owned Enterprise Law the abovementioned four laws included Sino-Foreign Equity Joint Venture Enterprise Law of the People's Republic of China, Sino-Foreign Cooperative Joint Venture Enterprise Law of the People's Republic of China and Law of the People's Republic of China on the Protection of Investment of Taiwan Compatriots (Hereinafter: FIE laws). Decision added to all the four FIE laws the articles saying that if foreign funded enterprise is not subjected to the special management measures for foreign investment access it shall apply for the registration through the online record-filing approval system. “И«№ъИЛГсґъ±нґу»біЈОсОЇФ±»б№ШУЪРЮёДЎ¶ЦР»ЄИЛГс№ІєН№ъНвЧКЖуТµ·ЁЎ·µИЛДІї·ЁВЙµДѕц¶Ё”, NPC website: http://www.npc.gov.cn/npc/xinwen/2016-09/03/content_1996747.htm, accessed 09.04.18 Shift to record-filing approval system and negative list approach represents a new step in country's FDI policy development by introducing a unified market access system.

2.4 Guidance Policy

Since 1990s Chinese government made efforts to adjust FDI to national interests. As “Interim provisions on Guiding the Direction of Foreign investment” said, foreign investment should be compatible with country's national economic and social development planning. Ў¶ЦёµјНвЙМН¶ЧК·ЅПтФЭРР№ж¶ЁЎ·єНЎ¶НвЙМН¶ЧКІъТµЦёµјДїВј, MOFCOM website: http://www.mofcom.gov.cn/aarticle/b/f/200207/20020700031063.html; accessed 18.03.18 For that reason Ministry of Commerce of the People's Republic of China (MOFCOM) issued a guidance for foreign investors in 1995, which was later amended in 2002, 2004, 2007, 2011, 2015 and 2017. These catalogues divide types of foreign investment projects into three groups - encouraged, restricted and prohibited. Those that were not mentioned in the catalogue are automatically considered as “allowed”.

General liberalization

As you can see on the Graph 2 the obvious general trend in China's foreign investment policy is liberalization. The number of encouraged industries grew from 172 in 1995 to 348 in 2017, and the number of restricted and prohibited industries, on contrary, declined, from 108 to 35 and from 31 to 28 respectively. What is maybe even more important is the change of approach to foreign investment.

Graph 2: Number of encouraged, restricted and prohibited industries in guidance for foreign investment 1995-2017 (unit)

Source: Author's own summary

Traditionally foreign investors should have applied for the prior approval from China's foreign investment approval authority (MOFCOM) to establish any of foreign-invested enterprises. It was a long and difficult procedure, and it remained unchanged until the reform of 2016 introducing the shift to the negative list approach. The negative list itself was first introduced within the frameworks of the 2017 foreign investment catalogue. Unlike the previous catalogue versions, it has two main parts: first is “Catalogue of Encouraged Industries for Foreign Investment”, and the second one is “Special Management Measures for Foreign Investment Access” or negative List for Foreign Investment Access. The latter also has two parts: catalogue of restricted industries and catalogue of prohibited industries. The core idea of negative list approach is, as Xi Jinping said at the 19th national congress, that “all businesses registered in China will be treated equally.” It means, foreign investment is now subjected to the same market access rules that apply to domestic investment, except investments in the industries of the nationwide negative list, which still have to be approved according to the traditional scheme.

Manufacturing is encouraged

Graph 3: Number of encouraged project types in manufacturing industry, 2002-2017 (unit)

Source: Author's own summary

“Manufacturing industries” is the largest part in all of the catalogues except the first one. It is so because the first catalogue of 1995 had a different categorization and didn't have “manufacturing industries” as an independent part at all. This part includes many different industries - food industry, general machine building, medical and pharmaceutical products industry and many more. But all of them imply manufacturing, be it special equipment, food or medicine. From 2002 until 2017 manufacturing industries made from 74 to 80% of all the encouraged industries.

Traditionally restricted industries always remain restricted or prohibited

Some of the industries are traditionally restricted for foreign investment. They remain restricted or prohibited for foreign investment without any significant changes. Financial sector is one of such industries - “Banking and insurance” is the part of the catalogue that has not changed much: it is stably restricted from 1995 until today. Another one is “Culture and entertainment”, which has a group of industries that are stably prohibited, including news agencies, printing and publication, radio and TV stations and film making.

From export orientation to domestic demand

Article 11 of Interim provisions on guidance for foreign investment 1995 said: “In cases when foreign-funded projects in the category described in Article 6, Clause 1, export more than 70 percent of their products, when approved, such projects shall be treated as those in which foreign investment is permitted and shall not be subject to restrictions outlined in Article 9.” Ў¶ЦёµјНвЙМН¶ЧК·ЅПтФЭРР№ж¶ЁЎ·єНЎ¶НвЙМН¶ЧКІъТµЦёµјДїВјЎ·,MOFCOM website: http://www.mofcom.gov.cn/aarticle/b/f/200207/20020700031063.html; accessed 18.03.18 In Catalogues the years 2002 and 2004 it was specifically mentioned, that “Foreign invested projects whose entire products go for export in the Categories Allowed for Foreign Investment” Catalogue for the guidance of Foreign Investment Industries (2004), MOFCOM website: http://english.mofcom.gov.cn/aarticle/policyrelease/gazette/200505/20050500093692.html; accessed 20.03.18

Guidance Catalogue for Foreign Investment (2002), Consulate-General of the PRC website: http://www.chinaconsulatesf.org/eng/kj/zyxx/t43951.htm, accessed 20.03.18 are considered encouraged. However, this article disappeared in 2007 and was no longer included into the catalogue since then. Is it a sign of the Chinese government's effort to rebalance economy towards domestic demand? It highly possible is, especially basing on the fact that the article was removed from the catalogue in the year of the world financial crisis when China's economic growth fell by 16%.

Additional requirements relax

Graph 4: Number of additional requirements in foreign investment guidance, 1995-2017 (unit)

Source: Author's own summary

Until 2017, even though an industry may be among the “encouraged” it does not mean that foreign investor would not face any restrictions. For some of the industries there were and still are additional requirements, which are important to take into account, especially if we are talking about foreign direct investments.

There are two main “additional” restrictions:

Investments are possible only in form of joint venture (JV)

Chinese partner shall hold the majority of shares

Graph 4 shows the changes in the number of industries requiring JV or control of Chinese partner from 1995 until nowadays. The line “Chinese partner shall hold the majority of shares begins from 2002, that is because in 1995 there was no such a condition, instead there was even more restrictive “State shall hold the majority of shares”. Ў¶ЦёµјНвЙМН¶ЧК·ЅПтФЭРР№ж¶ЁЎ·єНЎ¶НвЙМН¶ЧКІъТµЦёµјДїВјЎ·,MOFCOM website: http://www.mofcom.gov.cn/aarticle/b/f/200207/20020700031063.html; accessed 21.03.17 As we can see from the Graph 4 the number of industries with additional requirements grew from 2002 until 2011, and later on their number dropped significantly. What is more, in the 2017 catalogue such additional requirements can only be found in the negative list, unlike the previous versions. Ў¶НвЙМН¶ЧКІъТµЦёµјДїВјЈЁ2017ДкРЮ¶©Ј©Ў·, National Development and Reform Commission Website:http://www.ndrc.gov.cn/zcfb/zcfbl/201706/t20170628_852857.html,accessed 21.03.13

New technologies and green industries

Graph 5. Number of projects requiring new technologies and green industries in foreign investment guidance, 1995-2015 (unit)

Source: Author's own summary

According to some researchers of FDI (Hymer, Buckley, Casson) innovations are very important for FIEs. As mentioned before, Buckley and Casson believed that company's profit depends on innovations. China's government shares this view and we can observe a gradual increase in the number of projects requiring new products or technologies in the “encouraged” sector (see graph 4). In 2007 during the 17th Party Congress Hu Jintao declared that China should become an “innovative” country. Full text of Hu Jintao's report at 17th Party congress; Chinadaily.com: https://www.chinadaily.com.cn/china/2007-10/24/content_6204564_7.htm; accessed 02.04.18 Although the number of encouraged new technologies' projects have not rocketed that since year the slight downward trend of 2004 gave its place to the stable upward trend.

What about green industries (including green energy, recycling and ecological and environmental projects) their number among the encouraged industries grew from two in 1995 to 53 in 2017. The biggest leap also happened in 2007: in the catalogue of 2007 the number of green industries is almost 3 times higher than in the catalogue of 2004. Catalogue for the guidance of Foreign Investment Industries (2004), MOFCOM website: http://english.mofcom.gov.cn/aarticle/policyrelease/gazette/200505/20050500093692.html; accessed 02.04.18 НвЙМН¶ЧКІъТµЦёµјДїВј(2007 ДкРЮ¶©); NDRC website: http://www.ndrc.gov.cn/zcfb/zcfbl/200711/W020071107537750156652.pdf; accessed 02.04.18 This increase may be connected to the decision of 17th Party Congress to “promote a conservation culture by basically forming an energy- and resource-efficient and environment-friendly structure of industries, pattern of growth and mode of consumption”. Full text of Hu Jintao's report at 17th Party congress; Chinadaily.com: https://www.chinadaily.com.cn/china/2007-10/24/content_6204564_7.htm; accessed 02.04.18

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