Risk Assessment and Foreign Direct Investment

Today Lenovo, the Chinese PC manufacturer that purchased IBM’s old PC business, made a big announcement.  They are opening up a brand-new manufacturing plant…in the United States!  While it’s a small start, it’s a move that makes sense in a lot of ways – it’s very near to their major markets, offers high-productivity labor, and production in North Carolina isn’t hampered constantly by massive violent labor revolts.

I think the recent drama with Foxconn really illustrated what Jacobin Magazine points out has been building in China for a long time.  The fact is that China is undergoing labor spasms very similar to what the United States experienced around a hundred years ago, with all the accompanying violence and disruption.  However, a hundred years ago there was nowhere better than the United States to build your products – today it’s not at all clear that China is similarly positioned. It does have many advantages, but its primary one is that it offers great enough wage arbitrage vs. the West to offset its lower mechanization and correspondingly lower productivity.  But in the rapidly growing coastal regions where manufacturing is concentrated, that is rapidly ceasing to be the case.

The degree of political risk in China is also powerful.  While American government can be somewhat capricious, there are simply no equivalent figures here to Bo Xilai.  State and municipal governors will not shake down businesses with threats of wholesale expropriation, because that is plainly illegal and impractical in the United States.  To date, the labor wage arbitrage really has been big enough to offset the risk of having your assets seized, having to pay bribes, having your executives arrested for bribery, etc.  Furthermore, the degree of political risk appears to be high but is in fact completely opaque.  Judging the vulnerability of your business to expropriation or extortion requires accurately guessing at the political preferences of a set of ten Politburo members who have no clearly articulated governing principles.

In other words, we may be reaching a point where Chinese foreign direct investment (FDI) abroad makes more sense than Western FDI in China.

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