The Role of Transnational Corporations in the National Innovation Systems – The Case of China Li Yanhua Graduate University of Chinese Academy of Sciences,

The Role of Transnational Corporations in the National Innov

ation Systems – The Case of China

Li YanhuaGraduate University of Chinese Academy of Sciences,

Beijing, China

August 20, 2009

Opening-up and Innovation: China is Facing Opportunities and Challenges

• Hot topics in China, which may be or will be confronted with by other LDCs

– Be more open or be more self-reliance?

– How to develop from economic growth-oriented country to innovation-oriented country?

– How transnationals have played and will play in the technology innovation of domestic firms?

– How to cope with the opportunities and challenges under globalization?

Objectives

• This paper:

– Focus on the role of TNCs in China national innovation systems, including recent evolution and perspectives.

– Give some implications for policymakers of large and fast growing economies.

Outline

The position and evolution of TNCs

The local factors affecting innovation by TNCs and local enterprises

The spillover of TNCs and linkages with local enterprises

Out-forward FDI and domestic TNCs

Conclusions and implications

1

2

3

4

5

Analytical framework and evolution of China’s NIS

6

Analytical Framework

GovernmentInstitutional Arrangem

ent

Local Firms

Foreign subsidiariesMultinational R&D

Universities

Domestic R&D

Intermediaries

Domestic Financingchannels

Overseas Financingchannels

Elementary education, Infrastructure, Basic R&D Platform and NISs Platform

National innovation system with the participant of Transnationals


• Overall trends: China has remained the largest FDI recipient among all developing economies, attracting $92 billion in 2008.

• Although there are many dissimilar opinions, strengthening the introduction of foreign capital is continuing without interruption.

(100 millions of US dollars)

0200400600800

100012001400160018002000

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cont racted FDI actual l y ut i l i zed FDI


63. 48%5. 51%

2. 49%

2. 11%

11. 44%

5. 37%

9. 61%

• Industry distribution: Relatively stable, but more investment has been to capital-intensive or technology-intensive industries.

Figure : Inward FDI stock, by industry, 2000, 2006 (percent)

63. 59%

2. 03%

3. 15%

2. 84%

13. 06%

6. 70%

8. 63%

2000 2006

Manufacturing Real estate Leasing& business serviceelectric power, fuel gas and waterTransport, storage and communications

Wholesale&retailOthers


• sources of FDI: South, east and south east Asia has been the main region of inward FDI, accouted for 84% in 2008. Japan, United States are the main investors of developed countries.

Figure 2: Share of main Investors in China, actually utilized FDI, 1995, 2005, 2008 (percent)

0%5%

10%

15%20%25%30%35%

40%45%50%

Hongkong off shorefi nanci alcentres

Si ngapore J apan Korea U. S. Tai wan 199520052008


• Effect of TNCs on economy:

• In a macro perspective, TNCs have promoted robust growth in all economic indicators (GDP, exports, investment, employment and R&D).

• One-third of industrial output, one half of export, a quarter of tax revenue comes from inward FDI.

• The effect of FDI in high-tech manufacturing industriesis more remarkable than other industries.

Figure 2: Share of Top 10 Investors in China, actually utilized FDI, 1995 and 2005 (percent)


• Effect of TNCs on economy

Table : The importance of Foreign Investment Enterprises in Chinese high tech industries, 2004, (Percent)Source: Lundin et al., 2006

　Added value

Export Employment R&D expenditure

R&D employees

Technology import

pharmaceuticals 23 21 16 22 14 20

Electronics and telecom 81 93 73 42 38 93

Computer and office equipments 95 99 91 82 64 99

Medical equipments and instruments 55 88 36 27 19 33

Foreign firms import high-tech components (e.g. advanced semiconductors, engineered plastics, and software) into their subsidiary plants for final testing, packaging before exporting them to their final market destinations.


• Effect of TNCs on economy

Table : The position of foreign companies in new product output and export, 1998-2004, (Percent)Source: Lundin et al., 2006

Manufacturing industry High-tech industry

New product output

New product export

New product output

New product export

1998 27 44 43 811999 32 44 52 792000 35 57 57 832001 38 57 63 812002 37 53 59 702003 41 58 57 782004 42 67 68 88

The share of new product output and export of foreign companies is increasing in recent years. About 42% new product output come from foreign firms and the percentage in high-tech industry is more prominent.


• New trends: transition of investment strategies

Main motivationRank

(2001)(Rank)

2005 　Pursue more expecting profit 3 1Develop manufacturing base 2 2 　Extend market share in China 1 3Maintaining competitive advantage of low cost 4 4 　Compet with transnational competitors 5 5 　Improve R&D capability in China 7 6

Follow with existing customers 6 7Source: Zhao jinghua, 2002, 2006

Four kinds of strategical roles of TNCs’ subsidiary companies: manufacturing base, market exploiting, risk avoidance, knowledge acquisition.


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M&A val ue

I nward FDI

Percent of M&A i ni nward FDI

• New trends:

• Speeding up localization

• Strengthening control to affiliates

• Acquiring Chinese firms

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1979-1998

1999 2000 2001 2002 2003 2004 2005 2006

J oi nt Venture Cooperat i on Venture Whol l y owned subsi di ary

Local factors affecting innovation by TNCs

1979-1992

• The Law on Sino-Foreign Equity Joint Ventures

• Equity-based joint ventures (JVs) were the dominant entry mode

• Favorable policy packages, non-national treatment to TNCs

1993-

• Industry guideline for FDI, determine encouraged industries

• Promoted middle&west investmet of FDI

• Grant the national treatment to TNCs

• Government policies towards TNCs



Year Stage Policy Main Sources of FDI

Industry distribution of FDI

1979-1985

Prudent Gradual opening-up and accumulation of experience

Hong Kong, Macao, main SMEs

The tertiary industry, textile and Clothing

1986-1992

Active Encouraging exportation and introducing technologies

Taiwan, Japan and South Korea

Middle and large-scale projects including energy, transportation, electronics and machinery

1993-2000

Adjusted FDI industrial adjustment, emphasis on technologies, talents and managerial experience

Large-scale TNCs of the Asia, U.S. and Europe

Infrastructure, basic industries and technology-intensive industries, modest opening-up of finance industry

2001- More Deep and widly

Promoting indigenous innovation, learning from TNCs

Large-scale TNCs of the Asia, U.S. and Europe

More deep opening-up of all industries except individual ones (e.g. railway transportation)


Figure 3 ： Main Policies On Foreign Investment Of China

1979 ： Law on Sino-Foreign Equity Joint Ventures1980 ： Open four special economic zones1984 ： Open fourteen coastal port cities1985 ： Establish economic open zones successively

1978 － 1985

Prudent Opening-up

1986 － 1992

Active Opening-up

1986 ： Provisions for The Encouragement of Foreign Investment1987 ： Interim Provisions on Guiding the Absorption of Foreign Investment Direction1988 ： Law on Chinese Foreign Contractual Joint Ventures1990 ： Open the Pudong New Area of Shanghai1991 ： Rules for the Implementation of the Income Tax Law for Enterprises with Foreign Investment and Foreign enterprises

1995 ： Revise Category for Guidance for Foreign Investment Industries1995 ： Category for Guidance for Foreign Investment Industries1997 ： Revise Category for Guidance for Foreign Investment Industries1999 ： Encourage technology development and innovation of foreign-funded enterprise

2001 ： Formal Entry into WTO2002 ： Category for Guidance for Foreign Investment Industries2004 ： Revise Category for Guidance for Foreign Investment Industries2007 ： Revise Category for Guidance for Foreign Investment Industries2008 ： Revise The law of People’s Republic of China on Enterprise Income Tax

1993 － 2000

Positive

Opening-up

2001 －Comprehensive Opening-up

15206

33779

63972

112410

161

2061

4539

7992

1978-1985

1986-1993

1994-2000

2001-2006

GDPFDI

Unit: $ 100 Millions



• supportive policies for assimilating innovative foreign technologies

– Key national projects are required to develop a plan to build indigenous innovation capacity by assimilating imported advanced technology.

– The list of technologies that are encouraged or restricted for import will be adjusted.

– Support innovations based on assimilation of imported advanced technologies by giving high priority to key national projects.

– Support cooperation among industries, universities, and research institutes as they assimilate imported advanced technologies.


• The role of local universities

• The extensive involvement of public research in industry R&D in China constitutes an important character of her National Innovation System.

• Most of resouces concentrate on national or local leading universities.

• Promoting science-industry cooperation has been a crucial innovation policy, but the effect is still unsatisfying.

• Joint R&D projects or organizations between TNCs and leading universities concentrate on more advanced R&D than domestic firms, beside this, talent development and training are also main functions.

• Local firms often lack abilities to compete with TNCs in signing such projects: crowding-out effect?


• The role of local universitiesJoint R&D organizations TNCs Home country

Qinghua-BP Clean Energy Research and Education Center

BPU.K.

Freescale Singlechip and DSP Applying and Development Research Center

MotorolaU.S.

Qinghua-Toyota Research Center Toyota Japan

Qinghua-Daikin Research Center Daikin Japan

Qinghua-AREVA Controlling Research Center AREVA France

Qinghua- Mitsubishi Joint R&D center Mitsubishi Japan

Qinghua- Renesas Integrate Circuit Designing research institute

Renesas TechnologyJapan

Qinghua-Intel Joint R&D Center Intel U.S.

Delphi-Qinghua Auto System Research Center Delphi U.S.

Qinghua-Tianshi Software R&D Center Hongkong Tianshi Hongkong, China

Table : Some Joint R&D organizations of Qinghua University with TNCs


• Other factors

• IPR

• Since China joined the WTO and signed the Agreement on Trade-Related Aspects of Intellectual Property Rights (TRIPS agreement), the Chines

e patent system is in line with international standards.

• Still weak. Infringement of intellectual property rights, particularly of copyright and trademarks, remains a concern.


• Other factors

• Education and S&T human resources

• China has been the largest countries in terms of the number of enrolled undergraduates and post-graduates.

• Since the early 1990s China has made substantial progress in developing S&T human resources.

• The density of scientists and engineers engaged in R&D per million people in China is still relatively low


• Other factors

• Education and S&T human resources

Table : scientists and engineers in R&D personnel

The spillover of TNCs

The role of TNCs remain controversial in China. The empirical evidence on whether FDI facilitates technology spillovers is ambiguous in China.

• Productive technology spillovers

• There are positive productivity spillovers from foreign firms to their local suppliers in upstream sectors in China (e.g. Buck, Liu, Wei, & Liu, 2007; Buckley, Clegg, & Wang, 2002; Kueh, 1992; Li, Lam, Karakowsky, & Qian, 2003; Wu, 1999; Zheng, Siler, & Giorgioni, 2004; Zhu & Tan, 2000).

• Local firms have improved and expanded production capabilities rather than innovation capabilities.



• Core or advanced technology spillovers

• When it comes to the effect of TNCs on domestic innovative technological development, the study proved not so optimistic.

• Auto production is almost fully carried out under license from foreign manufacturers. Most product development is based on reverse engineering, and no significant indigenous technological development has yet occurred.



• Training spillovers

• Mobility of trained labor is a very important channel for technology spillover in China.

• The main channel of TNCs’ technology diffusion is the mobility of human resources, especially senior managers and researchers, who came into domestic firms for development, or operated their own start-ups (R&D institute of Motorola in China).


• Linkages between TNCs and local firms

• Technical cooperation

• The top 3 technical cooperation partners of TNCs is: parent company, clients, foreign suppliers (A survey performed to TNCs in Shanghai h

igh-tech park,2007 ).

• 75% TNCs didn’t set technology alliances with local firms, 67% TNCs had no intent to give technological support to local firms (A s

urvey performed to 400 foreign companies ,2005 ).

• Some local companies with strong R&D abilities (like Huawei, Haier, Chang’an and Little Swan) have cooperated with TNCs in recent years to form positive and interactive know-how exchange.

The spillover of TNCs• Linkages between TNCs and local firms

• Case :Ⅰ Knowledge transfer between local suppliers and TNCs

City Wuxi City • the most important integrated circuit design and manufacturing centers in China;

• has attracted prestigious foreign firms, such as Siemens, Panasonic, Toshiba, Sony, General Electric, etc.

Industry the electrical and electronics

• Attracted the highest amount of FDI with a growth rate of 25% annually;

• the demand for parts/components from suppliers is significant.

Data a survey distributed to 50 TNCs, by Duanmu and Fai (2007)



• Findings:

• 56% firms have purchasing arrangements with suppliers in China, only 23.7% suppliers were indigenous Chinese firms; the others (76.3%) were foreign suppliers.

• Demonstration effect: FDI introduces an “existing proof” of viable paths of development. Imitation usually happened.

• There are technology spillovers between backward linkages from TNCs to local suppliers, but the transferred knowledge are mainly basic managerial and technological knowledge.

• Knowledge transfer are mainly one-way pattern that mostly dominated by the TNCs, interactive transfer is seldom.



• Findings:

Stage Knowledge type Knowledge Linkages

initiating stage

Basic codified information

Product blueprints and manuals

Dominated by the TNC

developing stage

Managerial knowledgeBusiness culture

Quality control, product cost controls, materials management, etc

Dominated by the TNC

intensifying stage

Tacit knowledge Joint problem solving , Cooperation

Interactive knowledge transfer

knowledge transfer between TNCs and local suppliers



• Findings:

• The relationship is mainly determined by local suppliers’ capability and TNCs’ strategy. Technically, the gap between the two is huge as Chinese firms lack sophisticated technological knowledge.

• The nationality of the TNC: Japanese TNCs are more passive in their assistance to the suppliers whereas American and European firms seem to be more proactively.


• Case :Ⅱ Linkages in the industry culster

Suzhou industry cluster:

• A quite typical industry cluster in China’s manufacturing landscape• The driving power of the cluster is large-sized TNCs• Export orientation, very open.

Suzhou new development park

Suzhou industrial garden

Establishing time 1990 1994

GNP (up to 2002) 20.4 billion RMB 25.2 billion RMB

Inward FDI (up to 2002) 7.1 billion US dollars 5.43 billion US dollars

Representative industries Computer assembly Semiconductor IC industry



• Findings:

• The entrance of TNCs promoted the forming of industry cluster in Suzhou.

• Great contribution to local employment (more than 80%) and labor training.

• The cooperation and backward linkages between foreign and domestic firms is unsatisfying. Low local procurement level

• Innovative activities of MNCs: recipient and user of technologies according parent company

• Domestic firms: Manufacturing capability has been developed, innovation capacity is still limited



• Findings:

• TNCs have hold the upper-end of value chain in IT and semiconductor industry, local companies are still competing in the lower value chain excepting some fast learning firms.

Suzhou new development park Suzhou industrial garden

Industry IT manufacturing Semiconductor

Value Chain

Electronic components, computer equipment, digital products

IC design, production, packaging and testing

Key Player Benq (Taiwan), Logitech (Switzerland), Siemens (Germany), Panasonic (Japan), Yamaha (Japan), Philips (Holland)

IC Design: Innosis, ESMT, VeriSilicon, AMD (United States)Packaging and Testing: Samsung (Korea), Hitachi (Japan), Fairchild Semiconductor (United States)

The spillover of TNCs• R&D activites in China

• China is now the most promising R&D investment destinations for TNCs, topping the United States and India (A.T.Kearney 2006 and UNCTAD 2005).

• R&D institutes: 200 in 2001, 1160 in 2006

• Motivation: make use of a growing pool of skilled engineers and technicians to cut their research expenditure

• government pressure

The spillover of TNCs• R&D activites in China

ICT industry Biopharmaceutical industry

Automobile Industry

IBM AstraZenenca Shanghai GM

Sun Novo Nordisk Shanghai Volkswagen

Nokia Eli Lily Nissan

Ericsson Roche Daimler Chrysler

Microsoft DSM Honda

Fuji Lonza Toyota

Motorola GE Hyundai

HP Siemens

Some R&D centers invested in China by TNCs

The spillover of TNCs• The negative role of FDI

• Industry Control & market monopoly

• Foreign firms have introduced leading-edge, branded products that many Chinese vastly prefer to those made by domestic firms.

• 90% of China’s export has been foreign brands or OEM.

• Top 5 companies in every industries that has been opened are almost foreign firms


• Industrial Control & market monopoly

• Through joint venture, many domestic brands have vanished and become OEM plants of TNCs.

Beverage: 7 of 8 domestic brands have vanishied, which have changed to produce Coco cola or Pepsi cola.

Cosmetics: almost all primary brands are foreign brands.

Others: Camera, Bicycle, Cleaning product, Auto……


• Crowding-out effect

• Industrial structure similarity coefficient of FDI: 0.497 in 1985, 0.824 in 1995

• More fierce competition

If TNCs introduce more new technology and products to China, rather than invest in exsisting manufacturing industries, crowding-out effect will decrease.


• Technical control

• Utilizing advanced technology to control high-end market

• Build production base through joint venture, call off R&D centers of Chinese partners

• Local firms are more dependent on TNCs technology

• Brain drain of R&D talents

Out-forward FDI and domestic TNCs• General trend

• China’s outflows increased to $52.15 billion (include offshore financial investment) in 2008, and its outward FDI stock reached $170 billion.

Source: Ministry of Commerce of China, 20082008

521.5

Out-forward FDI and domestic TNCs• General trend

• Industry distribution: Wholesale & retail, Trade related services, Transport and storage, Mining, Manufacturing • Destination: main to developing economies in Asia and Latin America, but the investment in developed countries has increased.

Rank Country/ area Value Share to all Rank Country/ area Value Share to all

1 Hongkong 687.8 58% 9 Korea 12.1 1%

2 Cayman Islands 168.1 14% 10 Pakistan 10.7 1%

3 British Virgin lslands 66.3 6% 11 England 9.5 1%

4 U.S. 18.8 2% 12 Macao 9.1 1%

5 Australia 14.4 1% 13 Germany 8.5 1%

6 Singapore 14.4 1% 14 South Africa 7 1%

7 Russia 14.2 1% 15 Indonesia 6.8 1%

8 Canada 12.5 1% Subtotal 　 996.5 85%

　　　　 Total 　 1179.1 100%

Top 15 destination of Chineses outward FDI, by stock, up to 2007 (100 millions of dollars)

Out-forward FDI and domestic TNCs• Local TNCs

• China has 3429 parent companies in 2005 (UNCTAD, 2006).

• Most of them are relatively small TNCs with a limited geographical reach.

• But the number of large TNCs is on the rise.

• M&As (mergers and acquisitions) has become a major mode of entry into developed-country markets by TNCs from China.

Out-forward FDI and domestic TNCs• Local TNCs

Year Local TNCs Invested project Host economy Entry mode FDI value

1986 CITIC Wood and wood products

U.S. JV 40 millions of RMB

1986 CITIC Paper and paper products

Canada M &As,50% share

60 millions of Canada dollars

1987 CMIEC Mining Australia JV

1999 Haier Household electronic appliances

U.S. Wholly owned

2001 Huali Mobile communication U.S. M &As $1 million

2003 CNOOC Natural gas Great Britain M &As $0.615 billion

2003 TCL TV, DVD France M &As 0.3 billion Euro dollars

2004 Lenovo Personal computer U.S. M &As $ 12.5 billion

Typical outward FDI cases deals by Chinese TNCs to developed economies


• Conclusions

• FDI has been a crucial role in China’s development (GDP, industry structure, employment, export, technology import)

• Opening-up is a effective channel for the learning of latecomers

• Most technical standard are holded by TNCs

• Only by learning, can latecomers catch the opportunity for shorten technology gap with developed countries.

• Many Chinese firms have accumulated productive, managerial, and R&D knowledge through demonstration effect, competition effect, or direct and indirect learning from TNCs.

•


• Conclusions

• BUT:

• Technology spillover is unsatisfactory

• Cooperation between TNCs and other parts of NIS is limited

• Technical linkages between TNCs and local suppliers are limited

• Productive capability has been significantly improved, but not the innovative capability

• Negative effect of TNCs

• Lacking of absorptive capacity or unwillingness to learn through technology import or joint venture with TNCs, is a main reason for low innovative capability of Chinese firms.


• Conclusions

• Main mode of Joint ventrue in China is based on capital or land, and is wholly owned by TNCs. Such mode will be very effective for the country that lack of capital and experience, but its marginal effect will decrease with the increasing capital size of inward FDI.

• Nowadays, improving innovative ability of firms should be a main objective through FDI for developing economies in international situation.

• So, how to design FDI policies and made them adaptive to constantly changing of situation?


• Implications

• Improving impartial competition environment for domestic and foreign firms

• Focusing on the investment in strategic industries, guiding the flow direction of FDI

• Facilitating technology transfer through linkages, promoting transnational technical cooperation

• Building local firms’ absorptive capacities, make enterprises to be the main body of NIS, not the publich research system.

• Learning to compete in international rules

Thank you

The Role of Transnational Corporations in the National Innovation Systems – The Case of China Li Yanhua Graduate University of Chinese Academy of Sciences,

Documents

role of tncs

spillover of tncs

percent slide

domestic tncs conclusions

effect of fdi

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recent evolution

inward fdi stock