Foreign investment into China in 2018: 3 key points

1) Inward FDI into China grows slightly amidst global falls

Foreign Direct Investment (FDI) into China grew 3% in 2018 to reach $135bn. While this reflects a slowdown versus 2017 (+5%) and 2016 (+7%), Minister Zhong Shan of China’s Ministry of Commerce claimed this still reflected progress given global FDI had fallen by 40% in 2018.

Unsurprisingly, given China’s focus on its Made in China 2025 initiative and its desire to lead emerging industries, investment in high-tech manufacturing led the way, and surged 35.1%. Interestingly, FDI into China’s traditional manufacturing sector grew 20.1%, highlighting that there’s no guarantee manufacturing will move away from China despite higher wages.

China’s resilience to global downturns in FDI is in part driven by China’s renewed emphasis on opening up and reform through 2018. Whilst foreign companies still want greater market access into China, it’s worthwhile reflecting on the progress that was made through 2018.

We have in the past year noticed an improvement in China’s business environment. These efforts have been spearheaded by Premier Li Keqiang and involve cutting red tape, reducing taxes, improving customs clearance times and reducing the documentation required to set up a business. This progress was reflected by a rapid rise up the World Bank’s Ease of Doing Business Rankings, from 78th place to 46th.

Opening up also accelerated. China lifted joint venture requirements across certain sectors including aerospace and autos, reduced tariffs across more than 1500 goods (with the exception of bilateral tariffs with the US) and increased the number of foreign drugs on the National Drug Reimbursement List (NDRL). Foreign companies are already benefiting, with Tesla being allowed to set up a wholly owned factory in Shanghai and Exxon an LNG terminal in Guangdong. 60,533 new overseas-funded enterprises were established in 2018, up 69.8%. China also received 1,700 major FDI projects with contract value above 50 million dollars.

In terms of the composition of the FDI, the overwhelming majority still came from Hong Kong (amounting to 71% of all inward FDI). The UK saw the fastest growth rate with FDI into China increasing by over 150%, while US investment into China remained resilient and grew 10% despite the escalation of the trade war.

2) Foreign equity investment into China’s stock markets accelerates

In 2018, Chinese equity markets saw on average a net inflow of close to $4bn a month from foreign investors. Despite Chinese equity markets losing 25% of value in 2018, foreigners increased their stock purchases as shown in the graph below. This momentum has continued through to January 2019, which was a record month for foreign equity investments, amounting to $9 billion. If the trend continues, foreign equity investment into China will begin to look similar to total amounts for foreign direct investment through 2019.

Foreign investment in Chinese equity markets. Source: FT

3) Chinese bond market continues to look attractive for foreign investors

By the end of December 2018, foreigners held close to $250 billion in Chinese bonds. This still reflects a small proportion of China’s $12 trillion government bond market, but still reflected a significant increase of $65 billion over the course of the year.

Foreign investment in Chinese bonds markets. Source: Bloomberg

As Bloomberg notes, “Chinese sovereign notes emerged among the world’s best-performing government bonds in 2018… China introduced Bond Connect in July – a move considered by many as the most significant relaxation in the Chinese bond markets.”

As China continues to relax rules about foreign participation into the bond market, and with the RMB’s growing internationalization, we can expect continued growth in foreign participation in China’s market. HSBC expect foreigners’ market share to treble by 2020.

Conclusion

The trends across the main categories of foreign investment into China all point in the same direction, albeit to different extents. That direction is one of continued opening up of China’s markets, both real and financial. Opening up in equity and bond markets remains faster than in the real economy. While foreign direct investment still grew by 3% last year, the broad level (hovering above $100 billion) has been stable for around a decade.

That said, as China’s slowdown continues into 2019, the importance of foreign investment – of all types - is only likely to grow. That presents a growing opportunity for foreign business who stand to benefit as Chinese authorities unveil more liberalizing measures across a greater number of sectors.