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Financial Development, Foreign Direct Investment, and the Efficiency of Capital Allocation in China

Author

Listed:
  • Kevin X. D. Huang

    (Department of Economics, Vanderbilt University, Nashville, TN 37235-1819, USA)

  • Chun Jiang
  • Qingyuan Li
  • Qiwei Zhao

    (School of Economics and Management, Wuhan University, Wuhan 430072, China)

  • Jia Wang

    (World Financial Group, 3300 Holcomb Bridge Road, Norcross, GA 30092-5405, USA)

  • Kai Sheng

    (School of Mathematical Sciences, Peking University, Beijing 100871, China)

Abstract

We study the roles of local financial development and foreign direct investment, and more importantly, their interaction with one another, in local capital allocation, based on Chinese industrial and regional data. Our main finding is that, although local financial development and FDI each individually tended to improve the efficiency of local capital allocation during the sample period, they tended to compete and crowd out each other¡¯s effect, so that one impaired the individual function of the other. In particular, there exists a threshold value for local financial development, above which an increase in FDI reduces the efficiency of local capital allocation, rather than improve it. On the other hand, there exists a threshold value for FDI, above which further development in the local financial system lowers the efficiency of local capital allocation, rather than increase it. Our estimations suggest that the levels of FDI and local financial development in some relatively more developed Chinese regions have already surpassed such threshold values. We provide some interpretations of our findings and we discuss potential policy implications.

Suggested Citation

  • Kevin X. D. Huang & Chun Jiang & Qingyuan Li & Qiwei Zhao & Jia Wang & Kai Sheng, 2013. "Financial Development, Foreign Direct Investment, and the Efficiency of Capital Allocation in China," Frontiers of Economics in China-Selected Publications from Chinese Universities, Higher Education Press, vol. 8(2), pages 165-185, June.
    • Handle: RePEc:fec:journl:v:8:y:2013:i:2:p:165-185
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    File URL: http://journal.hep.com.cn/fec/EN/10.3868/s060-002-013-0008-2
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    More about this item

    Keywords

    foreign direct investment (FDI); local financial development; capital allocation efficiency;
    All these keywords.

    JEL classification:

    • F23 - International Economics - - International Factor Movements and International Business - - - Multinational Firms; International Business
    • F36 - International Economics - - International Finance - - - Financial Aspects of Economic Integration
    • F43 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Economic Growth of Open Economies
    • O16 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Financial Markets; Saving and Capital Investment; Corporate Finance and Governance

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