Is the Chinese economy broke and desperate for investment. Are they truing to charm to get the West to invest in China again so they can steal their money as they have done in the past?

I wanted to take a dig at this question as it is a subject matter of economics. I do not know what is the basis of this perception and why a section of people feels that China is broke and desperate for investment. I believe the perception is misplaced, and misconstrued. Before we go into fundamentals let me refer to some statistics to have a glimpse of the picture.

The net FDI of India declined from USD 44 billion in 2020-21 to USD 38.6 billion in 2021-22, registering a decline of 12%. During 2022-23, it further declined by 27%, settling at USD 28 billion. The net FDI figure is arrived at after deducting repatriation of FDI or FDI outflow or withdrawn from the FDI inflow. The net FDI inflow to India has further deteriorated in the 2023–24 FY. As per RBI data, the cumulatively net FDI in April-October 2023 nosedived by half to $10.43 billion from $20.76 billion in April-October 2022.

Foreign capital inflows into China have decelerated in 2023 after reaching a record USD189 billion in 2022. The decline in total foreign direct investment (FDI) widened to 9.8% yoy in 7M23 from 8.5% yoy in 1H23. Four out of the top six FDI-receiving provinces in China posted a yoy decline in FDI in 1H23, although inflows remained close to their historical highs. Inflows into Beijing contracted by 18.5% yoy from a growth of 12.7% in 2022; and FDI in Jiangsu, China’s manufacturing FDI hub, dropped by 11.5% yoy.

According to data published in China's balance of international payments (BOP), quarterly foreign direct investment (FDI) inflows to China amounted to approximately $-11.8 billion in the third quarter of 2023.

However, what we need to read is that the Chinese economy is growing 5.2 percent year-on-year. In the third quarter alone, the year-on-year GDP growth rate reached 4.9 percent. And China has done this dispelling the median forecast of around 4.6 percent. China's GDP in the first three quarters of 2023 has reached a total of RMB 91.3 trillion (approx. US$12.48 trillion). As against this the size of the Indian economy, as per the current estimates, is slated to be at Rs 296.58 lakh crore or USD 3.57 trillion (@ Rs 83/USD) during 2023-24.

As I said I would go into the fundamentals of economics, particularly in China's context And my opinion could largely differ from some economists. The negative growth of FDI or the contraction of FDI could come from multiple reasons and need not be a cause of worry for China. Let me explain why

Let us understand why we need FDI. The FDI is required for heavy industrialisation and infrastructure creation which is important dependent. And for imports, you need a healthy foreign exchange reserve to spend on the procurement of sophisticated equipment, machinery, technology, etc. We assume the developing nations would be trade deficit nations or with very limited foreign exchange. They may not be in a position to borrow from external sources. Plus that would involve interest cost. So the easier way is to seek FDI by forming joint ventures or stake-selling. Quite often FDI doesn’t come in terms of direct supply of foreign exchange. They may come in the form of supply of machinery, equipment, technology, etc which otherwise would have to be bought. And against this, the external investors are provided a stake in the organization.

The FDI route is also used by foreign investors in case the receiving country doesn’t allow 100% foreign equity or stake. They are required to have a local partner. In some cases, the external partners need a known local face for domestic market acceptability. FDI starts pouring into a nation when the industrial policy is made FDI-friendly and the external investors see an opportunity to generate good returns. US economy being a saturated one, the return on investment (ROI) is very low there. So investors look for developing economies and emerging markets where growth potentials are high.

China became a member of the World Trade Organization in 2001. Over the next twenty years, the Chinese economy has grown by leaps and bounds. And in the first decade of the new millennium, China offered a lucrative prospect for external investment in infrastructure building and was drawing a huge volume of FDI. The US base investors who were hungry for investment opportunity humped on it. The Forex reserve of China started swelling and reached the level of US $ Tree Trillion, the majority in the form of US dollars. However, once the industry base was established China was no longer in need of fresh investment. Secondly, China became a trade surplus nation.

On 4th January this year, I wrote an answer to “ Is the world de-dollarising?” There I wrote “China is gradually reducing its holding of US dollar reserve, down to 25% in 2023 from 59% of its total foreign exchange in 2016 and down from 79% in 2005. For economists, it would be very imperative to study the Chinese model of foreign exchange reserve - why they are reducing US Dollar reserves. This is not part of the question, so I am not getting into that.”

China has been consistently reducing its US Dollar reserve though there is only a marginal drop in China’s overall foreign exchange reserve. As of the end of November 2023, China's foreign exchange reserves stood at USD 3171.8 billion. China had a trade surplus of approximately 877.6 billion U.S. dollars as of 2022. This was the highest in the world. And this year China has recorded a trade surplus of $684 billion in the first 10 months of 2023.

So you can see that China is no longer in need of fresh FDI to meet its import cost. China is capable of meeting any expenditure of industrialization or the creation of infrastructure. This is exactly the reason China has been steadily offloading its US Dollar reserve. With the US, China had a trade surplus of $367.4 billion in 2022. With the European Union, China’s trade surplus hit $277 billion last year.

So it is clear that FDI contraction or repatriation should not at all be any concern for China. Rather this could be the result of a consolidation drive. China could be buying out the equities held by foreign investors in a bid to consolidate its holding.

Yes, the growth rate of China is not expected to hit very high for two reasons. 1. The size of the economy. When the size of the economy becomes too large, holding the earlier growth rate is practically not possible because on a larger GDP base bringing a larger growth in absolute numbers becomes a difficult task. 2. Secondly China is a huge trade surplus nation means predominantly a producing economy. So its growth would be dependent on the growth of the world economy. And unless the world economy grows, the Chinese economy can not grow despite having the capacity to drive larger production growth. This means China is not required to expand its infrastructure base. So no requirement for fresh FDI.

Quarterly GDP Growth of China

Source: China National Bureau of Statistics

At this moment the world economy is in a sluggish mode, more so because of the ongoing wars. I do not see the demand to grow up in another six months. It would be extremely difficult for China to hold its current growth in the new financial year. In fact, the growth China registering may not be volumetric. It could be largely driven by price escalation. China's GDP nonetheless has been projected to grow at a strong average of 5.2 percent year-over-year in the first three quarters of 2023. But the same is expected to drop in 2024 to 4.6 percent. Anyway, that is not part of the question at hand. What we can see is that there is no reason for China to receive a fresh dose of FDI from external investors nor there is any such requirement for FDI.

The China International Import Expo in Shanghai has been billed as a showcase of an "opening up of market opportunities," but the EU Chamber says it is "full of smoke and mirrors." (Photo by CK Tan)

In the above section, I have written that China had a trade surplus of approximately 877.6 billion U.S. dollars as of 2022. Now suppose China had to add such a big amount to its Forex reserve every year, its reserve would swell to a mammoth amount. So China is increasing its outbound investment (OBI) year on year. By the end of 2022, China’s cumulative ODI stock had reached US$2.75 trillion (RMB 20.10 trillion), consistently ranking among the world’s top three. China's overall outward direct investment (ODI) was US$40.5 billion in the first quarter of (Q1) 2023. So if you take net FDI, possibly you would see negative value only.

Secondly, if China is looking another another emerging market attractive for investment, the Western investors are not blind to see the same opportunity. This also means that investment opportunities in China are drying up and its production capacity has reached an optimal position. So it's quite possible that some of the investments made in China would be withdrawn by Western investors.

Another very important is that the current US Federal Reserve interest rate was raised by a quarter-point from 5.25% to 5.50% in July, which is at its highest level in 22 years. So a lot of US-based investors have withdrawn their overseas investment. This has allowed China to penetrate other emerging markets for outbound investment.

I always say that, unlike the common belief, FDI is not a good indicator of economic strength or growth. Withdrawal of FDI need not mean a bad sign for the economy.