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Spend some time in the southern Chinese coastal city of Shenzhen, and you’ll find a cosmopolitan, wealthy and technologically advanced city on par with any developed world business hub – and that includes its sophisticated neighbor just to the south, Hong Kong. With its gleaming towers, bustling stock exchange, and more than 10 million inhabitants, Shenzhen has become a major financial center and one of the fastest growing cities in the world. Shenzhen is also home to some of the most successful Chinese tech companies such as Huawei, ZTE, and Tencent, as well as being one of the largest container ports in the world.

Shenzhen citscape at night , view from Hong Kong countryside. Photo source: Adobe stock
Shenzhen cityscape at night , view from Hong Kong countryside. Photo source: Adobe stock

This modern metropolis would be entirely unrecognizable however from the Shenzhen you would have found just a few short decades ago.  The Shenzhen of the 1980s was, for all intents and purposes, a small fishing village inhabited by perhaps 30,000 hearty souls, eking out a living barely above the subsistence level.  Where today you find futuristic skyscrapers and jam-packed highways, you would have found little more than drab low-rise buildings two or three stories in height, transportation by foot or bicycle, and muddy farm fields.

What accounts for Shenzhen’s amazing transformation?  The answer could not be more straightforward:  The decision by the Chinese government to open Shenzhen to foreign direct investment.

The pivotal year was 1979. The developmental gap between China and the West had grown so immense that China’s leaders recognized the need to embark upon a reform and opening-up program in order to jump-start the country’s economic development.  Attracting foreign direct investment was job number one. The first major initiative was to set up Special Economic Zones (SEZs) in Shenzhen and three other cities. Given its proximity to highly internationalized Hong Kong, Shenzhen was a natural choice.

The idea was simple enough. The SEZs would be given unprecedented flexibility to loosen labor laws and price controls, permit Sino-foreign joint ventures, openly tender infrastructure contracts, and provide tax benefits and other forms of preferential treatment to FDI-providers. The hope was to draw in foreign companies – at the onset, principally from Hong Kong – in order to build out the needed infrastructure, and develop a light manufacturing sector and a viable export capacity.  Hong Kong companies were especially important because of their strong cultural connection to the mainland as well as their experience, contacts and savviness in international commerce.

The SEZ strategy proved to be immensely effective.   By taking a gradual, step-by-step approach to reform and greater openness towards FDI, Chinese officials were able to experiment in a controlled environment. When the ingredients were just right, additional reforms and opening could be undertaken, once again making adjustments and calibrations as experience dictated.

The long range goal of course was to eventually introduce the “tried and tested” reforms from the SEZs to wider and wider swaths of the Chinese economy — once the kinks had been worked out and the impacts of FDI could be better gauged.

The cause of reform was given a further boost in 1992, with Deng Xiaoping’s famed “Southern Tour”, which solidified the centrality of FDI and hastened the pace of reform, helping to push Shenzhen even further up the development ladder. The emphasis began to shift during these years from export processing to high technology, and FDI was often conditioned upon technology transfers to local partners and commitments to undertake more and more research and development locally. The Shenzhen High-Tech Industrial Park was established in 1996, and attracted a number of leading international firms such as Intel, IBM, Toshiba, and Samsung.

As Shenzhen was growing by leaps and bounds, much of its physical infrastructure and housing was being delivered through FDI. The Central Government and local government invested only 1.4% and 13.1% respectively of the funds used for the physical development of Shenzhen from 1980 to 1990. Much of the rest was provided by FDI partners, principally from Hong Kong.  If there is any city in the world that can be said to have been built – in both literal and figurative terms – by FDI, it is Shenzhen.

The full picture however is only now coming into sharper focus. In a forthcoming book on FDI in China, “Developing China: The Remarkable Impact of Foreign Direct Investment”, Professor Michael Enright has been able to quantify – for the first time – the full impact of FDI on China’s historic economic rise. Professor Enright’s groundbreaking economic impact analysis includes case studies on several Chinese cities, among them, Shenzhen. The findings are remarkable.

Start with some of the most basic points: The sheer size and volume of FDI into Shenzhen is breathtaking. By the end of 2014, Shenzhen had attracted more than 58,000 foreign invested projects, with a utilized value of $65 billion. The impact of this FDI on Shenzhen’s economy would be hard to overstate. Historical and ongoing FDI and foreign invested enterprises accounted for roughly 41 percent of Shenzhen’s GDP, 42 percent of its employment, and 48 percent of exports in 2013. The trade performance of Shenzhen’s FIEs accounted for a whopping one-fifth of the city’s GDP. As if these figures were not amazing enough on their own, it should be noted that they do not include the service sector or the various spillover benefits that FDI typically brings such technological transfers, greater managerial expertise, and increased productivity.

The figures for several key industry sectors are even more extraordinary, with FIEs accounting for all or nearly all revenue in areas such as the production and supply of gas (100%), the processing of petroleum (97%), the manufacture of automobiles (81%), and the manufacture of general purpose machinery (78%).

The Shenzhen experience with FDI is not only striking but also highly instructive.  Chinese officials essentially used Shenzhen as a laboratory in which to run real-world experiments on the attraction, management and impact of FDI. The results – and implications – of these experiments are entirely evident for all to see. When properly managed, FDI can be nothing short of transformative for developing economies.   Shenzhen’s astonishing transformation from sleepy fishing village to global metropolis tells this story both eloquently and convincingly.

AuthorStephen Olson – Research fellow at the Hinrich Foundation.
Follow Stephen Olson on Twitter @StephenOlsonHF