FDI and Economic Development in China 1970-2006: A Cointegration Study

The relationship between high levels of FDI and of economic growth has been of enduring interest in the development literature, particularly in the context of economies like China which have enjoyed exception inflows of foreign capital as well as experiencing unprecedented economic growth. The specific literature on China has failed to come to a definite conclusion as to whether FDI does increase growth mainly because they focus on one or several different channels through which FDI might affect the macro-economy. A more comprehensive framework is necessary to investigate the overarching relationships between economic development and FDI, as identified by endogenous growth theory, by including the potential influences on them, and vice-versa, of domestic capital stock, human capital, the state of technology, the openness of the economy and its gradual liberalisation. Although we investigate those influences in a VAR framework, our main focus is the presence of long-run cointegration, between the relevant variables and aggregate output in long-run equilibrium. We find, and then identify, such long run structural relationships; one of which identifies a long-run "production function". In the long-run FDI reduces economic growth; but the latter increases the former. There are important impacts on variables such as employment, from FDI and other factors such as openness and technology transfer, which have both indirect or direct spill-over effects from FDI.