° China has joined the WTO, and market access will be phased in gradually. ° Local currency is not yet convertible on international markets and is subject to devaluation. ° Despite the still considerable bureaucracy, the government is making efforts to promote foreign investment.
° Although many industries are largely state owned, the nonstate sector, comprising collectively owned, foreign-owned and private companies, is rapidly gaining importance in the Chinese economy.
° State-owned enterprises often receive priority treatment.° Restrictions are imposed on imports.° Incentives are available for export-oriented and high-tech
businesses. ° There are market-access and production controls, as well as
restrictions on operations. ° Distribution can be difficult. ° Managers and skilled laborers are in short supply. ° Protection of intellectual property is an area of concern.
China officially joined the World Trade Organization (WTO) in December 2001; foreign investment and trade will grow rapidly as a result. Under the WTO, tariffs will be reduced and market access to various regulated industries, trading and distribution, and services will be phased in gradually over the next five years. A more open market is expected to attract know-how, technology, services, and materials. These imports, together with China’s rich manpower, both skilled and unskilled, will turn China into one of the world’s most important manufacturing bases.
China still holds a number of problem areas for foreign investors. Nevertheless, the government is making efforts to address some of the problems in order to further encourage foreign investment. For example, through the recent amendment of the Law on Wholly Foreign-owned Enterprises (WFOE), Law on Cooperative Joint Ventures (CJVs) and Law on Equity Joint Ventures (EJVs), China has relaxed its requirements on foreign exchange balancing and raw materials sourcing for foreign investment enterprises (FIEs). An FIE is no longer required to give priority to the local market when purchasing raw materials, fuels and other materials. Similarly, the requirement for WFOEs and CJVs to balance foreign exchange income and expenditures has been repealed.
Large areas of China’s economy are becoming increasingly market oriented, and a smaller range of sectors and products is now under administrative control. Current industrial policy places emphasis on the need to strengthen basic industries, infrastructure, energy, and transport. Market forces are now playing a more dominant role, and the business climate is subject to less state administrative guidance than before. Foreign participation in investment projects continues to be encouraged by the Chinese authorities, and measures are being taken to make the investment climate more favorable and less bureaucratic. In the spring of 2000, the Chinese government announced that it had delegated more foreign investment approval authorities to local governments, another step toward reducing bureaucracy.
Priority areas for foreign investment remain those where modern technology, foreign exchange earnings or large amounts of capital are required. The coastal areas have experienced a greater degree of industrial development than the inland areas, offering improved infrastructure facilities and a number of other benefits to foreign investors. In addition, the government has issued a series of laws and regulations intended to encourage foreign investment in Central and Western China.
Framework of industry
State-owned enterprises (SOEs) still maintain an important role in the economy. Nonetheless, the nonstate sector, comprising collectively owned, foreign-owned and private companies, is rapidly gaining importance, and it now accounts for the majority of gross industrial output value.
Economic development plans
The State Development Planning Commission is responsible for drafting China’s economic plans. China’s 10th Five-year Plan (2001–2005) projects a 7 percent annual growth in GDP. Each year, a detailed plan and budget are prepared for implementation.
The main thrust of China’s current economic development policy is to maintain balanced growth, avoid the fluctuations of the last decade and improve living standards. In 200, the stimulation of domestic demand was approved by the government as a long-term strategic direction for continuous economic development. Development of Central and Western China has also been listed as a critical target of the coming years.
Foreign enterprises are encouraged to participate in export-oriented projects to enhance the country’s foreign exchange earnings and to improve the balance of trade. Special incentives are granted to foreign companies participating in export-oriented and high-tech (including software and integrated circuit) enterprises (see Chapter 4).
Trend toward nationalization/privatization
As China deepens its economic reforms and moves toward a market economy, collectively and privately owned enterprises are becoming increasingly important. SOEs are undergoing structural reforms in an effort to improve their efficiency and productivity.
With regard to foreign-investment enterprises, the government provided an undertaking not to nationalize joint ventures and WFOEs. Expropriation would occur only under special circumstances and with the granting of appropriate compensation.
Regional/special industry development
Since 1979 the government has established five Special Economic Zones, 14 coastal cities and other designated special investment, or open, zones that offer special investment incentives. There are also specific industry sectors, such as agriculture, forestry, communications, energy, and high-tech, that are designated for development and offer tax and other incentives to the investor (see Chapter 4).
Since 1991 China has opened 15 free-trade zones (or bonded trade zones) in the coastal areas. Although established principally to encourage export processing, it is expected that the incentives offered in these zones will encourage foreign investment. See Chapter 4 for details.
The State Council approved the establishment of 15 export-processing zones (EPZs) on a trial basis on April 27, 2000. In terms of customs administration, EPZs share features similar to those of the free-trade zones. For example, goods shipped into these zones from overseas are bonded, no tariff guarantee system is imposed on the import of raw materials for processing, and no VAT is levied on production or processing activities.
Generally only export processing enterprises may be set up in EPZs and no domestic sales will be granted. If goods are to be sold to local Chinese customers, special approval has to be sought and import duties and taxes would be levied on the value of the finished products.
See Chapter 7 for a discussion of financial services.
Private/public sector cooperation
The private sector is becoming increasingly important as China transitions from a socialist controlled economy to a socialist market economy. To enhance the growth of the private enterprises that have been dominated by small and medium enterprises (SMEs), the Chinese government has chosen a number of municipalities to launch SME-facilitating policies. While allowing the private sector to continue to develop in certain areas, the state-owned sector is still predominant in some sectors such as the oil, power, tobacco, steel, petrochemical, automobile, communication, railway, aviation, and financial industries. However, the share of SOEs in the national economy has decreased as a result of a series of reforms designed to improve efficiency and productivity.
China has a large and relatively inexpensive labor force. In the past the workforce was highly regulated, and individuals were generally assigned to jobs or work units where they remained for life. This system has now been largely abolished and workers have more opportunities to change jobs. There is a shortage of skilled labor, which makes it difficult for foreign enterprises to find qualified staff, in particular managers. The joint venture law contains provisions for the establishment of labor unions. Although local labor is relatively inexpensive, many joint ventures offer incentives to attract better-qualified staff. For a foreign company doing business in China, the cost of maintaining expatriate management is high, since housing, travel, hardship allowances, and other fringe benefits are paid in addition to the basic salary.
Overseas trade relations
Memberships in trade blocs
China officially became a member of the World Trade Organization (WTO) in December 2001. In this connection, China will phase in lower tariff rates and eliminate nontariff barriers to trade, including quotas, import licenses and unwarranted inspection requirements. In addition, China needs to address the issues of legal and regulatory transparency, the protection of intellectual property and the opening up of the banking, telecommunications, insurance, inspection, and other service industries.
Investment incentives are offered to foreign companies investing in export-oriented enterprises if they are able to meet certain requirements. These are mainly in the form of tax incentives; additional preferential treatments are available if foreign investment enterprises are located in the designated special investment zones (see Chapter 4). With the exception of certain items subject to state export restrictions, most products exported by foreign investment enterprises are exempt from export duties. The general rate for value-added tax (VAT) is 17 percent. By law, exports are zero-rated, i.e., no VAT will be levied on exports, and input VAT will be refunded.
In order to address the foreign trade imbalance experienced in the mid-1980s, which saw a depletion in China’s foreign exchange reserves and a huge trade deficit, China placed severe restrictions on the import of nonessential items and those that competed with domestically manufactured products. However, the Chinese authorities have made efforts to reduce or eliminate certain trade barriers.
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