Sustaining the Development of Korean FDI in China

Korean Foreign Direct Investment (FDI) in China has significantly decreased in recent years, particularly because of restrictive Chinese policies resulting from Korea’s decision to deploy the Terminal High Altitude Area Defense (THAAD). Illustrating this, in 2017 it was 50 percent lower than its recent peak in 2013. However, it has surged significantly since last December despite no significant change in Chinese economic pressure on Korea. In fact, in January and February 2018, it increased by 231 percent and 123 percent respectively. In contrast, total FDI flows in China during the same period grew only slightly by 0.5 percent and 3.3 percent respectively. The increase in Korean FDI is surprising given that firms’ FDI decisions are often believed to be very sensitive to political factors. Yet, not all Korean companies are equally exposed to Chinese pressure. Specifically, compared to manufacturing industries, Korean service firms are more exposed to Chinese retaliation because they have a relatively lower degree of participation in Chinese global value chains. We can see this by examining the contrasting effects of China’s economic punishment on Korea’s cultural versus manufacturing industries. For example, Korea’s cultural industry (e.g., entertainment) has been heavily hit by Chinese restrictions whereas the Korean semiconductor sector has shown a significant increase in profits since the early 2017. Many argue that the cultural industry’s heavy reliance on Chinese market is the key reason it has been so heavily impacted. However, there are many industries that have not been as seriously affected even though they, too, depend on the China market. The reason is that China has not penalized them as hard because it would hurt itself given their place in Chinese supply chains. Therefore, to protect themselves, Korean firms should increase China’s dependence on them by participating in key segments of Chinese firms’ global value chains.