Human Capital Development and Its Influence on FDI Withdrawal: An Empirical Analysis

• Published date: 01 September 2023
• Author: Chuanchuan Li,Lei Li,Haodan Tang,Yanyan Zheng,Fangming Gong
• Date: 01 September 2023
• DOI: http://doi.org/10.1111/cwe.12504

©2023 Institute of World Economics and Politics, Chinese Academy of Social Sciences

China & World Economy / 116–134, Vol. 31, No. 5, 2023

116

Human Capital Development and Its Infl uence on

FDI Withdrawal: An Empirical Analysis

Chuanchuan Li, Lei Li, Haodan Tang, Yanyan Zheng, Fangming Gong*

Abstract

This paper examines the causal eff ect of human capital expansion on the exit of foreign-

owned firms using the difference-in-differences method together with a quasi-natural

experiment involving the expansion of higher education in China in 1999. The expansion of

human capital reduces the probability of the exit of foreign-owned fi rms signifi cantly. This

conclusion remains robust under a series of tests, including changing the sample range,

adjusting the identification method, and considering the trade liberalization. Analysis

of the mechanism indicates that human capital expansion reduces the exit probability

of foreign-owned firms by stimulating innovation, improving production efficiency, and

optimizing the quality of input and output goods. Industries with higher asset specifi city

are also more likely to restrain the exit of foreign-owned firms through human capital

expansion. Overall, the fi ndings of this study provide a good insight into the exit behavior

of FDI in China from the perspective of human capital.

Keywords: exit of foreign-owned fi rms, human capital, mechanism analysis, intermediate

input

JEL codes: F21, J31, J38

I. Introduction

China’s manufacturing industry has faced challenges attracting FDI in recent years,

and the issue of FDI exit has become a hot topic. Studies have found that three main

*Chuanchuan Li, Assistant Research Fellow, The Academy of China Open Economy Studies and Institute of

International Economy, University of International Business and Economics, China. Email: lcc1616@163.com;

Lei Li (corresponding author), Professor, Center for Transnationals’ Studies and Laboratory for Economic Behaviors

and Policy Simulation, Nankai University, China. Email: nklilei@nankai.edu.cn; Haodan Tang, Lecturer, School of

International Business, Southwestern University of Finance and Economics, China. Email: tanghd@swufe.edu.cn;

Yanyan Zheng, Associate Professor, School of International Business, Tianjin Foreign Studies University, China.

Email: zhengyy655@163.com; Fangming Gong, PhD Candidate, International Business Strategy Institute,

University of International Business and Economics, China. Email: gfm9611@163.com. This research was

supported financially by the National Social Science Foundation of China (Nos. 22&ZD097 and 21BGJ049),

the National Natural Science Foundation of China (No. 72273068), and the Fundamental Research Funds for the

Central Universities in University of International Business and Economics (No. 22QD13).

©2023 Institute of World Economics and Politics, Chinese Academy of Social Sciences

Human Capital Expansion and FDI Exit 117

reasons has caused foreign-owned firm’s exit. First, it has become more difficult for

cost-conscious foreign-owned firms to survive because of increasing domestic factor

prices and tightening policy regulations including environmental regulation and product

quality regulation, among others. Second, infl uenced by “reindustrialization” strategies

in Europe and the US and global tax reforms, it becomes necessary for multinational

corporations to signifi cantly adjust their strategies. Some foreign-owned fi rms withdrew

capital and returned to their home countries. Third, following the negative impact of

the COVID-19 pandemic China–US trade confl ict, the diversifi ed supply-chain strategy

adopted by multinational corporations has accelerated the exit and relocation of foreign-

owned firms. China also has two main advantages for attracting FDI. First, as the

world’s second largest economy with huge market demand, China could provide a broad

development space for FDI. Second, China is one of the most populous countries in the

world, with over 10 million graduates of higher education every year, providing a rich

and high-quality source of labor for foreign-owned fi rms.

By analyzing the characteristics of exit fi rms, we fi nd that exiting foreign-owned

firms include highly polluting, high energy-consuming firms, and market-oriented

high-tech foreign-owned firms. This demonstrates that the behavior of firms exiting

operations is noteworthy despite the continuing growth in FDI in China.

The factors infl uencing foreign divestment can be classifi ed briefl y into internal and

external factors. Internal factors include firm scale and age (Mata and Portugal, 2002;

Belderbos, 2003; Berry, 2013; Li et al., 2015), capital intensity (Belderbos, 2003), operation

performance (Haynes et al., 2003; Guo and Chen, 2011), and mode of foreign capital entry

(Benito, 1997; McCloughan and Stone, 1998; Mata and Portugal, 2002). The external

factors aff ecting foreign divestment mainly include the degree of industry competition (Wang

and Larimo, 2015), labor costs (Belderbos and Zou, 2006; Berry, 2013; Saleem et al., 2018;

Cai, 2023), and environmental regulations (Greaney et al., 2017; Perkins, 2023).

In general, there are many perspectives discussed in the literature on foreign

divestment, but there are only very few studies based on the perspective of human capital

in host countries. Moreover, most literature focus on the outfl ow (transfer or return) of

foreign capital, with relatively limited attention given to the exit of foreign capital. We

believe that in the case of foreign-owned firms, exiting is a major decision made by

fi rms after weighing various factors, which requires a relatively long time for discussion

and evaluation. Therefore, this study contributes to the existing research as it explores

the phenomenon of foreign-owned fi rms’ exits in China from the perspective of human

capital. Education level is a major indicator of human capital, so the massive expansion

of university enrollment in China in 1999 provides an important analytical framework

for constructing a quasi-natural experiment regarding human capital expansion. Based on