Investment Climate Statement for FY 2002

INTERNATIONAL COPYRIGHT, U.S. & FOREIGN COMMERCIAL SERVICE AND U.S. DEPARTMENT OF STATE, 2001. ALL RIGHTS RESERVED OUTSIDE OF THE UNITED STATES.

A.1. Openness to Foreign Investment

China remains the leading developing country recipient of foreign direct investment (FDI), adding $46.9 billion in 2001 for a cumulative total of $395.2 billion. After remaining flat for 1999 and 2000, inward FDI growth surged 14.9% percent in 2001 as investment from other Asian economies recovered from a three-year slump and China’s December 2001 entry to the WTO grew increasingly assured. The United States accounted for 9.5% of total FDI in China in 2001, making it the third largest source of new FDI, behind Hong Kong and the British Virgin Islands and ahead of Japan and Taiwan. On a cumulative basis, the United States, with $34.5 billion through 2001, remains the second largest foreign investor after Hong Kong.

China's investment climate has changed dramatically in 23 years of reform and opening. In the early 1980's, China restricted foreign investments to export-oriented operations and required foreign investors to form joint venture partnerships with Chinese firms in order to enter the market. Since the early 1990's, however, China has allowed foreign investors to manufacture and sell a wide variety of goods on the domestic market. In the mid-1990's, China authorized the establishment of wholly foreign-owned enterprises (WFOEs), now the preferred form of FDI. However, the Chinese government's emphasis on guiding FDI into manufacturing has led to market saturation and over-capacity of some industries in that sector, while leaving China's service sector highly underdeveloped.

China became a member of the World Trade Organization (WTO) on December 11, 2001. Although the WTO is primarily concerned with trade, China also took on obligations to eliminate certain trade-related investment measures and to open gradually opportunities for foreign investment in specified sectors that had previously been off limits. New laws, regulations, and administrative measures aimed at implementing these general and sector-specific commitments are being issued at a rapid pace. Even so, issuance of some measures has been behind schedule. Prospective U.S. investors will want to examine carefully the particulars of these new measures as they emerge. The relaxation of absolute barriers to entry has not led to a rush of foreign investment in telecommunications service and banking, for example, due to remaining regulatory restrictions, high capital requirements, and foreign firms' judgments about market conditions.

Prior to China’s WTO entry, many international firms allied with Hong Kong companies to gain access to the China market. As a result, Hong Kong is the largest “foreign investor” into mainland China. By the end of 2001, the cumulative value of Hong Kong’s direct investment in the mainland stood at $187 billion, accounting for over 47% of total FDI into China. In part, Hong Kong’s investments in China outpaced investments by other economies because Hong Kong’s entrepreneurs were willing to accept the risks of investing in developing China before other investors. As China’s WTO entry makes the operating environment more transparent and predictable, however, Hong Kong’s role will change. Shanghai is emerging as a major alternative to Hong Kong, although the limitations on convertibility of the Chinese currency will impede Shanghai’s ability to supplant Hong Kong. (See separate report on Hong Kong's investment climate.)

A growing number of firms are opting to channel their China investments through vehicles registered in the freeports of British Virgin Islands, the Cayman Islands, and Western Samoa. In 2001, new FDI nominally from these three tax haven economies accounted for 14.1% of total new FDI. The ultimate origin of this FDI is unclear, but anecdotal information suggests that it includes investments from corporations headquartered in OECD economies, Taiwan, and even China itself.

Types of Foreign Enterprises in China: Among the three main foreign investment vehicles available to foreign investors, WFOEs are currently the most popular. New registration of WFOEs exceeded that of JVs for the first time in 2000. According to Ministry of Foreign Trade and Economic Cooperations (MOFTEC) statistics, WFOEs accounted for 59.8% of new projects in 2001. By value, WFOEs represented only 50.9%, owing to the relatively high value of investment in sectors such as natural resources and telecommunications in which joint ventures are mandated.

Encouraged versus Restricted Investment: China attempts to guide new foreign investment towards "encouraged" industries and regions. Over the past five years, China has implemented new policies introducing new incentives for investments in high-tech industries and in the central and western parts of the country in order to stimulate development in less developed areas. A new catalogue took effect April 1, 2002, listing sectors in which foreign investment would be encouraged, restricted or prohibited, replacing the December 1997 list. Unlisted sectors are considered to be permitted.

Among other things, the new catalogue aims to implement sectoral openings that China committed to in its WTO accession agreement, including banking, insurance, petroleum extraction, and distribution. According to an accompanying regulation, projects in “encouraged” sectors benefit from duty-free import of capital equipment and value-added tax rebates on inputs. The same regulation states that approval authority for “restricted” investments rests with the relevant central government ministry and may not be delegated to the local level. For a number of restricted industries, a Chinese controlling or majority stake is required. Industries in which foreign investment is prohibited include national defense, firearms manufacturing, most media content sectors, and biotechnology seed production.

Mergers and Acquisitions (M&A): China's inadequate merger laws and policies and the absence of property rights guidelines have posed substantial obstacles to foreign M&A activity in China. A simple share buy-out can occur under existing regulations, but it would be subject not only to the approval of all partners in a given venture but also to the supervising Chinese government agency. The Chinese government has approved a growing number of such deals. (Note: Foreigners may purchase shares in a small minority of Chinese companies listed on Chinese stock exchanges, but foreign portfolio investment is currently restricted to less than majority ownership.)

Regulations on the Merger and Division of FIEs were amended in November 2001, which improved the conditions for M&A activity among such enterprises. Cross-border acquisitions of domestic and foreign-invested firms by foreign parties have also started to become a reality. Cross-border M&A in China averaged $1.8 billion over the past five years -- accounting for 2.8% of global cross-border M&A in developing countries, based on data from the UN Conference on Trade and Development -- although a significant portion of these deals are thought to be carried out by overseas subsidiaries of Chinese firms. Several Chinese economists favor modernizing China’s Company Law to accommodate more cross-border mergers and acquisitions.

Investment Incentives: China has developed and expanded a complex system of investment incentives over the last twenty years. The Special Economic Zones of Shenzhen, Shantou, Zhuhai, Xiamen and Hainan, 14 coastal cities, hundreds of development zones and designated inland cities all promote investment with unique packages of investment and tax incentives. Chinese authorities have also established a number of free ports and bonded zones. In recent years, SEZs have sought to enhance their autonomy while officials from inland China have pressed the central government to reduce SEZ privileges. To make progress toward a consistent national trade regime as part of its WTO accession, China has indicated that it will not introduce any new SEZ investment incentives and will decrease existing incentives over time.

The vast majority of FDI is directed to China's coastal provinces. Since 1979, 86% of cumulative FDI has gone to the 11 provinces and provincial-level cities along the eastern and southern coast. Nearly two-thirds of cumulative FDI receipts have gone to just five provinces: Guangdong (27.9%), Jiangsu (12.8%), Fujian (9.5%), Shanghai (8.3%). and Shandong (6.2%). Of these, FDI to only two of these destinations grew faster than the national average in 2001: Shanghai (up 35.8%) and Shandong (up 18.5%). All five areas have been particularly targeted by Taiwan and Hong Kong-based manufacturing attracted by low labor costs for export production. Shandong has also been especially popular with Korean firms.

In 1999, China announced special investment incentives to attract foreign investors to its highly underdeveloped central and western regions. A national-level catalogue of "encouraged industries" for the interior provinces was published in July 1999, with a subsequent edition in June 2000. Individual provinces have also issued their own additional incentives.

Western China continues to struggle to attract significant amounts of FDI. China has touted a high-visibility "Great Western Development" campaign and included a variety of western development provisions in its 10th five-year plan. However, provincial and local governments in the western areas have generally tried to steer prospective investors to invest in failing state-owned enterprises (SOEs) in hopes of saving these large employers from bankruptcy. Prospective foreign investors have found these SOEs to be almost uniformly unattractive business propositions. Governments have not been as willing to promote some of the very promising private enterprises to foreign investors. The investment climate and business environment are also significantly less sophisticated and transparent than in the coastal areas, making it difficult for foreign investors to assess prospective investments. Finally, the most attractive export routes and domestic consumer market segments are concentrated in the East. As a result of these limitations, few foreign investors have made significant moves in the west, which took in only 4% of FDI received in 2001.

New FDI in China continues to flow overwhelmingly to the manufacturing sector, up nearly 20%. In 2001, two-thirds of FDI ($30.9 billion) went into manufacturing projects. In the initial phase of China's economic opening, manufacturing FDI was concentrated in low technology garments and other soft goods. Starting in the 1990s, however, China also began receiving growing amounts of capital-intensive (chemicals and petroleum processing) and technology-intensive FDI. The two fastest growing sectors for new FDI in 2001 were electronics and communications equipment (up 54%) and textiles (up 40%), demonstrating that China continues to gain competitiveness in higher technology products without giving up its dominance of the low end. For example, the top seven products exported by foreign-invested enterprises (FIEs) in 2001 consisted of $25 billion in garments, textiles and footwear and $25 billion in information technology and telecommunications goods.

With the exception of real estate, service sector investment has been minimal, mainly due to Chinese government restrictions. For example, education, culture, arts, radio, film, and television broadcasting collectively received only $35.3 million in 2001, down 34% from 2000. The ratio of manufacturing to service investment should dramatically shift over the coming several years as China phases out current barriers to foreign access to service industries as part of its World Trade Organization (WTO) accession agreement.

Foreign indirect investment (FII) still plays only a modest role in foreign investment in China, despite an extraordinary surge in 2000. In China, FII is essentially limited to foreign investors buying and selling shares of Mainland Chinese companies listed on foreign stock exchanges, primarily in New York (N-shares) and Hong Kong (H-shares). Mainland companies raised only $2.9 billion through overseas equity placements in 2001, after having taken in $21.9 billion in 2000, due both to company-specific delays and the cooling of global equity markets.

Foreign investors sometimes have to negotiate incentives and benefits directly with the relevant government authorities. Some incentives and benefits may not be conferred automatically. The incentives available include significant reductions in national and local income taxes, land use fees, import and export duties, and priority treatment in obtaining basic infrastructure services. Chinese authorities have also established special preferences for projects involving high-tech and export-oriented investments. Priority sectors include transportation, communications, energy, metallurgy, construction materials, machinery, chemicals, pharmaceuticals, medical equipment, environmental protection and electronics. However, new regulations effective in 2002 provide that state-owned land use rights may be awarded only through tender.

China encourages reinvestment of profits. A foreign investor may obtain a refund of 40% of taxes paid on its share of income if those profits are reinvested in China for at least five years. Where profits are reinvested in high technology or export-oriented enterprises, the foreign investor may receive a full tax rebate. Many foreign companies invested in China have adopted a strategic plan that reinvests profits for growth and expansion.

As part of a national campaign to standardize tax treatment and increase collection rates, the State Administration of Taxation began work in 1998 on a planned unification of tax treatment for foreign and domestic firms. Concerns over the impact of the Asian financial crisis and, later, China’s accession to the WTO led officials to delay the process. On several occasions in recent years, senior officials have announced the imminent reunification of tax rates or elimination of preferential tax treatment of foreign firms, but no definite action has occurred yet. Due to the need for National People’s Congress approval, which takes a minimum of three months, there would be some advance warning of a unification of the tax rates, and any such unification would likely grandfather previously issued incentives.

China's tax incentive system is complicated and difficult to implement. Discrepancies between central, provincial and local government tax regulations hamper foreign investment, and these problems are particularly acute in remote and impoverished areas. Still, initial efforts at reform are beginning to take effect. Collection efforts have been centralized and the responsibility for assessment and filing of returns was shifted to the taxed enterprise in late 1999. A computerized standard reporting and payment procedure has been progressively expanded nationwide to reduce overpayments and loopholes.

National Treatment: China has committed to grant national treatment as part of its accession to the WTO. Not all of the thousands of government officials understand this concept, however, and implementation is likely to pose periodic problems. China is conducting training programs to educate central and local government officials on China's WTO obligations.

Basic Laws and Regulations Covering or Affecting FDI: The basic laws and regulations governing FDI in China are complex. A summary of some of the most important of those currently in effect is provided below.

The Chinese central government is currently reviewing and revising all laws, rules, regulations, and implementing regulations for consistency with new WTO commitments. The Chinese government acknowledges that it will take more time to promulgate all the new and revised laws, regulations, and implementing regulations, but is officially committed to meeting China's WTO obligations.

Chinese laws are typically drafted broadly, requiring reference to regulations and even more detailed implementing regulations for practical application. Under the terms of its WTO accession agreement, China obligated itself to publish all trade related laws, regulations, and other measures in advance for comment prior to implementation, and this obligation should encompass many regulations affecting foreign investment.

A potentially significant recent development is the emergence of industry associations distinct from government agencies. While it is to early to make conclusive judgments, some foreign observers are concerned that FIEs might be barred from membership in some industry associations and thus be excluded from the self-regulatory and standards setting functions these groups aspire to carry out.

Laws Affecting Foreign Enterprise Establishment:

Forms of Foreign Ownership: In most sectors where foreign investment has been allowed, FIEs can exist as WFOEs, equity joint ventures (EJVs), cooperative (or contractual) joint ventures (CJVs), or foreign-invested companies limited by shares (FICLS). The foreigners must own at least 25% of a firm for it to be considered an FIE for purposes of investment incentives and other measures. Under China's Company Law, foreign firms theoretically can now also open branches in China, but in practice only foreign financial institutions, namely commercial banks and non-life insurance companies, can establish branches. Foreign investors with multiple investments may also be eligible to establish holding (investment) companies.

Investment in WFOEs is now the most popular FDI vehicle in China. The WFOE Law was originally promulgated in 1986, and the law and implementing regulations have been amended five times. The WFOE Law was amended most recently in October 2000 and amended implementing regulations were promulgated in April 2001. The 2001 revisions of the WFOE Law and implementing regulations (State Council Order No. 301) amended or deleted sixteen articles. The revisions eliminated requirements for foreign exchange balancing, struck requirements for domestic sales ratios, removed or adjusted technology transfer and export performance requirements, and modified provisions on domestic procurement of raw materials. Several former requirements remain “encouraged,” however.

Under the amended WFOE Law, China may reject an application to establish a WFOE for five reasons: (1) danger to China's national security, (2) violation of China's laws and regulations,(3) detriment to China's sovereignty or public interest; (4) nonconformity with the requirements of the development of China's national economy; and (5) danger of environmental pollution.

The "Law on EJVs" was amended in March 2001, and implementing regulations were amended in July 2001. EJVs had historically been the main organizational form of FIEs in China but have fallen out of favor as dissatisfaction grew with respect to choice of local partners and with board decisions, capital formation, dividend distributions and other matters. EJVs declined further as restrictions on WFOEs loosened. China had traditionally favored investment in JVs, in hopes of rescuing poorly performing domestic SOEs. The March 2001 amendments remove the requirements that FIEs balance their foreign exchange receipts and expenditures. Many joint-venture contracts still contain a clause requiring such balancing, but under the terms of China’s WTO accession such clauses are not to be enforced.

CJVs: The Law on CJVs was amended in October 2000. Although not requiring strict proportionality with respect to investment terms, return on capital, governance and dividend distribution, and thus more clearly resembling partnerships in the United States sense, CJVs have never been as popular as EJVs, in part because of investors' unfamiliarity with CJVs. The principal exception has involved infrastructure projects in which the foreign investor is allowed an early return on capital in consideration for relinquishing any claim to residual assets upon expiration of the CJV's term.

FICLS: FICLS are organized as shareholding companies in which foreign investors hold at least 25% of equity. They have been difficult to organize because of demanding regulatory preconditions and requirements for MOFTEC approval. They should become more popular as more Chinese companies organized as share companies establish market presence, reducing the benefit of forming joint ventures.

Branches: As stated above, branches in practice are permitted only in certain financial industries.

Representative Offices: Foreign firms may also establish representative offices in China, but these are prohibited from engaging in any profit-making activities. Foreign law firms, however, are allowed to operate only through representative offices and are an exception to the prohibition on profit-making activities.

Holding Companies: There has been some relaxation of the restrictions on business scope and operations of holding companies, although minimum capital requirements normally make them suitable only for corporations with several sizeable investments to manage. Distribution and trading functions of holding companies are scheduled to be phased in over a five-year period under WTO. However, some restrictions on services provided by holding companies and on their financial operations and ability to balance foreign exchange internally will remain even after full implementation of the WTO commitments. Profit and loss consolidation within holding companies is still prohibited.

Regulations and periodic updates on China's investment projects and conditions can be found on MOFTEC's website: www.moftec.gov.cn.

Other laws relating to investment include the following:

Contract Law: China's Contract Law went into effect on October 1, 1999. The NPC passed the Law to unify three earlier laws covering domestic economic contracts, foreign-related economic contracts, and technology contracts, and to address the rising use and complexity of contracts in China.

The new Contract Law moves China closer to international legal norms and to greater legal transparency. It encourages stronger contractual compliance by providing legal recourse - although enforcement of judgments will continue to be a problem. Certain contracts involving foreign firms (including those involved in establishing an FIE, many technology import contracts, and infrastructure project contracts) are still subject to government approval. Certain contracts, such as foreign loan contracts, other technology import contracts, and real estate contracts, must be registered but are not subject to approval requirements.

Securities Law: The Securities Law, effective on July 1, 1999, codifies and strengthens the administrative regulations that govern the underwriting and trading of corporate shares, as well as the activities of China's stock exchanges in Shanghai and Shenzhen. The Securities Law does not distinguish between SOEs and non-SOEs. In practice, however, few non-SOEs have been allowed to sell "A" shares. "A" shares are local currency shares. "B" shares, denominated in foreign currency, were originally for sale only to foreign legal persons and continue to be subject to separate administrative regulations. In February 2001, the authorities opened the "B" share market to Chinese citizens with legally obtained foreign currency holdings. Despite press reports indicating the "A" and "B" share markets will gradually be integrated, the exact timing of this move - which would be closely linked to changes in China's foreign exchange regime - remains unclear. The Chinese authorities are considering transitional arrangements such as the designation of "qualified foreign institutional investors" which could provide foreigners some access to the "A" share market without requiring full convertibility of the Chinese currency, which at present is freely convertible only on the current account.

Foreign-Invested Venture Capital Firms: With provisional regulations that took effect September 1, 2001, China permitted the establishment of foreign-invested venture capital firms, including WFOEs, but the firms are limited in scope to encouraged and permitted high-technology sectors. An April 2001 regulation barred securities firms (including foreign-invested firms) from the private equity business. Chinese laws concerning foreign private equity firms set limits on corporate structure, share issuance and transfers, and investment exit options. Investment exit problems, especially the difficulty of listing on China's stock exchanges, coupled with the bureaucratic approvals required to list overseas, have limited interest in establishing China-based private equity investment. As a result, most foreign private equity investments in China are actually housed in offshore investment entities, which, as with other offshore FDI, can be transferred without Chinese Government approval.

Tendering and Government Procurement Laws: Concerns over the WTO consistency of the draft tendering law led the National People's Congress, on April 9, 1999, to make a surprise announcement that it had decided to move key sections relating to government procurement into a separate law. The tendering law (which now governs only state administered capital construction and infrastructure projects) was finalized in 1999, and the State Council issued "Provisions for the Administration of Government Purchases." The NPC approved the new government procurement law in June 2002; the law takes effect January 1, 2003, replacing the "Provisions."

The new Government Procurement law (like its interim predecessor) establishes rudimentary criteria for the qualification of domestic and foreign suppliers and various categories of procurement, as well as broad standards for publicity, notification, bid scheduling, sealed bidding and bid evaluation. Initial foreign reactions to the new law have been mixed. The law is aimed at implementing one of China's WTO entry commitments by clarifying that purchases by SOEs do not constitute government procurement, thereby removing the bulk of commercial value from this procurement system. However, the legislation mandates domestic procurement unless the goods or services cannot be procured on reasonable commercial terms within China.

Investment Screening Procedures: Potential investment projects usually go through a multi-tiered screening process involving the foreign investment department (MOFTEC or a provincial equivalent). The process frequently also involves the development planning department (the State Development Planning Commission, SDPC, or a provincial equivalent) and the department responsible for the industrial sector of the project.

The first step is approval of the project proposal. The central government has delegated varying levels of approval authority to local governments. Until a few years ago, only the Special Economic Zones (SEZs) and open cities could approve projects valued at up to $30 million. Such approval authority has now been extended to all provincial capitals and a number of other cities throughout China. Most other cities and regions are limited to approving projects valued below $10 million. With certain exceptions involving areas such as municipal infrastructure projects, FDI exceeding these limits must be approved by MOFTEC and the SDPC. If an investment involves $100 million or more, it must also obtain State Council approval. The approval process for projects over $30 million has become less of an obstacle than in the past. Sometimes the political relationship between China and the home country of the foreign investor influences the approval process.

Research and Development: Poor links among government, university and industry researchers make it very difficult for China to efficiently utilize its many brilliant scientists and engineers. Much of China's top scientific talent is not in universities but in a government bureaucracy (the Chinese Academy of Sciences) modeled after the USSR Academy of Sciences. Young scientific and engineering talent often flows to the information industry and biotechnology sectors. Since the late 1980's, China has directed an increasing proportion of government research funds through peer review mechanisms at the National Natural Science Foundation of China (www.nsfc.gov.cn) and the Ministry of Science and Technology (www.most.gov.cn) in order to achieve better results from research funding. Some Chinese government programs such as "Torch" promote scientific research and its commercial applications, yet the investment return on research and development, especially in the state sector, remains low. The central and local Chinese governments have also strongly promoted science parks which, in actuality, often just serve as low-tech assembly centers.

Despite efforts since the early 1990's to push technical institutes towards the market, the political and economic structures of the old "planned economy" are still important obstacles. Lack of familiarity with intellectual property protections discourages Chinese companies from investing in research. Patent, copyright, and trademark infringement often prevent companies from recapturing their investment in product research and development. Furthermore, technology utilized by SOEs tends to lag far behind that of the growing private sector, in part because SOEs lack incentives to conduct research and development activities. There is a broad consensus among Chinese scientists and Chinese leaders that more reform and greater IPR protection are needed. China continues to reform its science and technology system in order to create incentives for innovation and to link science and technology research work more closely to the needs of the market.

Foreign companies' research and development centers in China have often focused on product localization. More recently, several companies, including Microsoft and Motorola, have established research centers in China. The Chinese government has welcomed the establishment of these centers although some Chinese critics worry that the centers will create an "internal brain drain" of talent away from Chinese companies and research institutions to foreign companies.

A.2. Conversion and Transfer (Foreign Exchange) Policies

In periods when foreign currency was relatively scarce in China, profits that were not generated in foreign exchange could only be repatriated with great difficulty. Since 1994, however, China's foreign exchange reserves have grown rapidly (over $230 billion in mid-2002), and FIEs have generally enjoyed liberal access to foreign exchange. On December 1, 1996, China announced the full convertibility of its currency on the current account (for trade in goods, services and remittance transactions, including profits). To prevent rampant fraud, in 1998 China tightened the scrutiny of underlying documentation. Bureaucratic procedures as authorities implemented the new regulations created difficulties for many foreign and domestic companies requiring hard currency to complete their transactions. Foreign bank branches are allowed to engage in foreign currency business according to the same rules as Chinese banks. Under the terms of China’s WTO entry, foreign bank branches and foreign-invested banks will become eligible to engage in local currency operations in stages over several years.

All FIEs in China are entitled to open and maintain foreign exchange accounts for current account and capital account transactions. In order to do so, an FIE must first apply to China's State Administration of Foreign Exchange (SAFE) for permission. After SAFE grants permission for the account, it establishes a limit, based on the FIE's anticipated foreign exchange operational needs, beyond which foreign exchange must be converted to local currency. Foreign representative offices and individuals may also open such accounts. No limits are placed on the amount such accounts can hold, though reports for transactions involving more than $10,000 must be filed by a bank. In general, the restrictions on FIE accounts are less onerous than for wholly Chinese-owned firms. Establishing foreign exchange accounts for capital account transactions involve more complex reporting and qualification requirements.

A.3. Expropriation and Compensation

Chinese law prohibits nationalization of FIEs, including investments from Hong Kong, Taiwan, and Macau, except under "special" circumstances. The Chinese government has not defined "special" circumstances" although officials claim that "special circumstances" include national security considerations and obstacles to large civil engineering projects. Chinese law calls for compensation of expropriated foreign investments but does not define the terms of compensation.

There have been no cases of outright expropriation of foreign investment since China opened to the outside in 1979. However, the State Department believes that there are several cases that may qualify as expropriations under Section 527 of the FY94-95 Foreign Relations Authorization Act.

A.4. Dispute Settlement

Arbitration: Although China is a member of the International Center for the Settlement of Investment Disputes (ICSID) and has ratified the United Nations Convention on the Recognition and Enforcement of Foreign Arbitral Awards (a.k.a. the New York Convention), it places strong emphasis on resolving disputes through informal conciliation and mediation. If it is necessary to employ a formal mechanism, most parties prefer arbitration to litigation. The authorities greatly prefer arbitration through institutions in China. Most foreign investors consider arbitration as a final option and have found it to be time-consuming and unreliable.

Most Chinese parties and form contracts propose arbitration by the China International Economic and Trade Arbitration Commission (CIETAC). During the past few years, some foreign parties have expressed satisfaction with and obtained favorable rulings from CIETAC. Difficulties in other cases have led several Western participants and panel members in CIETAC proceedings to raise concerns about CIETAC's procedures and effectiveness. In one instance, a respected American member of an arbitration panel threatened to resign from CIETAC over alleged procedural irregularities during consideration of a case. For contracts that involve a purely foreign party (i.e., not an FIE), offshore arbitration may be adopted. If CIETAC arbitration is chosen, a panel with a foreign arbitrator is also possible. Provinces and municipalities also have their own arbitration institutions. Some foreign investors have been favorably impressed with the Beijing Commission despite its lack of foreign arbitrators.

Enforcement of arbitral awards is sporadic. Sometimes, even when a foreign company wins in arbitration, the local court may delay or fail to enforce the decision. Even when the courts do attempt to enforce a decision, local officials often ignore court decisions with impunity.

There have also been investment dispute cases in which local authorities have intervened on the part of a Chinese company in a manner considered unfair and capricious by the foreign investor. For example, local courts have occasionally intervened to prevent the sale or transfer of foreign-owned assets, pending resolution of a commercial dispute between a foreign company and a Chinese company. In general, most cases have been resolved through negotiation between the commercial parties and/or intervention of central authorities.

Legal System: Chinese society is in transition from rule by man to rule of law. Most laws are general; details are specified in implementing regulations. Many foreign businesses report that Communist Party and government officials at times interfere in court decisions. China's top leaders undoubtedly play a major role in deciding sensitive political cases. China's legal system is civil law in origin but now includes some common law elements, although it places relatively less emphasis on legal precedent.

The 1979 "Organic Law of the People's Courts of the People's Republic of China" authorized establishment of economic courts at China's National Supreme Court and three levels of provincial courts. The economic courts are given jurisdiction over contract and commercial disputes between Chinese entities; trade, maritime, intellectual property and insurance; other business disputes involving foreign parties; and various economic crimes including theft, bribery, and tax evasion. In 1994, the lowest level of provincial courts started to try economic cases involving foreign parties. Foreign lawyers cannot act as attorneys in Chinese courts, but may observe proceedings informally. Over the past three years, the United States has been working with China on projects relating to commercial and economic law under the umbrella of the U.S.-China Joint Committee on Commerce and Trade.

Bankruptcy and Creditors' Rights: China's provisional bankruptcy law, passed in December 1986 and applicable only to SOEs, provides for creditors' meetings to discuss and adopt plans for the distribution of bankrupt property. The resolutions of creditors' meetings, which are binding on all creditors, are adopted by a majority of the attending creditors, who must account for more than half of the total amount of unsecured credit. Other laws govern bankruptcy by non-SOEs, but bankruptcy law as a whole is incomplete, inefficient, unprofessional, and subject to gross inequities.

Even Chinese officials contemplating broad enterprise reforms recognize the inadequacy of China's current provisional bankruptcy law. A unified enterprise "Bankruptcy Law" is in draft but is still in relatively rough form, in part because the authorities remain reluctant to address the social consequences of bankruptcy.

A major problem for Chinese commercial banks is the formal and informal constraints on liquidating the assets of non-performing SOE loans. Notably, local political leaders, through the ubiquitous apparatus of the Communist Party, continue to control or to influence not only the courts but also the state-owned banks themselves and can effectively block efforts to dispose of SOE assets. The failure of Guangdong International Trust and Investment Company (GITIC) in 1998 highlighted the need to develop specialized rules for non-bank financial institutions, which have since been promulgated. For the time being, however, the Office of the National Leading Group for Merger, Bankruptcy and Re-employment and the State Economic and Trade Commission (SETC) have the final say with regard to large industrial SOE bankruptcies.

In October 1995, China put into effect a "Security Law," the first national legislation covering mortgages, liens, pledges, and guaranties. The Law defines debtor and guarantor rights and provides for mortgaging of property, including land and buildings, as well as other tangible assets such as machinery, aircraft, and other types of vehicles. While some areas of the Law remain unclear - such as how the transfer of property under foreclosure is effected - the law represents an important step forward. Chinese commercial banks have successfully repossessed vehicles from delinquent borrowers. Banks may welcome foreign investors to take over nonperforming loans and the underlying collateral, but implementing regulations have yet to be promulgated.

A.5. Performance Requirements/Incentives

China has agreed to implement the Agreement on Trade-Related Investment Measures (TRIMs) upon WTO accession. China has committed to eliminate and cease enforcing trade and foreign exchange balancing requirements and local content and performance requirements. It has also agreed not to enforce contracts imposing these requirements. China has also committed to enforce laws or provisions relating to the transfer of technology or other know-how only if they are in accordance with WTO rules on protection of intellectual property rights (IPR) and TRIMS.

Export Performance Requirements: Export performance requirements are inconsistent with WTO principles. China has said it will not enforce export performance requirements in private contracts. However, in the past, MOFTEC and the State Development Planning Commission (SDPC) have strongly encouraged contractual clauses stipulating export requirements.

Local Content: Chinese regulations grant FIEs freedom to source inputs both in China and abroad, though priority is given to Chinese products when conditions are equal. Chinese regulations forbid "unreasonable" geographical, price, or quantity restrictions on the marketing of a licensed product. FIEs, thus, retain the right to purchase equipment, parts, and raw materials from any source.

Chinese officials, however, still encourage localization of production. Investment contracts often call for foreign investors to commit themselves gradually to increase the percentage of local content. In addition, officials carefully examine the sourcing of inputs at various stages in the approval process for FIES. Effective implementation of China's WTO commitments should affect this bias.

Technology Transfer: FIEs often involve the transfer of technology through a licensing agreement, the transfer of technology from a third party, or the transfer from the foreign partner as part of its capital contribution. China has committed to enforce only those laws or other provisions relating to the transfer of technology or other know-how if they are in accordance with WTO provisions on protection of IPR and TRIMS, including a prohibition on technology transfer as a condition to approval. Regulations promulgated in 2001 have generally improved the regulatory environment for foreign technology providers. Despite these commitments, foreign investors may still encounter pressure to transfer technology.

Employment of Host-Country Nationals: Rules for hiring Chinese nationals depend on the type of establishment. Although FIEs are not required to nominate Chinese nationals to their upper management, in practice, expatriate personnel normally occupy only a small number of managerial and technical slots. In some ventures, there are no foreign personnel at all.

The amended EJV Law provides that the joint venture partners will determine, by consultation, the Chairman and Vice-Chairman. If the foreign side assumes the chairmanship, the Chinese party must have the vice-chairmanship, and vice-versa.

While FIEs are free to recruit employees directly or through agencies, representative offices of foreign companies must hire all local employees under contract with approved "labor services companies." These foreign companies pay the contracted local employees' salary directly to the "labor services companies" that, in turn, give only a portion of the salary to the contracted employees. The employees remain technically employed by the labor services company.

A.6. Right to Private Ownership and Establishment

In the past, China restricted private ownership and establishment of business enterprises, particularly in the service sector. In 1999, China amended its constitution to provide a legal basis for private sector development. China has committed to reduce over time many restrictions on the private sector upon accession to the WTO. Nevertheless, some sectors - insurance, for example - will retain many restrictions, and some of these discriminate against foreign legal and natural persons.

A.7. Protection of Property Rights

Land: Chinese law provides that all land is owned by "the public," and individuals cannot own land. However, consistent with the policies of reform and opening to the outside, legal and natural persons, including foreigners, can hold long-term leases for land use. They can also own buildings, apartments, and other structures on land, as well as own personal property.

Intellectual Property Rights: Overview

Chinese leaders have acknowledged that protection of patents, copyrights, trademarks, and specialized intellectual property such as domain names and plant variety rights is needed to promote a "knowledge-based economy" in China. China has committed to full compliance with the Agreement on Trade-Related Aspects of Intellectual Property (TRIPS) upon accession to the WTO. China has strengthened its legal framework considerably, amending its patent law in 2000 and its trademark and copyright laws in 2001, as well as issuing judicial interpretations and other administrative regulations to make them more compliant with the TRIPS Agreement and international standards. In spite of steady, significant progress in improving its intellectual property legal and regulatory regime, IPR protection in China remains weak. Trademark and copyright violations are blatant and widespread. While Chinese officials are increasing enforcement efforts, IPR violations, including growing exports of counterfeit products, continue to outpace enforcement.

. Membership in International IPR Organizations:

China is a member of the World Intellectual Property Organization (WIPO), Paris Convention for the Protection of Industrial Property, Berne Convention, Madrid Trademark Convention, Universal Copyright Convention, and Geneva Phonogram Convention. China’s amended copyright law is not fully consistent with the WIPO Copyright Treaty and the WIPO Performances and Phonograms Treaty. The U.S. Government believes that China's signing these treaties would further indicate China's intent to provide a high level of IPR protection.

IPR Enforcement:

The United States recognizes the enforcement efforts that China has made to date, but the continuation of unacceptably high levels of piracy and counterfeiting require more effective and coordinated action. Enforcement of existing IPR regulations is uneven and is sometimes impeded by local interests.

Industry associations representing computer software, entertainment, and consumer goods industries report high levels of piracy and counterfeiting of all types of products. The Business Software Alliance estimates that more than 90% of business software used in China is pirated. Consumer goods companies report that, on average, 20% of their products in the Chinese marketplace are counterfeits. Chinese companies experience similar, or greater, problems with piracy and counterfeits.

While export of pirated copyrighted products has largely subsided, such products are still being produced locally and imports of pirated products from other economies continue to flood the Chinese market. The levels of optical media piracy (CDs, VCDs, and DVDs) in China remain at extremely high levels in the domestic market, and China remains a center for entertainment software piracy and the production of pirated cartridge-based video game products. In particular, end-user piracy of business software within the government remains largely unabated despite issuance of directives to government ministries to use only legitimate software. In addition, the piracy of journals and books is a significant problem that has only now begun to show some improvement. The counterfeiting of goods bearing American trademarks, including some well-known marks, by Chinese companies remains a major problem. Despite some enforcement efforts against such activities, large volumes of counterfeit goods, often of well-known products, continue to be produced and sold in China and to be exported to many other countries.

While industries report improved cooperation with administrative enforcement agencies in regard to raids, the administrative penalties for IPR violations, often no more than confiscation of the counterfeit products or nominal fines, are generally insufficient to deter counterfeiters. Very few cases are referred to criminal prosecution as the threshold for initiating criminal cases for IPR infringements remain very high. China’s criminal sanctions against IPR violations are seldom used, in part because of restrictions on types of admissible evidence and cumbersome procedures.

Combating IPR violations in China is a long-term, multifaceted undertaking. China has established special IPR courts in all provinces and major cities. Judges in Chinese courts are charged with fact-finding and have greater discretion in the adjudication of cases than those in the United States. However, the lack of legal training of many trial court judges undermines the effectiveness of these courts. The U.S. Government and U.S. companies have provided resources for training judges and other enforcement officials. Chinese authorities are attempting to address the lack of training of enforcement officials by establishing IPR law centers at Beijing University, Qinqhua University, and People's University. Chinese IPR professionals are also studying in foreign countries. The United States and the European Union have made IPR - and commercial dispute resolution - a key feature of "Rule of Law" discussions with Chinese authorities.

A.8. Transparency of the Regulatory System

China's legal and regulatory system lacks transparency and consistent enforcement despite the promulgation of thousands of regulations, opinions, and notices affecting foreign investment. Although the Chinese government has simplified the legal and regulatory environment for foreign investors in recent years, China's laws and regulations are still often ambiguous. Foreign investors continue to rank the inconsistent and arbitrary enforcement of regulations and the lack of transparency as two major problems in China's investment climate. No prospective foreign investor should venture into the China market without due diligence and professional advice.

In accordance with China's WTO commitments, the State Council's Legislative Affairs Office recently has stated that all of China's foreign trade-related and foreign-investment related laws, regulations, rules, and policy measures would be published. It further announced that China would use "proper ways and means" to help other WTO members and other pertinent individuals and enterprises understand those rules and regulations. The Legislative Affairs Office acknowledged that, in the past, some departments and localities relied on their own internal documents to conduct business. Some even issued documents under their own "internal control" and resorted to "disguised forms of market blockades" and local protectionism. The State Council has announced that it is committed to stopping such practices in order to avoid international disputes.

Chinese Government agencies have also began to publish trade-related regulations in draft for public comment, including comments from foreigners. This process, required by China's WTO accession agreement, is still in its early stages. Comment periods are sometimes extremely brief, and it is not always clear how much impact public comments have on the final regulations. Not every regulation has been released for public comment, and China still lacks a single source for such public releases of draft documents, along the lines of the U.S. Federal Register. Also, comments by interested parties do not become part of a public record.

A.9. Capital Markets and Portfolio Investment

The development of China's domestic capital markets has not kept pace with economic needs. Two stock exchanges have been established in Shanghai (in November 1990) and in Shenzhen in southern China's booming Guangdong Province (July 1991). Other regional "securities exchange centers" have been closed by the China Securities Regulatory Commission (CSRC). The Securities Law took effect in June 1999. The Law includes tougher penalties for insider trading, falsifying prospectuses and financial reports, and other forms of fraud. The CSRC lacks experienced personnel and has turned to the United Kingdom and other countries for more training. China's stock markets are gradually adopting accounting standards closer to those in use in other markets.

Although FIEs, in theory, may apply for permission to raise capital directly on China's stock and bond markets, the approval process is difficult. In the case of shares, the CSRC has indicated that it plans to treat FIEs the same as domestic firms.

The state banking sector dominates China's capital markets and in the past generally channeled funds to SOEs on the basis of public policy rather than market considerations. Other domestic firms must find different sources of financing, including direct investment, gray-market sales of stock, and borrowing from other firms or non-bank institutions.

China's progress in reducing political interference in the banking system has been mixed. With the creation of three policy banks in 1994 - the Import-Export Bank of China, the China Development Bank (formerly the State Development Bank of China), and the Agricultural Development Bank - China attempted to make a clear division between policy and commercial lending. The government has directed these policy banks to lend to commercially unattractive endeavors such as infrastructure development and government agricultural procurement. The authorities, meanwhile, have encouraged China's commercial banks to improve their loan portfolios by increasing the proportion of their lending to small and medium-sized enterprises, including private firms. Lending to individuals for housing mortgages, purchase of consumer durables, and education expenses has also increased. Nevertheless, China's commercial banks, most of them state-owned, continue to carry a heavy percentage of non-performing assets. - with unofficial estimates ranging from 40% to 50% of the total. Large SOEs continue to receive the bulk of commercial bank lending, although local financing of FIEs is becoming more widely available.

In 1998, the authorities - alarmed by the Asian financial crisis - took steps to reduce financial risk in the banking system. The People's Bank of China (China's central bank) reorganized its regulatory structure along regional lines, and the Communist Party created its Central Financial Work Commission primarily to oversee the selection of managerial personnel in the country's financial institutions. Both measures effectively reduced the influence of local political leaders over credit decisions, a major cause of China's abundance of non-performing loans. In 1999, the government also set up four asset-management companies to take over a portion of the bad loans issued by the main state-owned commercial banks in order to help them meet international capital adequacy standards. Most observers believe it will take many years for China to re-capitalize its banks along international lines.

Foreign firms that need working capital, whether foreign exchange or local currency, may obtain short-term loans from China's state-owned commercial banks. However, priority lending is often given to investments that bring in advanced technology or produce goods for export. Since 1998, Chinese interest rates have generally been lower than overseas, making it more attractive to explore onshore financing. Foreign-invested firms, like domestic firms, must register all foreign loans with the State Administration for Foreign Exchange (SAFE). Along with the People's Bank of China, SAFE regulates the flow of foreign exchange into and out of China.

In 1996, qualifying foreign bank branches in the Pudong area of Shanghai were allowed to engage in local currency business for the first time although this was mainly limited to providing services to FIEs. In 1998, China expanded local currency business to foreign banks based in Shenzhen and widened their client base to include several nearby provinces (Zhejiang and Jiangsu for Shanghai; Guangdong, Guangxi, and Hunan for Shenzhen). Under the terms of China's WTO accession protocol, China committed to end all geographic restrictions on business by foreign banks by January 1, 2005. As of January 1, 2002, the authorities have begun to broaden the geographical base for issuing RMB business licenses.

A.10. Political Violence

Corruption, SOE layoffs, and economic disparities between rural and urban areas and between coastal and interior regions have fueled resentment among segments of the Chinese populace. As China continues to restructure SOEs and makes the difficult and still incomplete transition to an entirely new social security system, unemployment and other social pressures have risen. As a result, urban worker protests have increased. Most of these have been fairly small and resolved peacefully. However, some protests have been large and persistent, such as those by thousands of workers in China’s northeastern provinces in March and April 2002. As in years past, there were a number of isolated violent actions by disgruntled individuals - in some cases motivated by personal rather than political reasons - who damaged public buses, markets, and railroad tracks. More worrisome, though still relatively rare, were incidents of worker violence against owners or managers. Declining rural incomes have contributed to protests by farmers in rural areas. Local authorities have generally dealt with urban and rural protests in a peaceful manner and have not resorted to violence.

Following NATO's mistaken bombing of China's Belgrade embassy in 1999, violent protests erupted at U.S. diplomatic facilities and a few American fast-food franchises throughout China. Soon after the bombing, government-controlled media discouraged protests or acts of violence against foreign investors. Most foreign investors in China believe that the chances of political violence are low because the government is able and willing to repress any sizeable anti-government protests.

A.11. Corruption

Corruption remains widespread in China. Although the government launched a high profile anti-corruption campaign, these efforts are hampered by the lack of truly independent investigative bodies. Numerous senior provincial and municipal officials came under scrutiny, but there are widespread reports that more senior officials and their family members used their connections to avoid prosecution. Banking and finance are among the sectors most afflicted by corruption, as are government procurement and construction projects. Premier Zhu Rongji has criticized corruption in the construction industry because of the safety hazards created by shoddy construction.

Offering and receiving bribes are both crimes under Chinese law. Bribes cannot be deducted from taxes. Based on surveys reported in the Western media and views expressed by foreign business people and lawyers in China, it is clear that U.S. firms consider corruption in China a hindrance to FDI.

Three different government bodies and one Communist Party organ are responsible for combating corruption in China: the Supreme People's Procuratorate, the Ministry of Supervision, the Ministry of Public Security, and the Communist Party Committee for Discipline Inspection. The Procuratorate and the Ministry of Public Security are responsible for investigating criminal violations of China's anti-corruption laws, while the Ministry of Supervision and the Party Discipline Inspection Committee enforce Government ethics and Party discipline.

The United States has provided some enforcement-related anti-corruption training to Ministry of Public Security, Ministry of Supervision, and Supreme People's Procuratorate officials. NGOs such as Transparency International are also exploring opportunities for cooperative programs to reduce corruption.

B. Bilateral Investment Agreements

China has entered into bilateral investment agreements with at least 94 countries, more than any other developing country, according to the UN Conference on Trade and Development. Agreements have been signed with Japan, Germany, the United Kingdom, France, Italy, Thailand, Romania, Sweden, the Belgium-Luxembourg Economic Union, Finland, Norway, Spain, Canada, Austria, and others. The provisions of these agreements cover such issues as expropriation, arbitration, most-favored-nation treatment, and transfer or repatriation of proceeds.

The United States does not have a bilateral investment treaty with China, although the two governments did sign an agreement on investment guaranties that entered into force October 30, 1980. Any American investor investing in China should make sure that expropriation and arbitration are covered in the terms of the contract.

C. OPIC and Other Investment Insurance Programs

In the past, OPIC had a very active program in China. The United States has suspended OPIC's program in China since the Tiananmen Incident in June 1989, first by Executive Order, and then by the legislative sanctions that took effect in February 1990. OPIC continues to honor outstanding political risk insurance contracts. At the end of 1990, 31 U.S. investments with approximately $300 million had OPIC political risk insurance. OPIC programs remain suspended in China due to U.S. foreign policy concerns, the terms of the sanctions legislation enacted, and the need for improved worker rights.

Although OPIC insurance is unavailable, the Multilateral Investment Guarantee Agency (MIGA), an organization affiliated with the World Bank, can provide political risk insurance for investors interested in investing in China. Some foreign commercial insurance companies also offer political risk insurance, as does the People's Insurance Company of China (PICC). Foreign political risk insurers have noted a decline in the past couple of years in new business in China. One possible explanation is that the political turmoil elsewhere in China in the wake of the Asian financial crisis reduced the perception of risk with respect to China.

D. Labor

Labor Availability: FIEs can integrate a joint venture partner's work force, hire through a local labor bureau or job fair, advertise in newspapers, or rely on word of mouth. Representative offices must hire their local employees through a labor services agency.

Skilled managers, especially those with marketing skills, are often in short supply although many companies have found an abundance of talented and highly-motivated recent university graduates. Experienced managers in FIEs command salaries far greater than their counterparts in Chinese enterprises, making localization an increasingly expensive proposition for many companies. Finding and keeping engineers and technicians can also be difficult. Shortages of skilled labor are, at times, especially acute in south China due to the relative dearth of higher learning institutions in that region. Many Chinese workers move rapidly from job to job within the foreign-invested and growing private sectors.

Compensation:

Workers are paid a salary, hourly wages, or piece-work wages. The provision of subsidized services, such as housing and medical care, is common, and compensation beyond the basic wage constitutes a large portion of a venture's labor expenses. With recent moves by China to reform the housing system and promote home purchases through a mortgage system, employer-provided housing has been decreasing. However, enterprises that merge with existing SOEs may still be required to provide workers dormitory housing. New enterprises, rather than providing housing, pay into a housing fund that may amount to as much as 10% of payroll. Because regulations on non-wage compensation differ by locality, investors should check the regulations in the relevant locality.

Local governments also require enterprise and worker contributions to pension and unemployment insurance funds. Tax rates for pension funds may run as high as 20% of an enterprise's total wage bill. Employees must also contribute between 3% and 8% of their salary, depending on the locale. In general, FIEs ventures are free to pay whatever wage rates they choose as long as it is above the locally-designated minimum wage. In practice, income-tax laws often make it desirable to provide greater subsidies and services rather than higher wage rates. Most FIES determine their methods and calculations of salaries and benefits after observing local practice. China's national labor law also requires compensation for overtime work.

Termination of Employment: The ability to terminate workers varies widely based on location, type, and size of enterprise. Terminating individual workers for cause is legally possible but may require prior notification/consultation with the local labor bureau and labor union. In general, it is easier to fire in southern China than in the northeast, and in smaller enterprises than in larger ones. FIEs generally do not encounter problems letting workers hired on short-term contract go at the end of the contract period. However, enterprises that take on workers from SOEs usually find it difficult to terminate these workers. Investors should be aware that large-scale layoffs from long-established SOEs have created some tension, and prompted some demonstrations by Chinese workers, and even led to violence in a few cases, though not to a degree that threatens social stability.

Worker Rights: It is illegal under Chinese law to oppose efforts to establish officially-sanctioned unions. Amendments to the Trade Union Law, passed in 2001, provide tougher legal sanctions for anti-union activity. The amendments are widely perceived as strengthening unions’ organizing activities in the private sector, including FIEs, where they have been underrepresented. However, these amendments do not require establishment of unions in these enterprises. The Communist Party controls the country's sole officially recognized workers' organization, the All-China Federation of Trade Unions (ACFTU). Independent trade unions are illegal. FIEs without unions often have worker organizations that perform functions similar to Chinese unions, such as organizing social and charitable activities.

China's Labor Law provides for collective labor contracts to specify wage levels, working hours, working conditions, and insurance and welfare. Most collective negotiations, however, appear to be pro-forma in nature. This is because local Communist party committees, rather than the workers themselves, control the selection of the union leaders who conduct collective bargaining.

Although China is a signatory to several ILO conventions, it has not signed key ILO conventions on freedom of association and collective bargaining. In 2001, China ratified the International Covenant on Economic, Social and Cultural Rights, but reserved on the issue of freedom of association.

E. Foreign-Trade Zones/Free Ports

China's principal duty-free import/export zones are located in Dalian, Tianjin, Shanghai, Guangzhou, and Hainan. In addition to these officially-designated zones, many other free trade zones offering similar privileges exist and are incorporated into economic development zones and open cities throughout China. However, restrictions and charges often apply and can affect venture operations and business in the latter zones.

China's General Administration of Customs claims success in controlling the duty-free importation of production inputs into the zones, but the lack of physical barriers makes it difficult to control the flow of non-duty items out of the zones.

Investment Statistics

The Ministry of Foreign Trade and Economic Cooperation (MOFTEC) produced the data below. The statistics on utilized investment are based on required reporting by FIEs of committed capital. Cumulative values are simple totals of data collected each year. As such, they are based on historical costs, not adjusted for inflation, do not take into account divestment, nor do they reflect investment stock. More sophisticated data on foreign investment is not currently available in China. However, MOFTEC has been working with the Organization for Economic Cooperation and Development, the International Monetary Fund, and the UN Conference on Trade and Development (UNCTAD) on ways to improve statistical gathering and computation

China's FDI data include investment from Hong Kong and Macau, which are special administrative regions (SARs) of China, as well as from Taiwan. Many mainland companies invest via Hong Kong and Macau subsidiaries in order to obtain investment incentives, such as tax breaks, which are available only to foreign investors. Analysts estimate that mainland Chinese funds flowing through Hong Kong account for 10-30% of Hong Kong's total realized FDI in China. Further skewing Hong Kong and Macau statistics, many Taiwan firms invest in the mainland via these SARs in order to avoid the scrutiny of the Taiwan authorities. Indeed, some observers estimate actual FDI inflows from Taiwan at two to three times the $29.1 billion formally recorded by China.

China records FDI contracts and reports these data regularly. "Contracted FDI" correlates only very weakly with FDI actually utilized and has proven a misleading indicator of future FDI inflows. Contracted FDI is also not comparable with data from other major developed and developing economies, which generally do not collect or publish such data. Consequently, contracted FDI figures are not reported here.

Table 1 -- Utilized Foreign Direct Investment in China from All Sources (1979-2001) (In $ Millions)

Year	Utilized FDI
1979-82	1,769
1983	916
1984	1,419
1985	1,956
1986	2,244
1987	2,314
1988	3,194
1989	3,393
1990	3,487
1991	4,366
1992	11,008
1993	27,515
1994	33,767
1995	37,521
1996	41,726
1997	45,257
1998	45,463
1999	40,319
2000	40,714
2001	46,878
Total	395,226

Source: Ministry of Foreign Trade and Economic Cooperation State Statistical Bureau.
Note: Yearly figures do not sum exactly to total due to rounding.

Table 2 -- U.S. Utilized Foreign Direct Investment in China (1979-2001) (In $ Millions)

Year	Utilized FDI
1979-82	13
1983	5
1984	256
1985	357
1986	326
1987	263
1988	236
1989	284
1990	456
1991	323
1992	511
1993	2,063
1994	2,491
1995	3,083
1996	3,443
1997	3,239
1998	3,898
1999	4,216
2000	4,384
2001	4,433
Total	34,466

Source: Ministry of Foreign Trade and Economic Cooperation State Statistical Bureau
Note: Yearly figures do not sum exactly to total due to rounding.

Table 3 -- China's Utilized and Cumulative Foreign Direct Investment by Selected Source Economy for 2001 and as of 2001 (In $ millions)

	Utilized FDI	Cumulative FDI
Hong Kong	16,170	187,014
Virgin Islands	5,042	18,270
United States	4,433	34,466
European Union	4,183	29,580
Japan	4,348	32,150
Taiwan	2,980	29,140
Korea	2,152	12,478
Singapore	2,144	19,136
Germany	1,213	7,066
Cayman Islands	1,067	2,624
United Kingdom	1,052	9,800
Total (All Sources)	46,878	395,223

Source: Ministry of Foreign Trade and Economic Cooperation
Note: Cumulative figure for the European Union is reflects 1986-2001 data only and includes German and UK FDI.

Table 4 -- China's Utilized Foreign Direct Investment by Sector (In $ Millions)

	Utilized FDI	Change from 2000 (%)
	2001
Agriculture, Forestry,	899	33.0
Animal Husbandry, and Fisheries
Mining	811	39.1
Manufacturing	30,907	19.6
Utilities	2,273	1.4
Construction	807	-10.8
Management	10	N/A
Transport, Warehouse, Postal and Telecom Services	909	-10.2
Wholesale and Retail Trade and Food Services	1,169	36.2
Banking and insurance	35	-53.9
Real Estate	5,137	10.3
Social Services	2,595	18.8
Health Care, Sports and Social Welfare	119	12.3
Education, Culture, Arts, Radio, Film and TV Industry	36	-33.3
Scientific Research and Computer Technical Services	120	110.5
Others	1,051	-27.7
Total	46,878	14.9

(Percentages may not be exact due to rounding.)
Source: Ministry of Foreign Trade and Economic Cooperation
Note: MOFTEC's FDI statistics do not fully capture financial services investment.

Table 5 -- Role of FDI in China's Economy(in $ millions)

	2001	%Change	%of 2001 National Figures
FIE-Generated Industrial Value Added	66,220	24.2	24.6
FIE-Generated Exports	125,863	7.3	51.7
FIE-Generated Imports	133,235	11.5	50.1
FIE-Generated Tax Revenues	288,300	30.0	19.0
2001 FDI inflows/GDP	-	-	0.04
2001 FDI stock/GDP	-	-	34.1

Source: Ministry of Foreign Trade and Economic Cooperation National Bureau of Statistics
Note: "Stock" is actually a cumulative total of historical inflows, not necessarily current stocks.

Table 6 -- Chinese FDI Outward Flows and Stock, 1997-2000 $ Billions

Year	Outflow	Outward Stock
1997	2.6	24.1
1998	2.6	26.7
1999	1.8	24.9
2000	2.3	27.2

Source: UNCTAD

Major U.S. Investors in China:

Motorola ($3.4 billion) -- Motorola is the largest U.S. investor in China. Facilities include a $1.9 billion semiconductor plant in Tianjin and a telecom equipment manufacturing facility in Hangzhou.

General Motors ($2 billion) -- includes $1.6 billion Shanghai GM joint venture, $135 million Jinbei GM joint venture (Liaoning), $100 million SAIC-Wuling joint venture (Liuzhou), and other ventures.

GE ($1.5 billion) -- GE's China operations include medical equipment, plastics, lighting, industrial equipment, aircraft engines, airplane leasing, capital services and transportation systems. GE recently opened a new research and development center in Shanghai.

ExxonMobil (over $1.2 billion) - ExxonMobil recently signed an agreement to participate in the West-East gas pipeline project with an investment of approximately $750 million over existing investments. ExxonMobil had already invested in a number of individual energy projects and in the IPO of Sinopec Corp. The bulk of this investment is in production-sharing contracts for upstream oil development, as well as refining projects.

Kodak ($1.2 billion) -- Kodak opened sensitizing facilities in Xiamen and Shantou in June 2000. Other Kodak investments include equipment manufacturing including digital cameras and photochemicals.

Coca-Cola ($1.1 billion) -- Coca-Cola operates 28 bottling plants throughout China. In April 2000, the Coca-Cola company and the China National Cereals, Oils, and Foodstuffs Import and Export Corp. (COFCO) signed a joint venture agreement to establish COFCO Coca-Cola Beverages Ltd., the first Chinese majority-owned bottling operation in Coca-Cola (China). The joint venture plans to invest $150 million in China within the next five years.

DuPont ($600 million) -- DuPont has seven wholly-owned manufacturing facilities and thirteen joint ventures throughout China. Its facilities manufacture a wide range of products including nylon, polyester, fibers, nonwoven fabrics, etc.

United Technologies Corporation ($450 million) -- Several of UTC's subsidiaries have established operations in China, including Otis Elevator, Carrier, UT Automotive, Turbo Power Systems, and Pratt and Whitney.

Intel ($500 million) -- Includes $198 million in assembly/testing facility in Pudong and another $302 million in 2001 to expand facility.

IBM ($420 million) -- Includes $300 million organic chip packaging base in Shanghai and $17.5 million in Beijing Jinchangke International Electronics Co. with Great Wall Computer Shareholding Corp.

Pepsi ($400 million) -- Pepsi has established more than 30 JV plants in China.

Alcoa ($300 million) -- Alcoa currently has invested in five JVs in China. Also, Alcoa is currently in negotiations to invest another $450 million in an aluminum hot rolling mill project and the purchase of an aluminum extrusion company.

Ford ($250 million) -- Ford has several facilities in China producing auto parts, light vehicles, and trucks.

Hewlett-Packard ($100 million) -- Hewlett-Packard has established manufacturing facilities for personal computers and printers in Shanghai and elsewhere in China.

Cummins ($130 million) -- Cummins has established seven factories with Cummins ownership producing eight engine families, turbochargers, filters, generators, and gensets. Cummins moved its East Asia regional headquarters to Beijing in 1997 and has current sales of $400 million in the region.

Note: A significant portion of the $34.5 billion in cumulative FDI inflows from the United States was made by firms that have since changed hands through corporate M&A outside of China. The largest of these is BP, with $3.5 billion in FDI and $1 billion in portfolio investments in Sinopec and other companies. BP and its heritage companies have been in China since the 1970’s. UK shareholders currently own an absolute majority of BP, according to company documents.