The Future of Chinese Economy

Introduction

Chinese economy is one the fastest growing economies in the world. For the last few years China has become a threat to the traditional economic power houses such as USA, United Kingdom and Germany. China has registered massive economic growth in all its key sectors of the economy. The Chinese economic growth is evident in its fast progress of infrastructure such as the roads, communication infrastructure and information technology sector. These key sectors have contributed to the massive economic growth in Chinese gross domestic product.

Chinese economy has seen the rise of many industries in the information technology, textile and other sectors of the economy. This has resulted to high levels of industrialization in both the informal and formal sectors of the Chinese economy. This rapid growth can be attributed to the favorable economic policies that have been employed by the communist government of the Republic of China. These policies include incentives and tax waves. They have, in turn, encouraged many people to invest in certain sectors of the economy.

The growth of Chinese economy has seen the development of international trade in China. This trade between China and other parts of the world is evident mainly in African countries. The Chinese are conducting notable trading activities with many countries. Almost all goods and services, being used in African countries, come from China.

This paper seeks to investigate the prospect of Chinese economy in future. The essay will involve investigating on the prospect of one of the Chinese multinational enterprise, involved in international trade. The essay will focus on the company’s present and future strategy to survive in the ever competitive global business environment. This paper tries to answer the following questions: if international trade is so prosperous, why do multi-national enterprises exist? What is the implication for China's future growth strategy?

Reasons for Existence of Multi-National Enterprises

China has many dominating multi-national companies in international trade. Most of its companies are in the technology field, where the country provides technical skills to developing nations. These companies are mainly engaged in infrastructure development, for example, road construction, power generation and installation of information technology infrastructure. The companies have contributed greatly to the rise of China as world economic power in the recent years. This section seeks to discuss the various reasons behind the existence of multinational enterprises in the world.

Trade theories

 In 1960s, economic researchers were trying to understand the reasons behind existence of multinational enterprises and the impact they had on the society. Economic scholars in the area of trade at that time were arguing that multi-national firms were a component of the long term capital section in preparation of balance of payment. Multi-nationals were viewed as causing one form of capital exports as well as direct foreign investment. Foreign direct investment occurred, when investors were in full control of the investment portfolio as well as foreign assets (Jones 1961)

The view, held by the trade economists at the time, had two notable drawbacks. First, there was no identifiable match between growth of multi-national firms and direct foreign investment. Secondly, differences that were there in real interest rates did not provide a justifiable ground for existence of multinational firms.

Foreign direct investment can be used in measurement of capital export from one economy to other parts of the world.   As a measure of existence of multinational firms this may be unrealistic because a firm can establish a new plant in a foreign country without having to export capital from the mother country. It can get its capital by re-investing its profits or borrowing domestically from the country it is establishing the firm (Paul 2001).

Multinational firms exist for the purpose to increase returns that a firm gets from home country. Therefore, owners of the domestic firms seek to diversify their investments with an aim of making more profit from foreign investments. Therefore, one of the reasons for existence of multinational firms is to increase the firm’s returns. This can be attributed as the major reason why China has so many multi-national companies.

Industrial Organization Theory

The trade theory moved the focus of trade from the firm’s home country to the firm itself. Hymer (1960) put into consideration what used to happen in the world of divided national markets, which were dominated by monopolists who were home grown. The existence of these monopolies was attributed to low transport costs as well as trade barriers that these monopolies enjoyed. He was of the view that if competition was allowed between the two firms it would result into externalities. On the other hand, if the two firms merge or one of the firms buys the other, then, multinational firm would internalize. This could be used to explain the creation of multinational enterprises.

From this theory is evident that multinational companies are formed with an aim of reducing competition from domestic markets. Firms tend to go international to reduce the stiff competition that they face from domestic firms. They aim at increasing their income away from home market. These can be viewed as another major reason that has contributed to increase in number of Chinese firms, taking part in the international trade. They intend to reduce the stiff competition they get from other firms in both the formal and informal sectors (Breche & Choudri 1982). Establishment of multinationals help reduce competition by extending the firms market share in foreign markets.

Internalization/ Transaction Cost Theory

Hymer (1960) argued that in various markets there existed pecuniary externalities that contributed in making the cost of running business high, thereby reducing firm’s profit. These externalities are caused by imperfections in the market, resulting from economic agent. These agents do not have information on the prices of goods and services. They do not have information on the level of outputs that have been produced by various competitors in the market. The externalities result in increase in various transaction costs, which, in turn, have negative impact in the firm’s returns (Leontief 1953).

This theory suggests that in order to reduce the impact of externalities on firm’s operation, firms should move from domestic market to foreign markets with an aim of reducing the transaction costs that result from pecuniary externalities. This can be used to explain the existence of multinational enterprises in the world. They are formed with the aim of reducing the impact of externalities on their operations. This same situation applies to Chinese firms, where they establish multinational firms with an aim of reducing transaction costs, arising from pecuniary externalities (Leamer 1980).

Case Study

In order to investigate the impact of international trade on Chinese economy the essay will include the research of a company that is involved in oil trade. It will take into consideration the company’s international trade policies and the implications that these policies has in the Chinese economy both now and in future.

China oil Shanghai International Trading Co., Ltd is one of the multinational companies that is engaged in international trade. The company imports oil and retail it in various parts of China. The company decided to go multinational with an aim of increasing efficiency of its operations. The company strategy is to open more multinational firms in order to assess larger share of foreign markets, which have not been reached

The Chinese company intends to reduce the impact of externalities on firm’s operation, to move from domestic market to foreign markets with an aim of reducing the transaction cost that result from pecuniary externalities. This can be used to explain the reason behind the oil company, moving to foreign markets. Its multinational subsidiaries are formed with the aim of reducing the impact of externalities on their operations. This same situation applies to Chinese firms, where they establish multinational firms with an aim of reducing transaction costs, arising from pecuniary externalities. This means that the levels of externalities are reduced in the Chinese market. This, in turn, encourages the growth of China’s economy (Afred 2001).

Secondly, the company has multinational firms as it intends to increase returns that a firm gets from home country. Therefore, owners of the domestic firms seek to diversify their investments with an aim of making more profit from foreign investments. Therefore, one of the reasons for existence of multinational firms is to increase the firm’s returns. This can be attributed as the major reason why this Chinese firm has so many multi-national companies. This, in turn, has direct impact on the Chinese economy, where its national gross product will increase due to growth in remittances from abroad.

Thirdly, from the theory of industrialization, it is obvious that the oil firm has multinational companies with an aim of reducing competition from domestic markets. Firms tend to go international to reduce the stiff competition that they face from domestic firms. They aim at increasing their income away from home market. These can be viewed as another major reason that has contributed to increase in number of Chinese firms, taking part in the international trade. They intend to reduce the stiff competition they get from other firms in both the formal and informal sectors. Establishment of multinationals help reduce competition by extending the firms market share in foreign markets. This has implication on the Chinese economy as it leads to increase in production of goods by Chinese firms, thereby making China one of the key participants in the international trade

Implications of International Trade on China

As a result of recent developments, there is a need to know what will become of China’s economy in decades to come? Even when conservative assumptions are being made that China’s growth rate will soon slow down at significant rate and will be at steady level in decades to come, and assuming that the U.S. economy will be having a growth on trend of more than 3 percent each and every year, it is expected that China’s total gross domestic product will grow to be larger than the gross domestic product of U.S. in around 2035 to 2040. After which, China’s GDP is expected to be twice bigger than that of the U.S. around 2060s (Trefler 1995).

Even if China’s overall gross domestic product is expected to surpass that of America’s, because of its large population, its per-capita income, which is used to measure the standard of living, will be lagging much behind to that of the  citizens of U.S., this is likely to be the case for the rest of this century. The China has notable low levels of per capital income; however, it also depends on the levels of sophistication within the Chinese society, its productivity as well as its military capabilities (Jonathan 1999).

One key point to note is that even though Chinese’s annual budget for its military should grow at the same rate with its GDP growth in order to be at least on the same level with that of the U.S., it does give much detailed information about Chinese’s forces projection as well as the capabilities. When it comes to the area of production; annual cost of the data and that of investing do not matter, though the stock that is accumulated during physical production, capital employed as well as the human capital employed matters a lot (McKenzie 1954).

The growth of international trade has led to rise of China as economic power house and in order to maintain this position it has to invest heavily in research and military with an aim of being at the same level with world military giants. This means that Chinese future economic focus will be to invest in its military by allocating more funds from its national budget to military activities.