This short note aims to decipher a striking chart related to current economic events. This Killer Chart looks back at the impressive rise in Chinese foreign direct investment (FDI) in the second quarter of 2024, a phenomenon that is anything but insignificant.
Download the PDF: Killer-chart-Chinese-conquest
Why is this interesting?
As much as the sharp rise in Chinese FDI abroad, it is the timing that is interesting. Such an increase in Chinese outward FDI was already observed in the third quarter of 2015. At that time, a stock market crash was affecting the Chinese economy, and the rise in Chinese FDI corresponded as much to a desire by Chinese companies to move capital out of the country as to establish themselves abroad.
In 2024, the context is significantly different. As data from Global Trade Alert reveals, China has been facing an increase in restrictive measures against its exports since 2019. China’s model of public subsidies and dumping to sell off its excess production capacity (steel, aluminum, batteries and electric vehicles, solar panels, etc.) is a source of constant tension, leading the country’s trading partners to introduce or raise their customs barriers (United States, Eurozone, Brazil, Turkey, etc.).
However, in recent years, these types of trade measures have proven to be rather ineffective, due to the reorganization of international value chains, where countries serve as intermediaries for importing before re-exporting. The most emblematic cases are Mexico and Vietnam in the context of Sino-American trade relations, forcing the United States to now be more aware of the origin of its Mexican imports. China seems to be anticipating this type of reaction, and this increase in FDI could well mean that the Middle Kingdom is deploying a new strategy aimed at acquiring companies, particularly in Southeast Asia, that are capable of producing and then exporting goods from Chinese companies.
Is this a temporary increase or a real medium/long-term strategy? If this trend is set to continue, it would likely consolidate the globalization movement observed since the end of the 2019 pandemic, with value chains becoming longer (contrary to the expected shortening after the pandemic). Nevertheless, it raises several fundamental questions about China’s economic outlook.
What should we make of this?
One of the first issues to address is China’s openness to capital flows. Following the increase in Chinese foreign investment in 2015, the country’s authorities saw this as a loss of control over capital flows and therefore tightened their controlsin 2016. If FDI were to increase steadily over the coming quarters in order to counter restrictive trade measures, it seems likely that the Chinese authorities would take care not to repeat the mistakes made in 2015. This would likely limit the sectors eligible for such investments and therefore argue for a temporary increase in FDI, or at least more modest amounts than a generalized strategy.
This policy would also worsen the country’s financial account, at a time when it is already struggling to retain its foreign investors (negative FDI inflows at the end of 2023, see this other Killer Chart published on BSI Economics) and even attract new ones[2]. This phenomenon could even worsen, to the benefit of Southeast Asian countries that already benefit from the « China +1″strategy.While China has comfortable financial margins, such a strategy would nevertheless mark a serious halt to its policy of accumulating foreign exchange reserves. These resources are all the more valuable given that the renminbi is increasingly exposed to downward pressure (low interest rate environment, signs of a slowdown in activity, perception of geopolitical risk, etc.).
Furthermore, the counterpart to a strategy of increasing Chinese FDI would probably be a slowdown in Chinese exports. The transition desired by the authorities from a Chinese economic model based on investment in infrastructure and exports to one based on stronger private consumption is far from complete. On the contrary, exports are currently playing a pivotal role and have come to the rescue to drive economic growth in the first half of 2024, offsetting the slowdown in domestic demand.
Furthermore, such a strategy of overseas expansion seems to contradict the objectives of the « Dual Circulation »strategy, which aims to rely more on the domestic market and ensure an increase in the population’s income. However, this policy of increasing FDI would be detrimental to the domestic market and would tend to increase tensions in the labor market. Furthermore, it would accentuate the decline in China’s current account surplus and would also contradict China’s desire to assert itself as a champion of high-tech exports, if some of these technologies were to be relocated.
Since 2021, the reorganization of international value chains has been underway, and China is currently coming out on top by gaining market share. The slow rise of protectionism is forcing it to innovate, and it will be interesting to see in the coming months whether China is at a crossroads and whether the increase in its FDI is indeed part of a new medium/long-term strategy. It is difficult to form a clear picture given the other major challenges facing the Chinese economy and the inconsistencies that such a strategy would pose. To be continued!
[1] But also in other regions such as North Africa, with the emblematic case of Morocco, and South Asia, with Pakistan.
[2] Against a backdrop of Chinese financial markets being hit hard by the prolonged real estate crisis and the perception of increased risks (economic slowdown, weak industrial profits for foreign companies, deterioration in the business climate, etc.).
