The impact of FDI on the production networks between China and East Asia and the role of the U.S. and ROW as final markets

Abstract

This paper uses a 3 factor – 4 region – 15 sector computable general equilibrium model to study the impact of FDI accruing to China. We focus on the sectors of Electronics, Machinery and Textiles which account for 55.4% and 40% of Chinese overall exports and imports, respectively. Our data seem to confirm the existing empirical knowledge on the production networks between China and East Asia, and the role that the U.S. and ROW play as final markets for Chinese exports. Based on these differentiated geographical roles and on the contrasting production technologies of the three sectors, we offer an in-depth analysis of the effect of FDI inflows on production, prices and bilateral trade across China, East Asia, the U.S. and ROW. The magnitude of FDI inflows brings about proportional impacts on the increase in production and the fall in prices across the three sectors considered. However, the subsequent adjustment in bilateral trade differs. On the one hand, FDI leads to an increase of Chinese exports of Electronics and Machinery, crowding out production and exports in the rest of regions. On the other hand, the increase in FDI in Textiles still brings about increase in production which does not result in higher exports. The private consumption orientation of Textiles explains its contrasting trade pattern with respect to Electronics and Machinery. The fall in Chinese exports of Textiles in China underlies the increase on exports of Textiles across the rest of regions. However, world trade flows in Textiles are of smaller volume than the one in Electronics and Machinery. Therefore, the increase in Textiles of exports of the rest of regions does not compensate their big losses of exports in Machinery and Electronics