Tuesday, December 06, 2005
Round-tripping in China and India
One attempt to account for the contrast in the performance of China v. IndiaThis follows my earlier post on the extent to which China has been more successful in attracting FDI than India. Such a contrast in performance can be explained by a number of factors, some of which would include the role of the diasporas –far more business-oriented in China- and the timing and extent of liberalisation policies that were implemented in both countries.
Before touching upon these important issues, we first need to look at what makes official FDI statistics in both countries. And it is very much a case of comparing apples with pears!
Round-tripping
Particular attention has been drawn to the double counting of investments coming out of China, through Hong Kong, and back into China, in search of tax breaks – money that is double-counted in FDI terms, in both Hong Kong and China, when in reality it is not strictly speaking ‘foreign’ at all. This phenomenon, known as “round tripping”, is explored in Wei’s paper. Round tripping can take many forms such as under-invoicing exports, over-invoicing imports, and overseas affiliates of Chinese companies borrowing funds or raising capital in the stock market and reinvesting them in China. Evidence of round tripping can be found in the destination of China’s FDI outflows. Chinese outflows to Hong Kong rose sharply in 1992 as did Hong Kong’s outflows into China! Hong Kong’s share of China’s FDI inflows has been declining since 1992. The decline continued after 1997 when Hong Kong was handed over to China. Meanwhile, inflows from overseas tax heavens such as the British Virgin Islands, Bermuda and Cayman Islands have been on the rise and make up for the declining contribution of Hong Kong. The 10 largest sources of FDI into China include Hong Kong, Virgin islands, Samoan and Cayman islands.
Wei mentions a number of studies, and it appears their magnitude varied considerably from 7% of total FDI inflows to 37%. The most recent estimate is from the World Bank, and they estimate that between 20 and 30% of FDI in China was due to round-tripping.
However, even after adjusting for round-tripping, China is still far ahead of India in FDI. In 2003, China’s FDI (inflows) were $40 billion. If 25% of that amount was down to round-tripping, China’s inflows still amounted to 10 times those for India.
Another element that distorts the figures is that round-tripping takes place in India too! Wei says that in terms of shares, FDI from Mauritius into India is like FDI from Hong Kong into China. Mauritius has been the dominant source of FDI inflows into India since 1995., In 2001-2002, Mauritius accounted for 60% of total FDI inflows into India.
It appears that most investments from Mauritius to India are affected through Mauritius Offshore Companies (MOCs) which are special purpose vehicles best suited to foreign investors wishing to utilize Mauritius as an investment platform benefiting from its network of double taxation treaties.
The Reserve Bank of India was reported to have found that the percentage of round tripping in total FDI inflows was “almost insignificant”. Wei suggests a percentage as low as 2 to 3% of FDI inflows.
What makes an FDI?
There are also more technical issues concerning what are and are not included in the FDI figures in India and China. The Economist says ‘many economists argue that its [China’s] growth figures overstate the truth by one or two percentage points’. The Economist also cites Srivastava, writing in the Economic and Political Weekly, offering a radical reinterpretation of the FDI figures. Technically, both Chinese and Indian FDI statistics are not comparable. This is because India’s definition of FDI does not include any of the 12 elements that make up for the IMF’s definition of FDI –with the exception of equity capital reported on the basis of issue/transfer of equity/preference shares to foreign direct investors.
The IMF definition of FDI includes equity capital, reinvested earnings of foreign companies, inter-company debt transactions, short-term and long-term loans, financial leasing, trade credits, grants, bonds, non-cash acquisition of equity, investment made by foreign venture capital investors, etc. India’s definition of FDI only comprises equity capital. China’s definition includes all 12 elements! UNCTAD’s statistics show that in 2000-2001, foreign affiliates’ reinvested earnings accounted for one third of all China’s inflows. China also classifies imported equipment as FDI while India captures these as imports in the trade data.
Efforts are taking place to align India’s definition of FDI with the IMF’s. Under the previous definition, India’s reported inflows amounted $2.57 billion in 2002-3, compared with $3.91 billion the year before. Under the revised norms, these figures are boosted to $4.66 billion in 2002-3, and $6.13 billion in 2001-2. These -more comparable- figures are still about one tenth of those reported in China. Whatever you do with the figures, important differences seem to remain. So we need to look elsewhere for proper explanations.
A third response is to try to explain the disparity in objective terms. Why is China growing faster than India? Why is China more attractive to foreign investors than India? Our earlier paper focused on these very questions. Forget the numbers, as the disparities remain whatever the way you look at the India v. China comparison. These questions provide fruitful grounds for discussion, and have been extensively discussed by Balasubramanyam and Mahambare (2003). These will be discussed next.
Copyright Nicolas Forsans - James E. Lynch India & South Asia Business Centre (ISABC), Centre for International Business, Unlversity of Leeds (CIBUL), Maurice Keyworth Building, Leeds LS2 9JT, England
