Chinas economic growth and development started taking off in 1979 with a wide range of new market-oriented policies. The open door policy was one of them, which opened up for foreign investors to make investments. Foreign direct investment (FDI) has been said to have contributed to China's fast development by a significant amount of capital, technology and management inflow and also improved the country's integration with world economy (Lemoine, 2000). At the start the possibilities were rather restricted and foreign investors were encouraged to invest in export-oriented industries such as manufacturing within the special economic zones (SEZs) set up (Sun et al., 2002). The SEZs and other zones opened up for investors economic development, all located near the coastal line of China, have developed in a rapid pace and inland provinces have not been able to keep up. Therefore several new economic policies were implemented in 1990s in order to increase total FDI inflow in all provinces of Mainland China.
Companies investing in China, and other parts of the world, look at different prerequisites when choosing area of investment. Previous studies tell us that determinants such as GDP, education level, and infrastructure all have a positive impact on attraction of foreign direct investment. Other factors, such as increasing wage levels are said to have a negative affect and deter FDI inflow.
China, in the early 1990s, businesses might have been restricted due to lack of infrastructure and "open up" policies, but in the end of the 1990s and the beginning of the new millennium companies have had a variety of places to choose from. Through analyses of wage, education, infrastructure, GDP/capita this study looks at statistics from 1995, 2000, and 2004 in order to try to establish what influence companies when choosing their investments location. Previous studies argue that wage levels have a negative effect on FDI (Coughlin & Segev, 2000), but if wage increase is accompanied by improved educational level will the negative effect still be? GDP per capita (Sun et al., 2002) and infrastructure (Zhang, 2001) has been argued to have a strong effect on FDI decision makers, is this true for the areas in this study.
Defining FDI
Foreign Direct Investment (FDI) is "the process whereby residents of one country (the source country) acquire ownership of assets for the purpose of controlling the production, distribution and other activities of a firm in another country (the host country). It involves the transfer of financial capital, technology and other skills such as managerial, marketing, accounting", etc (Moosa, 2002,).
China's National Bureau of Statistics define foreign direct investment as investments "inside China by foreign enterprises and economic organizations or individuals (including overseas Chinese, compatriots from Hong Kong, Macao and Taiwan, and Chinese enterprises registered abroad), following the relevant policies and laws of China, for the establishment of ventures exclusively with foreign own investment, Sino-foreign joint ventures and cooperative enterprises or for co-operative exploration of resources with enterprises or economic organizations in China" (China Statistical Yearbook, 2005). Thus, China's definition of FDI includes contractual joint ventures, compensation trade and joint exploration, i.e. all non-equity co-operations (Sun et al., 2002) as well which OECD does not.
FDI in China - Background
Since launching its economic reforms in 1979 China has experience an out of the ordinary rapid increase of inward FDI flow. The new policy was launched as stated in (opening up policy) in order to speed up the economic modernisation of the country by gaining access to foreign sources of capital and technology. Chinese FDI development can according to OECD (2000) be divided into three stages; First stage: 1979-83, Second stage: 1984-91 and Third stage: 1992-99. The first stage began in 1979 when introducing the "law of the People's Republic of China on Joint Ventures Using Chinese and Foreign Investment" (Sun et al., 2002), which made it possible for foreign investors to invest in China. Four Special Economic Zones (SEZs) were established in Guangdong (Shenzhen, Shantou and Zhuhai) and Fujian (Xiamen) province where special incentives were offered to foreign direct investors. FDI inflows, still relatively low in this period, became highly concentrated into these regions. It was not until Hainan and fourteen other coastal cities, spread across ten provinces, were opened for foreign investment that FDI started to increase to higher levels covering a greater area. In 1985 another three zones were opened; the Yangtze River delta, the Pearl River delta, and the Zhangzhou-Quanzhou-Xiamen region (Sun et al., 2002).
Further actions were taken in order to improve conditions to attract more FDI such as the build-up of a small foreign currency market, accepting wholly owned foreign enterprises and granting better economical incentives (such as better taxation agreements) (Coughlin & Segev, 2000). China experienced a high increase of FDI inflow between 1984 and 1988 and attracted an average of US $ 2.1 billion yearly. The FDI inflow dropped in 1989 due to the Tiananmen incidents and did not pick up until the beginning of the 1990s. During the first and second stage of China's FDI development over 70 percent of attracted FDI flowed into the manufacturing industry (Sun et al., 2002). This was mainly due to encouragement from the government offering economic incentives for FDI in sectors targeted for export while constraints were used to discourage direct investments in industries aiming at gaining shares of the local market. The third stage took off as Deng Xiaoping toured around southern China's coastal provinces in spring 1992.
This was an attempt to further push China's economic development forward and increase their commitment to the policies and market-oriented economy. The new policies were directed towards encouraging FDI inflow in all provinces across China especially in the central and western regions and the eastern provinces should be used as an successful example Nationwide policies were introduced to further open up to foreign investors. The new measurements taken by the government seemed to have worked; the upcoming years FDI flows increased dramatically; in 1998 FDI inflow amounted to US $ 45 463 million (OECD, 2000). Today China is the second largest receiver of FDI in the world. In 2001 China became a member of the Word Trade Organization (WTO), which had lead to further liberalization of the country and affect the previous trends that has characterized FDI in China (OECD, 2000).
FDI motives
Location factor theory distinguishes between two types of motivators for FDI; export-oriented (vertical) and market-oriented (horizontal) FDI (OECD, 2000). Export-oriented FDI is targeted towards cost savings in production by using a particular resource, such as low-cost labour in a foreign country. The produced goods are then exported to the investor's home country or a third country (OECD, 2000). Determinant factors of export-oriented FDI have been argued to be wage level, infrastructure and financial incentives such as lower tax. Geographical location has also been shown to be of importance according to OECD (2000).
Market-oriented FDI's main motivation is to supply a domestic market. They are often made by businesses in order to gain access to new foreign markets. Rather than exporting goods to serve the new market production is set up on the location i.e. small-scale production. This is often made in order to avoid transaction costs arising due to transportation and trade-barriers. Market-oriented FDI major determinants have been argued to be market size and demand since a large market offers more potential in future revenues. Other determinant factors such as R&D, education level and infrastructure are also of importance since market-oriented FDI often involves advanced technology (Zhang, 2001; Na & Lightfoot, 2006; OECD, 2000).
Characteristics of FDI in China
FDI in China has been found to have several characteristics that are of relevance when studying the geographical determinants. The following will give an insight in to these areas. Sector China's industry can, as in most countries, and shown in Pei (2001), be divided into three sectors; primary industry (agriculture, mining and petroleum), secondary industry (manufacturing, utilities and construction) and tertiary industry (service sectors and others). The secondary industry has since opening up for FDI in 1979 been the major sector for investors. Between 1979 and 1998 it accounted for 59.6 percent of total FDI inflow. The primary industry has remained at a constant low with an average around 1.7 percent during the same time period. However there is a pattern change in the FDI trend. The proportion of tertiary industry increased rapidly from 13.8 percent in 1994 to 42.8 in 1994. This is a traditional pattern for developing countries, starting with traditional industry sectors and moving towards tertiary industries. (Pei, 2001)
Determinant factors of FDI
There have been various empirical studies trying to explain the determinants of FDI in China and a vast amount of literature has attempted to explain the regional variances within the country (Sun et al, 2002; Wei et al, 1998; Chen, 1998). The following factors are some of the most commonly studied regional determinants of FDI. All factors are included in this section since they are, even though not studied, of relevance to this study in order to give a background and a better understanding of additional factors affecting FDI decisions. Often, FDI decisions are not only based upon one or two factors, but several.
Market size and demand is said to have a positive effect on FDI and is according to Shapiro (1998) one of the major motivations for FDI. The larger the market size of one region, the more FDI it should attract, given all other things remain constant (Sun et al., 2002). Several other studies have also found a positive relationship between market size and FDI inflow (Zhang, 2001;Sun et al, 2002; Sethi et al., 2003; Na & Lightfoot 2006). Market size and demand affect attraction of FDI since a large market is likely to have higher demand. This is likely to result in greater long-term profitability to the business investing. Thus, market demand has a direct effect on the investments expected future revenue (Zhang 2001). Market size and demand is according to Zhang (2001) an especially strong determinant in marketoriented
FDI since its focus is on gaining access to, and serve local markets. However, there are scholars who argue that market size and demand (measured with GDP) is in fact not such a strong attractor of FDI since the easy access to neighbouring provinces (Mariotti & Piscitello quoted in Wei et al., 1998).
High Labour cost has been argued to have a negative affect on attraction of FDI by authors like Bhagwati & Srinivasan (1983), Cheng & Kwan (1999) and Coughlin & Segev (2000). The relationship is particularly strong in labour intensive industries like manufacturing (Chen, 1996). This is due to the high level of export-oriented FDI in these industries that aims at lowering production costs. Lowering production cost is as mentioned earlier also one of the major motivator of FDI. Hence, regions with lower wage level should attract relatively more FDI than regions with higher wage levels. However the effect wage has on FDI vary, which according to Wei et al. (1998) depend on that different proxies are used in different studies. Wei et al. (1998) argues that wage levels can reflect labour quality if measured in "effective wage rates" by adjusting wage level with productivity. Sun et al. (2002) found high wage rates to affect FDI inflow positively prior to 1991 and negatively in the period after (which could explain why scholars prior to 1995 like Bhagwati & Srinivasan, 1983, Coughlin et al. 1991 and Wang & Swain 1995 all found a positive relationship). Though most studies have argued for a negative relationship, scholars like Chen, (1996), Wei et al., (1998), Zhang (2001) and Na & Lightfoot (2006) have not been able to find a relationship in their studies.
Although many scholars have found a negative relationship, foreign direct investors in China tend to be willing to pay a higher wage to its employees in order to hire qualified competent staff (Na & Lightfoot, 2006). According to OECD (2000) low labour cost is no longer a determining factor for foreign investors in China. Also, since foreign investors are willing to hire workers at higher wage rates, provinces with high FDI inflow might be found to have slightly higher wage levels. (Sun et al., 2002; Na & Lightfoot, 2006).
Labour quality affects attraction of FDI since, as mentioned above, foreign direct investors do not only make their location decision upon labour cost but are in most cases also looking for qualified workers, which might come at a higher price. As pointed out earlier Wei et al. (1998) stress the importance of effective wage, paying higher salaries to competent workers will increase productivity and hence lower the effective wage. High level of labour quality will not only increase productivity but also enable the possibility to make FDI requiring advanced technology (Zhang, 2001). Labour quality can also be measured by level of research and development (R&D) as in Sun et al. (2002) since R&D facilities often require highly educated workforce. R&D used to be carried out in home country but according to Sun et al. (2002) resent reports show a change and R&D is now a motive for FDI. Businesses need R&D on site in order to adapt to new markets and/or using subsidiaries abroad to develop new technologies. Regions with high level of R&D have shown to attract more FDI (Chen, 1996; Wei, 1998). Provinces with high level of R&D should, all other things remain constant, attract more FDI.
Infrastructure is an important determining factor at regional level of attraction of FDI (Wei et al., 1998). Infrastructure includes seaports, highways and railways as well as telecommunication and there are many empirical studies that have shown support to the importance of infrastructure as an FDI determinant (Coughlin et al 1991; Chen, 1996). This due to investments made in an economy with well-developed infrastructure is more attractive (ibid.). The quality of the infrastructures is not the only attraction of foreign investors, investors may also be interested in the degree of which they are able to influence and control present and future development (Wei et al., 1998). The infrastructure as a determinant of FDI might as pointed out by Coughlin & Segev (2000) be affected by the location of the province, since eastern region have close access to seaports and inland region does not.
Agglomeration refers to the concentration of economic activities, which leads to positive externalities and the economic of scale (Sun et al., 2002). An urbanized region with high concentration of production creates spillovers of knowledge and is favourable environment since established business networks already exist. By investing in areas with high agglomeration the business can improve technology level and take advantage of economies scale and scope (Wei et al., 1998). It has also been proven that FDI in these areas will lower the relative cost of establishing example and manufacturing facility (ibid.). Agglomeration is therefore said to attract FDI. Measuring agglomeration has proven to be difficult and there are varies ways to find an estimate of it. Wei et al. (1998) use the ratio of population to land area while Sun et al. (2002) use infrastructure measurement combined with GDP per square kilometre to measure agglomeration.
Degree of openness is found to have had various effects on FDI. According to Sun et al. (2002) studies have shown a positive relationship between the two since an open economy welcomes foreign capital and consequently attract FDI. However openness can have a negative affect on FDI since the competition is expected to be larger in an open economy. Commonly used proxies for degree of openness are total trade amount, Import/GDP and percentage of states owned enterprises (Chen, 1999; Sun et al, 2002; Na & Lightfoot, 2006).
FDI incentives like favourable agreements on taxation, land use, electricity are particularly common in the four Special Economic Zones (SEZ's) and fourteen coastal cities (Zhang, 2001). All these incentives are created to attract higher levels of FDI; hence this factor is positively related to FDI. As a result these regions, located mainly in eastern region, has attracted more FDI than inland provinces. The coastal region was deliberately assigned to attract FDI by the Chinese government when China opened up for foreign investors in 1979 (Wei et al., 1998). Coastal provinces do not only attract more FDI due to FDI incentives but have as stated in Coughlin & Segev (2000) also other factors such as access to seaports, geographically closer to FDI origin (for example Hong Kong and Taiwan) and are more experienced in FDI. Tax incentives alone are also a determining factor as stated in Sun et al. (2002) however it is difficult to find available data since taxation agreements often directly negotiated with local authorities (OECD, 2000).
Conclusion
Numerous studies have tried to explain why foreign investors chose certain geographical area for their direct investments. This study has been focusing on China in order try to shed more light on what factors are of importance in the coastal areas.
It has been argued that wage levels have a discoursing affect on FDI however this study finds that investors might be willing to accept a higher levels of wage if the education level is high in relation to what wage rates they are paying. In areas where education level has not followed salary increase FDI inflow seems to be negatively affected.
In areas with an increasing amount of FDI inflow this study shows dubious results, areas with relatively high increase in infrastructure receives more FDI but so does areas with no or little improvement of infrastructure.
By identifying the determinants of FDI in eastern provinces the aim is to give implications in how to predict future FDI inflow in central and western regions. As identified in this study, education level is likely to have a positive effect of FDI, counteracting when wage levels are increasing. Education level is one of the factors that are still very low in central and western province and it will be interesting to follow the development of education and wage levels in order to predict the future possibilities it has on attracting higher levels of FDI. Also, the positive relationship between level of infrastructure and FDI found in this study might implicate that many of the central and western provinces might not have reached sufficient levels of infrastructure and therefore not be as attractive location to place a FDI.
