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Public vs. Private: How China Prefers to Invest in the US

Feb 06 , 2014

Yes, the Chinese are coming and they went on a buying spree in January. Two weeks ago they were here for IBM, with China’s Lenovo buying out Big Blue’s low-server business for $2.3 billion and last week they came for Google, as Lenovo announced its intention to buy Google’s Motorola handset division for nearly $3 billion. Surprised?  Alarmed?  Don’t be.  There are real issues to consider, more important than alarmist bleats about a Chinese takeover: Where is the money coming from? And what does it tell us about the reformed China? If Chinese private firms continue to invest much more abroad, notably in the US economy, China’s own economic future may be bleak.

First, some facts: According to new data published in The American Enterprise Institute—Heritage Foundation China Global Investment Tracker (CGIT), Chinese companies invested around $85 billion globally in 2013, of which more than $14 billion was directed to the US. While the rate of investment into the US is increasing, the dollar amount is only a small fraction of total US wealth or the amount invested by other nations. Japan, Canada, and the United Kingdom have already been here for much longer and have invested far more money than China.

The notion that Chinese money directed at the US is harmful to the economy is false. It’s just as false as it was in the 1980s when Japanese firms were said to flood the US market with money. Their money is just as green, so to speak, as ours. Increased investment in the US, whether from China or any other country, will boost economic development because investment creates jobs and wealth. What would hurt the US is foul play by companies that break American law. What could also hurt are substantial subsidies from large state-owned enterprises (SOEs) that distort market competition. In both cases, regulators need to monitor the operations of foreign firms carefully to ensure that they abide by US law.

Part of the attendant hysteria about Chinese acquisitions may stem from China’s growing holdings of US government bonds or the multiple iconic investments that occurred over the past year, such as Soho China’s purchase of 20 percent of the GM Building in NYC and Shuanghui’s acquisition of Smithfield Food. But rather than panicking about Chinese money flooding the US market, focus instead on the types of firms investing and what all this Chinese outward investment says about the Chinese market.

Whether it is due to the inability of state firms to comply with US laws, which restricts their ability to compete, or the incentives a market economy provides to private firms, a marked difference exists between Chinese investment in the US and in the rest of the world. The CGIT highlights the disparity by identifying the parent company of each Chinese investor. In the rest of the world, SOEs accounted for approximately 94 percent of investment abroad from 2005-2013, though this is down from nearly 100 percent through 2010. In the US, SOEs only accounted for 68 percent of investment since 2005 and their share is falling quickly.

One reason for greater investment from private Chinese companies in the US is because of strong legal protections that foster innovation. Another is the lack of market incentives in the People’s Republic. Most private enterprises are unable to invest freely in China. While there is still plenty of room for further investment, private firms are pushed out of the market by large, heavily subsidized SOEs. Therefore, they turn abroad to markets that allow them to grow.

During last November’s third plenum meeting, the Communist Party trumpeted economic reform. Some of the steps enumerated include: allowing the market to have a “decisive” role in allocating resources, providing a level playing field for competition, and permitting private firms entrance into certain protected sectors. However, statements from the first meeting of the leading group, a committee created to promote the reforms and led by Party General Secretary Xi Jinping, expressed trepidation about the challenges involved in implementing reform, creating doubt about implementation of real change.

The impact the reforms have on China’s market may be indirectly measured through the amount of Chinese investment abroad. If Party Secretary Xi is an effective economic reformer, private Chinese investment in the US should decrease in the long-term as the Chinese market becomes more attractive. While the growth potential the US market offers will continue to incentivize Chinese private firms, the profitability afforded by an underdeveloped Chinese economy would generally eclipse the appeal of the US, drawing Chinese money back home. If not, then private firms will continue their exit from the Chinese market.

The Chinese are investing more in the US. This is to be expected given the wealth of the American economy. Increased private investment appears to reflect different opportunities available here and at home. Market reform in China will influence this investment trend. Until it is successful, however, expect Chinese firms to continue leading Chinese investment into the US and enjoying the opportunities that economic freedom afford them, here rather than at home.

Alex Coblin researches Asian economics at the American Enterprise Institute.

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