February 10, 2017 8:30 am JST

Foreign investment in China slows as labor, land costs weigh

Capital controls slammed brakes on spending in December

ISSAKU HARADA, Nikkei staff writer

Chinese overseas investment plummeted 51% in December after the People's Bank of China enacted controls to curb capital flight.

BEIJING -- Foreign direct investment into China fell in 2016 for the first time in four years as pricier labor and real estate eroded potential profits, a trend now compounded by capital controls aimed at propping up a softening yuan.

Total investment slipped 7% to $126 billion, according to economic research firm CEIC, whose figures are based on Chinese Commerce Ministry data.

Investment from Hong Kong, which accounts for 70% of the total and is a favored avenue of Western companies, fell 6%. Japanese spending declined for a fourth straight year, sliding 3% to $3.1 billion. The European Union and the U.S. bucked the trend, with investment up 36% and 48%, respectively.

China becomes less profitable

The profit margin on Chinese investment shrank from more than 15% in the mid-1990s to around 4% in 2015, according to research by Bai Chong-en, an economics professor at Tsinghua University. With the benchmark one-year lending rate now at 4.35%, it has become tougher for companies to readily turn a profit.

Average monthly pay for migrant workers rose 7% to 3,275 yuan ($476) in 2016, nearly double the 2010 figure. Real estate prices swelled 30-50% on the year in major cities such as Beijing, Shanghai and Shenzhen. A survey last year by China's customs administration found that 61% of exporters consider soaring labor and land costs a burden.

These factors contributed to a 10% slump in manufacturing investment. The sector accounted for just 28% of total investment, half its 2006 share. "Fewer foreign manufacturers are coming in, and more are leaving," a worried senior Communist Party official noted.

But investment by the leasing industry, which treats China as a market rather than a production base, jumped 61%, while spending by wholesaler and retailers rose 32%.

Tighter controls squeeze confidence

The People's Bank of China tightened controls on money flows in late November in a bid to check yuan depreciation by curbing capital flight. One measure requires approval of foreign exchange transactions involving $5 million or more. Foreign companies are feeling the bite of these policies, including a Japanese manufacturer that found itself unable to repatriate some 100 million yuan.

"The capital controls will probably work in the short term, but over the medium to long term they'll reduce foreign companies' confidence," said Zhang Ming, a research fellow at the Chinese Academy of Social Sciences. Foreign direct investment plunged 43% on the year in December.

Yet Chinese investment abroad continues to grow solidly as these domestic companies snap up Western ones. Total spending more than doubled in the four years through 2016 to $188.8 billion, up 30% from 2015.

But the new capital controls require advance review of deals topping $5 million by currency authorities, which reportedly are disinclined to approve real estate investment or acquisitions of companies bearing little relation to the buyer's core business. Chinese overseas investment plunged 51% in December.

When President Xi Jinping addressed the World Economic Forum last month in Davos, Switzerland, he urged support for further economic liberalization and globalization. Yet Beijing's focus on stability over openness produces the opposite effect, stemming cross-border capital flows and sapping motivation for structural reform.

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