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Unraveling the Puzzle of Differing Rates of FDI and FVCI in India and China

Published online by Cambridge University Press:  16 April 2015

Haitian Lu ,
Hong Huang  and
Swati Deva
Haitian Lu
Affiliation:
Hong Kong Polytechnic University
Hong Huang
Affiliation:
Hong Kong Polytechnic University
Swati Deva
Affiliation:
Hong Kong Polytechnic University
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Abstract

This study seeks to unravel the puzzle underlying China's and India's differing experiences in attracting two types of foreign investment: namely foreign direct investment (‘FDI’) and foreign venture capital investment (‘FVCI’). Complementing the law and finance literature, we argue that foreign investors prefer the direct investment mode in China despite its poor governance environment because direct investment provides private means of control over the business, and China's institutional environment provides a more facilitating arena for FDI than India's. In contrast, India's legal infrastructure and related institutional settings prove to be better than China's in accommodating foreign portfolio (indirect) investment especially in the form of venture capital. The conclusion of this article has implications for the two countries' legal reform in the direction of the desired type of foreign investment. It also provides comparative insights into the legal institutions of China and India in fostering national innovative capacity and entrepreneurship.

Keywords

FDIventure capitalChinaIndiaentrepreneurship
Type
Research Article
Information
Asian Journal of Comparative Law , Volume 4 , 2009 , pp. 1 - 31
Copyright
Copyright © Faculty of Law, National University of Singapore 2009

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References

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47 See, e.g. the case of the Guangzhou Yamei Polyurethane Co. Ltd. (1992) where the Guangzhou municipality exceeded its authority in approving the establishment of a Sino-foreign equity joint venture in the pollution intensive industry. The State Council held that the Guangzhou municipality was wrong to approve the project because it was an investment of over US$30 million. However, since a joint venture contract has been signed, the State Council decided to uphold the proposal and ordered the joint venture contract to be re-signed and re-approved pursuant to the relevant appropriate procedures.

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65 The Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) (Amendment) Regulations 2000 state that the FVCI may acquire by purchase or otherwise or sell shares / convertible debentures / units or any other investments at a price that is acceptable to the buyer and the seller.

66 CSRC, Rules for the Establishment of Foreign Invested Securities Companies (2007).

67 Source from SEBI: <http://www.sebi.gov.in/Index.jsp?contentDisp=Department&dep_id=3>, last accessed 10 June 2008.

68 Source from AVCJ database, online: http://www.avcj.com/Research Database.aspx.

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76 As one of the measures to allow greater capital account convertibility, the Reserve Bank of India has allowed two-way fungibility for Indian ADRs / GDRs. This allows holders of the instruments to cancel them with the depository and sell the underlying shares in the market. The company can then issue ADRs anew to the extent of the shares converted into local shares. According to a 2007 research by Deutsche Bank, this RBI initiative further linked domestic stock markets to international investors and strengthened domestic firms’ ability to access capital abroad. Deutsche Bank Research Report (2007), online: <http://www.db.com/spain/content/downloads/DB_Research_Current_Issues_070214.pdf>.

77 The Securities Law of People's Republic of China (2005), Art. 50. It requires a company issuing public shares in China to have China Securities Regulatory Commission (“CSRC”) approval, RMB 30 million in share capital, three years financial record profitability and having at least 1,000 shareholders who hold 25% of the total number of the company's shares.

78 According to International Institute Management Development (“IMD”) World Competitiveness Yearbook 2004, Israel ranks No.1 in total expenditure on R&D as a percentage of GDP, No.2 in public expenditure on education as a percentage of GDP, No.3 in skilled labor availability, levels of entrepreneurship and qualified engineers available in the labor market. According to the World Economic Forum (“WEF”) Global Competitiveness Report 2004, Israel ranks No.1 in technological readiness and No.2 in venture capital availability.

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80 There are many regulations on overseas listing of Chinese companies, e.g. Securities Law of People's Republic of China, Special Regulations of the State Council Concerning Floating and Listing of Shares Overseas by Joint Stock Limited Companies (1994), Notice of the State Council on Further Strengthening the Administration of Share Issues and Listings Overseas (1997) and Opinion on Further Standardizing Operations and Reform of Companies Listed Outside China (1999).

81 In China, there are systemic deficiencies in the process of evaluation, acquisition, and approval, which may result in domestic assets being sold too cheaply to foreign investors. Also large numbers of red chip companies raising money through overseas IPOs and converting such foreign currencies into RMB to be used in China will cause an imbalance of payment on China's foreign exchange.

82 For a detailed analysis of these requirements on the red-chip method of listing, see Lu et al., supra note 4.

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96 Every year China generates more than 5 million college graduates, among whom more than 600,000 major in engineering and 100,000 in information and technology (“IT”). India also has a large pool of low-wage but technically qualified people. By 2002, the number of IT professionals in India reached 520,000. In addition, a large proportion of Indian graduates are proficient in English and well-suited to the Information Technology-Enabled Services industry.

97 E.g. in the 1980s, the “Sunday Engineers” from Shanghai SOEs were hot favorites in Jiangsu province and Zhejiang province. Such practice was soon copied in other parts of the country.

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105 E.g. Morris and Pitt made a detailed comparison between entrepreneurial and non-entrepreneurial activities in the informal sector in developing countries. See Morris, et al., “Entrepreneurial Activity in the Third World Informal Sector” International Journal of Entrepreneurial Behavior & Research 2 (1) (1996) 59 at 64 CrossRefGoogle Scholar.

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115 Ibid. See also Beck, T., Demirgüc-Kunt, A. & Levine, R., “Law and Finance: Why does Legal Origin Matter?” Journal of Comparative Economics 31 (2003) 653 CrossRefGoogle Scholar; Beck, T., Demirgüc-Kunt, A. & Levine, R., “Law, Endowments and Finance” Journal of Financial Economics 70 (2003) 137 CrossRefGoogle Scholar.

116 Armour & Lele, supra note 29. See also Hayek, F.A., Law, Legislation and Liberty, Vol 1: Rules and Order (Chicago: University of Chicago Press, 1978)CrossRefGoogle Scholar; Mahoney, P.G., “The Common Law and Economic Growth: Hayek Might be Right” J. Legal Stud. 30 (2001) 503 CrossRefGoogle Scholar; Dam, K. The Law-Growth Nexus (Washington, DC: Brookings Press, 2006)Google Scholar.

117 Maskus, K.E., “The Economics of Global Intellectual Property and Economic Development: A Survey” in Yu, Peter K., Intellectual Property and Information Wealth: Issues and Practices in the Digital Age (Westport: Praeger Publishers, 2007)Google Scholar.

118 Maskus, ibid. The author makes a strong case that poor administration of the rules and lack of enforcement render China's impressive laws ineffective. In a few developed parts of the country, such as Shanghai and Beijing, domestic companies increasingly understand that they need IP rights protection in order to thrive. However, the vast majority of companies, local governments and consumers benefit from infringement, making it exceedingly difficult to move towards successful enforcement. Maskus concludes that for the time being the situation is likely to get worse, especially as the less developed regions of China struggle to improve their economies.

119 See Indian cases on judicial safeguards of private property rights, e.g. Kameshwar Singh v. State of Bihar AIR 1951 Patna 91; Vajravelu v Special Deputy Collector AIR 1965 SC 1017; Union of India v the Medical Corporation of India AIR 1967 SC 637 (later overruled by the Supreme Court in State of Gujarat v Shantilal AIR 1969 SC 64).

120 Armour & Lele, supra note 29.

121 World Bank “Doing Business Project” on “Ease of Enforcing Contracts”, online: http://www.doingbusiness.org/ExploreTopics/EnforcingContracts/.

122 Debroy, B., “Some Issues in Law Reform in India” in Dethier, J.J., Governance; Decentralization, and Reform in China, India and Russia (London: Kluwer Academic Publishers, 2000)Google Scholar.

123 Armour & Lele, supra note 29.

124 Bruton & Ahlstrom, supra note 35.