Playing Risk: Chinese Foreign Direct Investment in Cambodia

Abstract

Multinational firms must go to the place with what they seek--whether natural resources, markets, labour or assets--is located and, more importantly where what they seek is available. Due both to the location of what they seek and their status as latecomers to globalization, firms frequently operate in developing countries where they are confronted by factors found to deter foreign direct investment (FDI), which seeks a controlling interest in a business enterprise in a foreign country. These factors include weak rule of law, high and high risk, each of which is characteristic of Cambodia's investment environment. Both theory and empirical studies suggest that foreign direct investors prefer states with and legal institutions that protect property rights and constrain the government's executive leadership. (1) In Cambodia, where the institutions creating such conditions are weak, foreign investors must find alternative means of protecting their investments. outward FDI--not only to Cambodia but also more generally--defies findings that property rights, and risk deter inflows of foreign investment. Surprisingly, Peter Buckley and his co-authors find outbound FDI to be positively correlated with risk. (2) Similarly, Ivar Kolstad and Arne Wiig conclude that outward FDI is attracted to countries with poor institutions, using an index that includes control of corruption and political stability. (3) K.C. Fung and Alicia Garcia-Herrero compare and Indian outward FDI and suggest Chinese investment seems to be attracted to more corrupt countries, while India is attracted to less corrupt economies with better rule of law. (4) Yin-Wong Cheung and Xingwang Qian also find that FDI is not deterred by corruption, law and order or a lack of democratic accountability. (5) This article analyses investment in Cambodia, which has risen dramatically since the turn of the century despite the difficulties faced by foreign investors in the Cambodian economy. FDI in Cambodia is worth studying for several reasons. The first is precisely because Cambodia lacks the characteristics that have been found to attract foreign investment and is abundant in those found to deter it. Second, there is important variation in the ownership type of investments in Cambodia, with state owned enterprises (SOEs) dominating the hydropower sector and private firms investing in the garment industry. Finally, there is also variation in these investments' asset specificity, the degree to which assets invested can be switched to other uses or moved out of the country. The garment industry, in which assets consist mostly of small sewing machines, is highly mobile. Hydropower assets, on the other hand, are not so easily shifted out of the country. These differences are important should the Cambodian government change policies in a way that negatively impacts a foreign investment or should domestic partners renege on their contracts. Investors with mobile assets can always credibly threaten to move their investments elsewhere. (6) I hypothesize that government support is the key variable allowing firms to invest successfully in difficult investment environments. Testing this hypothesis against the Cambodia case, I find that China's bilateral policies, particularly financial assistance to the Cambodian government, are sometimes essential to gaining approval for and protection of investments. It is the factors mentioned above, ownership type (public or private) and asset specificity, along with size of the investment, that determine whether government support is a necessary condition for successful investment in Cambodia. Successful investment is a two-stage process. First, in order to obtain approval for the investment, the establishment of the enterprise in the foreign country must be perceived as beneficial by elites in that country. …