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China's U.S. FDI on the Decline Amid Strained Relationship

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According to a study by independent research firm Rhodium Group, Chinese foreign direct investments (FDI) in the United States has steadily witnessed a downtrend, primarily due to mutual distrust and souring geopolitical relationship. As both the countries hold high-level negotiations to seek a long-term solution to the bitter trade war, experts widely believe that the situation is not likely to improve in the near future until some sweeping policy changes are made.

The research report revealed that China’s U.S. FDI declined 84% year over year to $4.8 billion in 2018 — the lowest since 2011. Incidentally, the tally reached a record high of $46 billion in 2016, before decreasing to $29 billion in 2017. Excluding divestures of about $13 billion worth of U.S. assets, China’s net FDI in 2018 was a negative $8 billion. However, venture capital financing by the communist nation hit an all-time high of $3.1 billion last year as investors were subjected to comparatively less regulatory hurdles.

The report attributes this decline to closed loop Chinese policies and strict scrutiny by the Trump administration on grounds of national security interests. Over the past year, Beijing’s restrictive policies have reportedly forced its conglomerates to consolidate domestic operations and reduce debt by selling their foreign investments. With a fragile Balance of Payments situation, the strategic move was largely aimed to restrict its outbound capital control.

On the other hand, growing resentments about high Balance of Trade with China and Trump’s ‘America First’ policy led to intense scrutiny by the Committee on Foreign Investment in the United States to validate Chinese acquisitions. This eventually led to rejection of a high percentage of Chinese transactions on security issues. To add to the woes, trade barriers and a series of retaliatory measures compounded problems, creating uncertainty in the markets and dampening investor appetite.

Although the underlying issue is cited to be related to national security concerns, the bone of contention perhaps stems from an innate desire between the two warring nations to claim dominance in cutting-edge technologies and the next generation of wireless services.

Relations between the United States and China were further strained when Meng Wanzhou, the chief financial officer of Huawei, was arrested in Canada over potential violations of sanctions on Iran. Serving as the deputy chairwoman of the management board, Meng is the daughter of the founder of Huawei. Consequently, the detention and eventual arrest of such a high-profile business tycoon rattled the markets and put the political environment on high alert.

Although Meng has been granted bail, the matter remained a potboiler as she faced probable extradition to the United States. The Sino-American tensions elicited strong protests from China against the perceived undemocratic act and threatened to derail the 90-day truce offer to initiate negotiations related to the tariff war. However, officials from both countries have reportedly initiated trade talks to ease the tariff restrictions imposed on each other.

Despite the thaw, industry experts opine that the underlying factors will continue to weigh on the mutual relationship, as both governments face intense pressure from within to maintain their hard stance with national pride at stake. Moreover, China is unlikely to ease restrictions on outbound investments as higher interest rates in the United States could further aggravate pressure on its Balance of Payments. In addition, implementation of the Foreign Investment Risk Review Modernization Act in the United States further aims to enforce a stricter probe of national security screenings of Chinese FDI and venture capital transactions in critical emerging technologies and critical infrastructure.

Consequently, U.S. companies that derive substantial revenues from China are likely to be affected in the future. These mostly include technology companies like QUALCOMM Incorporated (QCOM - Free Report) , which generated $14.6 billion sales from China in fiscal 2018 (65.4% of total revenues), Qorvo, Inc. (QRVO - Free Report) ($1.9 billion, 62%), and Broadcom Inc. (AVGO - Free Report) ($9.5 billion, 53.7%).

It remains to be seen how 2019 pans out for these stocks and whether they can beat the odds to record healthy top-line growth in China.

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