(China Daily)
Updated: 2008-03-14 09:50

Foreign investors have apparently shrugged off the higher corporate income tax to embrace China's growth opportunities more eagerly.

In the first two months this year, China drew $18.13 billion in foreign direct investment (FDI), up 75.19 percent year on year.

Such foreign investors' enthusiasm, though welcome, needs to be taken with a pinch of salt. The authorities should examine carefully those foreign-funded investment projects to block inflow of hot money which is made increasingly lucrative by faster appreciation of the renminbi.

China's new corporate income tax law unified the income tax rate for domestic and foreign companies at 25 percent from the beginning of this year. Given foreign companies' loud complaints against the law, it was once assumed that inflow of foreign investment into the country may slow somewhat with the removal of a such tax preference.

Yet, in the first two months alone, China logged 2.5 times more large-scale foreign-funded projects, with a price tag of more than $30 million, than for the same period last year.

Such a continuous increase in FDI is, first of all, in line with China's long-term record on attracting foreign investment. Foreign-funded enterprises have invested a total of $2.11 trillion in the country as of the end of last year, up 23.5 percent year on year.

Secondly, it proves that the great potential of the Chinese economy and hence a level playing field are more important to foreign investors than tax preferences.

The current strong growth of FDI marks recognition of China's status as a leading magnet for overseas investors. But it is also a cause for concern in view of its impact on Chinese authorities' ongoing efforts to mop up excess liquidity.

Like the ballooning trade surplus, soaring FDI has become a key source of foreign exchange reserves that China accumulates rapidly. The later keeps pumping liquidity into the domestic market against the country's macroeconomic control to prevent overheating.

However, unlike the trade surplus that significantly slowed its growth as a stronger Chinese currency made imports cheaper and export more expensive, inflow of FDI is accelerating.

Clearly, the appreciation of the renminbi against the US dollar is encouraging foreign investors to rush in. A quick change of their dollars into renminbi to inject into China will save them money.

But such a consideration may not fully explain the fast growth of FDI. It is more than likely that speculative investors are seeking any possible chance to capitalize on faster appreciation of the renminbi.