China is a Good Place for Foreign Companies

Our clients are always talking about where to invest in Asia, even more so in light of recent concerns about China no longer being a preferred destination for foreign investment. I have argued consistently that China is one of the best places for foreign investment in Asia. The World Economic Forum’s most recent Global Competitiveness report supports my position.

Though pretty much ignored in the U.S., this Report was greeted with headlines in China. The Chinese are justifiably proud of having moved up in the rankings to number 27. At the same time, the U.S. has fallen in the rankings from number 1 to number 4. China is solidly now in the top 30 most competitive economies in the world, far better than its BRIC competitors: Russia (63), India (51) and Brazil (58).

There is a more interesting issue hidden in the Report that helps explain my view on China. The report divides world economies into three stages: 1 is the least competitive, 3 is the most competitive. It is quite informative to look at where countries fall in terms of these three groups. This three tier ranking explains where China actually stands as an investment target.

The break out of the East Asian countries in terms of the three stages is as follows:

Stage 3: Singapore (3), Japan (6), Hong Kong (11), Taiwan (13), Korea (22).

Stage 2: Malaysia (26), China (27), Thailand (38).

Stage 1: Bangladesh (107), Cambodia (109), India (51), Indonesia (44), Pakistan (123), Philippines (59), Vietnam (85).

China is firmly entrenched in the upper tier of the Stage 2 countries. China is joined by Malaysia and Thailand. The rest of the “developing” countries of Asia, however, are all classed in Stage 1. For investment purposes, a Stage 1 country is fundamentally different from a Stage 2 country. Thus, when a client says it will leave China to invest in one of the Stage 1 countries, it is planning a fundamental change in its investment strategy. Usually this means it is manufacturing low margin, low technology product and is seeking the lowest wage. If that is its motivation, it is rational to move from a Stage 2 to a Stage 1 country. However, the notion that a move from China to Bangladesh is a move to a similar country belied by the competitiveness data; a move from a country rated number 27 to a country rated number 107 involves a fundamental change. It may make economic sense, but only if the investor understands the fundamental differences between the two stages of development.

I say all this because I find many potential investors do not understand this fundamental point. Investment in Japan, China and Vietnam is investment in three fundamentally different economic environments. In a fundamental way, there is simply no comparison between the three countries, not because of their history or culture but because of their relative level of development. Thus, when investors say they are considering investing in these three countries, my view is that they are somewhat confused. The only fair means of comparison is between countries within the same stage of development. Thus, for China it would be a comparison between China, Malaysia and Thailand.

Singapore, Japan, Hong Kong, Taiwan and Korea are all great countries in which to invest and our international lawyers have a ton of experience with all these places. But, as lawyers, we know that they are fundamentally different from the Stage 2 countries on a legal level also. Truth is the legal risks in places like China, Malaysia and Thailand — all great countries also — require considerably more local (i.e., non-written) expertise. Double that for countries like India, Indonesia, Philippines and Vietnam, and triple that for Bangladesh, Cambodia, and Pakistan.

This is what I mean then that within Asia there are few alternatives to China. The Report bears this out: within Asia, at Stage 2 of development, there is China, Malaysia and Thailand. In that sense, the choice of place to invest is neutral. But where an investment relies on scale, China is really the only choice. However, if an investor is looking for a Stage 1 economy or a Stage 3 economy, then the analysis is different.

We will all do better in our analysis to understand this.

What do you think?

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