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Original Article

Geographic proximity and location choice of


foreign direct investment in China
Received 13 May 2011; revised 10 August 2012; accepted 31 August 2012

Sui-Hua Yua,* and Chen Feng Shenb


a

Department of Accounting, National Chung Hsing University, 250, Kuo Kuang Road, Taichung
402, Taiwan, Republic of China.
b
Department of Accounting and Information Technology, National Chung Cheng University,
168 University Road, Min-Hsiung, Chia-Yi 62102, Taiwan, Republic of China.
*Corresponding author.

Abstract Our research examines the concept of geographic proximity, particularly proximity to knowledge, market and labor resources in China, to understand
how the embedded spatial context of a region inuences the preferences of enterprises investing in China. Using a sample of Taiwanese enterprises investing in
China from 20072011, we nd that proximity to knowledge and labor resources
have a signicant negative inuence on the location choice of Taiwanese enterprises,
whereas proximity to market has a signicant positive inuence. Furthermore, we
nd that the inuence of proximity on location choice changes with different
industry characteristics.
Asian Business & Management (2013) 12, 351380. doi:10.1057/abm.2013.4;
published online 20 February 2013
Keywords: foreign direct investment; location choice; geographic proximity

Introduction
In 1979, China implemented economic reforms and an open-door policy,
allowing its economy to develop rapidly. The expanding internal demand and
advantages of low-cost labor and land have been attracting an increasing inow
of foreign direct investment (FDI). For example, in 2003, FDI inows into
China constituted 10 per cent of FDI worldwide and 30 per cent of FDI in
developing countries (UNCTAD, 2005). During the period 19912007, FDI in
China increased tenfold, and such foreign investment and commercial activity
became a main factor stimulating Chinese economic growth (Das, 2007).
Therefore, management of FDI in China is an important and widely discussed
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topic in academic circles, particularly with regard to how foreign enterprises


investing in China make location decisions at regional level.
China has a vast land area, with widespread regional heterogeneity in terms of
average income, average wages and resources; these regional differences have a
strong inuence on investment decisions by foreign investors (Chan et al, 2010).
Much research has been conducted on the issue of location in China (Kang and
Lee, 2007), including descriptive studies (Beamish and Wang, 1989) and empirical
studies (Chadee et al, 2003). Recently, several authors have analyzed factors
inuencing foreign enterprises in China faced with choice of location. For
example, Du et al (2008) analyze how differences in economic system inuence
location choice by US enterprises in China. Zhou et al (2002) discuss location
choices by Japanese enterprises, particularly the establishment of the special
economic zones and opening of coastal cities. Cheng and Stough (2006) report on
the inuence of factors such as market size, energy costs and industrial
agglomeration on Japanese investment. Finally, Kang and Lee (2007) discuss
location choice by Korean enterprises. Although the above studies have yielded
valuable insights, such research focuses on analyzing the intrinsic characteristics
of locations, such as labor cost, market potential, business environment and government policies, while ignoring the environment surrounding a given location.
According to network theory, a network is a set of nodes connected by a
specic type of relationship (Laumann, 1978), where nodes refer to individuals,
events or organizations. The position of a node within a network determines
its accessibility to resources embedded in the network (Lin, 1999). Moreover,
both the characteristics of a node and the network position of the node
inuence the outcome (Borgatti and Everett, 1992). Incorporating concepts
from network theory, economic geographers suggest that space is constructed
within networks and the world is both built and stratied by stable sets of
relationships (Murdoch, 2000). Position in a space inuences the level of
integration in world systems (Blainey, 2001). Applying this idea to different
geographic units of analysis, such as cities and countries, several studies indicate
that the desirability of a geographic location is determined partly by its position
in a global system (for example, Smith and Timberlake, 2001; Nachum et al,
2008). Therefore, to understand the advantage of a given region, one not only
needs to analyze the intrinsic characteristics of that region, but also the regions
position within the geographic environment. In addition, recent management
research suggests that FDI be analyzed in a multilateral context (Strom and
Yoshino, 2009). Nachum et al (2008) show that no country is a stand-alone
entity; the positional context of a country inuences how much multinational
enterprises (MNEs) are attracted to that country. Similarly, the position of a
region within a country may determine its value to investors and inuence
enterprises willingness to invest. However, this factor has not received attention in previous research.
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To ll this void, this study looks into the concept of geographic proximity to
analyze how spatial location inuences the location choice of foreign investors
in China. Geographic proximity generally refers to geographic distance among
regions (Atteld et al, 2000; Sohn, 2004), which is a factor crucial to a regions
ability to access resources from other regions (Herander and Saavedra, 2005).
In this study, we characterize each region by its proximity to knowledge, market
and labor resources distributed throughout the country, and examine how
these proximity measures affect the preferences of enterprises investing there.
We use a sample of Taiwanese enterprises investing in China. According to the
China Foreign Economic Statistical Yearbook (19792000), Taiwan is one of
Chinas top three investors. Owing to similarities in language, culture and
tradition, China has always been an important region for Taiwanese foreign
investment, particularly after 1990, when the Taiwanese government published
its Administrative Rules for Indirect Investment or Technological Cooperation
in China, drastically altering the foreign investment environment for Taiwanese
enterprises. Taiwanese investment in China entered a phase of rapid growth,
and according to the Evaluative Report on Inuences to Cross-Strait Trade and
Investment (Ministry of Economic Affairs of Taiwan, 2007), investments by
Taiwanese enterprises in China from 1991 to 2006 totaled US$54.898 billion.
Meanwhile, cross-strait trade as a percentage of total Taiwanese foreign trade
rose from 14.58 per cent in 1995 to 38.43 per cent in 2006. This has provided us
with abundant data.
From the analysis of the 5416 Taiwanese enterprises investing in China from
20012007, proximity to knowledge and labor resources have a signicant
negative impact on the likelihood that Taiwanese enterprises choose a given
region, suggesting that the closer a region is to knowledge and labor resources,
the more likely Taiwanese enterprises are to invest there. Meanwhile, proximity
to market has a signicant positive inuence, indicating that Taiwanese enterprises investing in China prefer regions farther from markets. As this outcome
may be related to the fact that most Taiwanese enterprises investing in China
are manufacturers, the data is further analyzed by industry. For food enterprises, proximity to market is an important factor in choosing a location for
investment; however, manufacturers tend to choose locations with greater
proximity to knowledge and labor resources.
This study makes several major contributions to the literature. First, scholars
have only recently begun to incorporate geographical factors into the analysis
of FDI location choice (Blonigen et al, 2007; Jensen and Pedersen, 2011);
however, their studies are limited to country-level analysis. This study contributes to this stream of research by offering a framework for how the spatial
context of particular regions inuences foreign investors location choice.
Second, sub-national location decisions are particularly relevant for investors
in large and decentralized emerging markets (for example, China and Vietnam),
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as policies, institutions and resource endowments vary at regional level in these


markets (Meyer and Nguyen, 2005). However, they have received relatively less
attention from international business scholars (Makino et al, 2002). This study
provides new evidence on FDI location decisions in a country. Third, most
studies examining regional investments in a country have been dominated by
references to the relative abundance of resources endowed in particular locations (for example, Chung and Song, 2004). This study proposes that the attractiveness of a particular region to foreign investors depends on the abundance of
resources inherent in a region as well as the amount of resources that can be
accessed from surrounding regions. Fourth, prior studies focus on analyzing
differences among regions in China in terms of specic conditions or characteristics (for example, Cheng and Stough, 2006). To the best of our knowledge,
ours is the rst empirical study on the impact of spatial location on regional
investments in China. Finally, this study demonstrates that the concept proposed by Nachum et al (2008) to measure geographic proximity among
countries may also be used to analyze smaller geographic units such as
provinces, showing that their proposed principle has wider applicability.
Following this introduction, the second section discusses the literature of
location choice and develops research hypotheses. The third section describes
research methods, including a description of the empirical model and variables
as well as this studys sample selection and analysis techniques. The fourth
section reports the empirical results and analysis. Finally, the last section
discusses the ndings and presents suggestions for further study.

Literature Review and Hypothesis Development


As globalization increases, many enterprises invest overseas, particularly in
developing countries, making FDI an important factor in economic development and a hot topic in management literature. Many researchers in this stream
discuss location choice by enterprises engaging in FDI. Early research, such as
that by Kojima (1973), proposes that changes in economic factors in the home
country lead enterprises to invest in other countries with a comparative
advantage. Modern research analyzes two aspects of FDI separately when
discussing location choice by MNEs (Tsang and Yip, 2007). In general,
enterprises have two purposes for FDI: to better exploit existing assets and to
seek new assets in the host country (Makino et al, 2002).
According to the asset-exploitation perspective, enterprises engage in FDI to
transfer their own proprietary resources overseas; hence, enterprises use rmspecic advantages to enter a foreign market or nd low-cost natural resources.
According to the asset-seeking perspective, FDI enables enterprises to receive
strategic assets from the host country, such as technology, management
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expertise or marketing expertise (Tsang and Yip, 2007). Strategic assets are
distributed in different countries, indicating that enterprises must seek strategic
assets overseas to maintain long-term advantage (Dunning, 2000). However,
regardless of perspective, prior research proposes that the purpose of FDI for
enterprises is to tap into markets, natural resources or strategic assets unavailable in the home country (Chung and Alcacer, 2002).
In general, geographic proximity can decrease transportation, management
and supervision costs and business risks (Davidson, 1980). Other papers
suggest that the investment location of enterprises inuences the efciency with
which enterprises acquire resources, and thus the effectiveness of the enterprise
(Alcacer and Chung, 2007; Nachum et al, 2008). In other words, the attractiveness of a certain location to investors is determined by its proximity to desired
resources. On the basis of this idea, this study characterizes each region by
proximity to various resources distributed across China. As the three main
resources that foreign enterprises seek are knowledge, market and labor (Jensen
and Pedersen, 2011), we focus on examining how proximity to these three
resources affects FDI location in China.
According to resource-based theory, resources can be classied into tangible
(such as land, factories and equipment) and intangible (such as brand, reputation, patents, technology and knowledge) (Hill and Jones, 1998). Intangible
resources, including knowledge, are difcult to imitate, which provides enterprises with the distinctiveness necessary for sustainability and competitive
advantage (Liebeskind, 1996). However, in a rapidly changing environment,
organizations seeking to maintain advantage in knowledge must continually
gain more knowledge to build on existing resources and further promote
organizational competitiveness (Grant, 1987). Knowledge can be produced
within an enterprise or absorbed from the external environment. Recently,
cross-border knowledge exchange has become more important in the exploitation of knowledge (Spencer, 2003). Therefore, increasing exposure to potential knowledge spillover is an important consideration for enterprises deciding
location.
Knowledge is considered partially tacit, and the transfer of knowledge
requires regular interaction, meaning that physical proximity is necessary for
enterprises to acquire knowledge from a given location (Kogut and Zander,
1992). Geographical proximity can contribute to information exchange
among enterprises and can provide opportunities for face-to-face exchange
(McDermott and Taylor, 1982). On the other hand, distance increases the
difculty of acquiring knowledge (Nachum and Zaheer, 2005). Moreover,
Spencer (2003) found that distance plays a role in cross-border exchanges of
knowledge and technology, meaning that having a source of proximate knowledge is important in acquiring knowledge. In addition, many empirical studies
demonstrate that knowledge spillover exists, and that its extent increases with
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proximity (Almeida and Kogut, 1999; Storper and Venables, 2004). Furthermore,
geographic distance increases the cost of knowledge and technology transfer
(Leamer and Storper, 2001). Therefore, regions closer to areas of dense knowledge in China have more knowledge that can be acquired, and enterprises are
more willing to invest in those regions.
Furthermore, with the increasing speed of knowledge exploitation, the
sooner knowledge is acquired, the higher its value. As geographic proximity is
benecial for earlier knowledge acquisition (Gaspar and Glaeser, 1998),
geographic proximity has high value for enterprises. On the other hand,
distance makes knowledge transmission and transfer difcult, and the knowledge base in remote regions is weaker (Chung and Alcacer, 2002). Enterprises
operating in remote regions are thus at an information disadvantage, which can
negatively impact on investment performance. Therefore, the chance of enterprises choosing to invest in such regions may decrease. That is, the closer the
regions are to areas where knowledge is distributed, the more likely the
enterprises are to invest in these regions.
Hypothesis 1:

Greater proximity of a province (region) to knowledge in China


increases the probability of Taiwanese enterprises investing in
the region.

Market potential is an important factor for enterprises in deciding whether


to invest overseas (Choi et al, 1986). In addition, several papers nd that the
higher the market growth potential, the more likely a region is to become
a location for overseas investment (for example, Galan and Gonzalez-Benito,
2001). This is the main reason that China, with a population of 1.45 billion, has
great market potential and has attracted Taiwanese investment. Market-oriented
enterprises mainly focus on market size and growth rate in the investment
region, and in order to lower transportation costs, they will most probably
invest in locations close to the market (Enright and Scott, 2000).
The Economist (2005) reported that enterprises are unwilling to invest
overseas mainly because of high transportation costs. Moreover, enterprises
investing close to the market are better able to grasp the local culture, economic
activity and laws and regulations faster than their competitors (Craig et al,
1992); hence, they can better serve the regional market under the system set up
by the country. Geographically closer regions can more easily establish partnerships to facilitate market access between them.
Hypothesis 2:

Greater proximity of a province (region) to the market in China


increases the probability of Taiwanese enterprises investing in
the region.

Carr et al (2001) found that asset-seeking enterprises, which pursue low costs
for production and trade, observe comparative advantages and divide business
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activities according to categories such as supply of raw materials, production,


export, sales and retail operations in different regions, to decrease production
and exchange costs. Many empirical studies nd that foreign enterprises invest
in China mainly to take advantage of its high-quality/low-cost labor resources
(Cheng and Stough, 2006; Gao, 2005). Therefore, a regions proximity to labor
resources increases the potential for investment there. In particular, as labor
resources are farther from the investment region, expected returns are lower,
reducing the incentive for enterprises to invest in those regions (Redding and
Schott, 2003). Moreover, current research states that geographic proximity
helps promote learning of product technology and commercial trade (Salomon
and Shaver, 2005), decreases costs for information and management, and
lowers monitoring costs and risks due to uncertainty, which increases the
effectiveness of resource management and distribution (Davidson, 1980).
Therefore, a regions greater proximity to abundant labor resources lowers
local production costs for enterprises, and thus helps attract investment.
Hypothesis 3:

Greater proximity of a province (region) to labor resources in


China increases the probability of Taiwanese enterprises investing in the region.

Research Method
Sample and data collection
Firms listed on the Taiwan Stock Exchange Corporation and investing in China
over the 7-year period 20012007 comprise the sample for this study. Information is mainly collected from the Taiwan Economic Journal (TEJ), the Market
Observation Post System (MOPS) and the China Statistical Yearbook published
by China Statistics Press.
Empirical models
The research utilizes the conditional logit model by McFadden (1973) in the
context of econometrics, which is well suited for the modeling of polychotomous choice situations (Hoffman and Duncan, 1988). Compared with other
discrete-choice models, such as the multinomial logit model, the conditional
logit model is particularly appropriate for models in which the choice among
alternatives is modeled as a function of the characteristics of the alternatives, in
addition to the characteristics of the individual making the choice (So and
Kuhfeld, 1995; Greene, 2008). This methodology has been well developed
and widely used in estimating location choices of FDI (for example, Belderbos and
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Carree, 2002; Alcacer and Chung, 2007). Following prior studies, we employ
the conditional logit model to analyze the location choices of Taiwan investors
in China. After considering controls and variables, the study tests the following
theoretical model:
INVijt a0 a1 NKijt  1 a2 NMijt  1 a3 NLRijt  1 a4 KNOWijt  1
a5 MARKETijt  1 a6 LABORijt  1 a7 GDPijt  1
a8 INFRASINVijt  1 a9 INDUSIZEijt  1 a10 COASTALijt  1
a11 SIZEit a12 PER SALEit a13 RDit a14 GSit
a15 CAPINTSIVEit

3
X
k1

INVijt
NKijt 1
NMijt 1
NLRijt 1
KNOWijt 1
MARKETijt 1
LABORijt 1
GDPijt 1
INFRASINVijt 1
INDUSIZEijt 1
COASTALijt 1
SIZEit
PER_SALEit
RDit
GSit
CAPINTSIVEit
INDUikt
YEARint
358

bk INDUikt

6
X

gn YEARint e

n1

whether enterprise i invests in province (region) j during


period t
proximity to knowledge of province (region) j for enterprise
i during period t 1
proximity to market of province (region) j for enterprise i
during period t 1
proximity to labor of province (region) j for enterprise i
during period t 1
knowledge stock of province (region) j for enterprise i
during period t 1
market potential of province (region) j for enterprise i
during period t 1
labor resources of province (region) j for enterprise i during
period t 1
GDP of province (region) j for enterprise i during period
t 1
basic infrastructure investment of province (region) j for
enterprise i during period t 1
level of industrialization of province (region) j for enterprise
i during period t 1
whether province (region) j is a coastal region for enterprise
i during period t 1
rm size of enterprise i during period t
average sales per employee for enterprise i during period t
R&D intensity for enterprise i during period t
sales growth rate of enterprise i during period t
capital intensity of enterprise i during period t
industry dummies k for enterprise i during period t
year dummies n for enterprise i during period t

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Measurement of variables
Dependent variables
The dependent variable is derived from the annual reports of listed enterprises,
and analysis of the TEJ database and MOPS Summary of Investments in
China. When dening investment regions, the study adopts Chinas classication of regions, as all vital statistics in China appear by region. According to
the denitions used by the China Bureau of Statistics, 31 economic areas
span China. Specically, China is ofcially organized into 22 provinces
(Anhui, Fujian, Gansu, Guangdong, Guizhou, Hainan, Hebei, Heilongjiang,
Henan, Hubei, Hunan, Jiangsu, Jiangxi, Jilin, Liaoning, Qinghai, Shandong,
Shaanxi, Shanxi, Sichuan, Yunnan and Zhejiang), 4 municipalities
(Beijing, Tianjin, Shanghai and Chongqing) and 5 autonomous regions (Inner
Mongolia, Guangxi Zhuang, Tibet, Ningxia Hui and Xinjiang Uyghur). If
enterprise i remits investment during year t to a specic Chinese province
(region) j, INVijt 1, otherwise INVijt 0.
Independent variables
The independent variables include proximity to knowledge, proximity to
market and proximity to labor resources. For measurement of proximity, the
study applies the metrics of Nachum et al (2008) and Alfaro et al (2008). The
study includes proximity of the region j to knowledge, market and labor
resources in all other regions r.
Proximity to knowledge : NKj

30
X

DISjr PATENTr 

r1

Proximity to market : NMj

30
X

DISjr PCGDPr 

r1

Proximity to labor : NLRj

30
X

DISjr LABORr 

r1

DISjr
PATENTr
PCGDPr
LABORr

standardized distance between the province (region) j, where the


enterprise invests, and the province (region) r
number of patents approved in province (region) r
average per capita GDP in province (region) r
number of people with an education level above middle school in
province (region) r

For independent variables, we rst compute all the bilateral distances


between regions j and regions r, and then subtract the average distance divided
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by the standard deviation as standardized values. We then multiply the


standardized distance (DISjr) by knowledge (PATENTr), market (PCGDPr)
and labor (LABORr). The values obtained are then converted to an index from
1 to 100 using the following formula:
Index Value

Original Value  Original Min Value


100  1 1
Original Max Value  Original Min Value

This index will produce scores from 1 to 100. The index measures proximity
to knowledge, market and labor. The smaller the number, the greater the
proximity; the larger the number, the greater the distance.
The following three variables are used to measure the intrinsic endowments
of each region and examine how a regions intrinsic endowments inuence the
investment location of enterprises. In economics, a countrys factor endowment
is commonly understood as the amount of production factors that a country
possesses (Krueger, 1968; Wilson, 1991). Intrinsic endowments here refer to the
amount of resources inherent to a region. Prior studies indicate that regions
with a large resource endowment tend to be more desirable for foreign investors
than those with a small endowment, all other things being equal (for example,
Gao, 2005). In particular, three kinds of resources are important, namely
knowledge, market and labor resources (Jensen and Pedersen, 2011). Therefore,
we measure a regions intrinsic endowments by its current knowledge stock,
market potential and labor force, and include these variables in the model as
controls.
1. Knowledge stock (KNOW ): The number of patents approved in each
investment province (region).
2. Market potential (MARKET ): Average per capita GDP in each investment
province (region).
3. Labor resources (LABOR): Number of people with education level above
middle school in each investment province (region).

Control variables
To control for factors such as special characteristics of each province (region)
and special characteristics of the enterprises, the model includes the following
control variables:
1. Basic infrastructure (INFRASINV): Many empirical studies nd that basic
infrastructure is important in attracting overseas investment; the more
complete the basic infrastructure of an investment region, the lower the
production cost for enterprises, which helps attract enterprises to invest and
set up factories in the region (Cheng and Stough, 2006). Therefore,
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2.

3.

4.

5.

6.

7.

8.

9.

INFRASINV is a control variable measured by the amount of investment in


basic infrastructure in each province (region) each year.
GDP (GDP): GDP represents the development potential for the market
and the market size. The higher the GDP, the greater the market potential
and market size, and the more enterprises the region attracts (Belderbos
and Carree, 2002). Therefore, the study includes GDP as a measure of
market potential.
Level of industrialization (INDUSIZE): The level of industrialization can
show the development level of a regions economy. A higher level of
industrialization indicates that an economy of scale has developed, which
helps lower production costs for enterprises. This study uses the ratio of
workers in the manufacturing industry to total workers in the province
(region) to measure the level of industrialization.
Coastal region (COASTAL): The differences in economic performance
of Chinese coastal and inland regions are vast. Therefore, coastal region
is used as a control variable to test whether Taiwanese enterprises have
a preference for coastal regions for investment. Enterprises investing in
coastal provinces (regions) are designated 1, otherwise 0.
Firm size (SIZE): The size of the enterprise inuences whether an enterprise
invests overseas, as larger enterprises have more potential for transnational
investments than smaller enterprises. Capital invested is used as a measure
of rm size.
Firm performance (PER_SALE): Enterprise performance inuences
whether the enterprise invests overseas, because enterprises invest overseas
to efciently manage and distribute resources in ways more benecial to
them, allowing them to better utilize resources and promote overall
competitiveness. On the basis of research such as that by Nachum et al
(2008), this study uses total sales divided by total employees as a measure of
rm performance.
R&D intensity (RD): R&D intensity reects the commitment of an
enterprise to R&D. Recent studies on overseas investment found that
extensive knowledge exploration offers enterprises the ability to develop
appropriate solutions and avoid falling into the technological framework of
existing models. Therefore, R&D ability inuences whether enterprises are
willing to invest overseas. The ratio of R&D expenses to net sales is used as
a measure of R&D intensity.
Sales growth (GS): Sales growth shows an enterprises potential for growth;
a higher potential for growth will lead to increased foreign investment to
obtain greater prot (Allen and Pantzalis, 1996). Corporate potential
growth is measured by corporate-prot growth rate.
Capital intensity (CAPINTSIVE): Capital intensity shows the special
characteristics of an enterprise. As China has the abundant labor resources
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that Taiwan lacks, enterprises with lower capital intensity will invest in
China to take advantage of the abundant and cheap labor to reduce
production costs. The ratio of an enterprises xed assets to total assets is
used to measure capital intensity.
10. Industry dummies (INDU): To control for different industries, this study
designs three dummy variables to measure whether enterprises are in the
electronics, service or food industries.
11. Year dummies (YEAR): As the sample period covers 7 different years, this
study incorporates six dummy variables in the model to control for
differences between years.

Empirical Results
Descriptive statistics
Our research sample comprises Taiwanese-listed enterprises investing in China.
This study obtained proof of investment from the TEJ, and data on yearly
enterprise investment remittance from the MOPS. The sample covered a 7-year
period and a total of 5416 enterprises, mostly from the electronics manufacturing industry (61.34 per cent); the rest are enterprises in other manufacturing
industries (32.98 per cent), service industry (3.56 per cent) and food industry
(2.12 per cent). Of the 5416 enterprises, 120 had missing information in the
industry category, and were eliminated, leaving 5296. As enterprises choose to
invest in one of the 31 provinces (regions) in China, the sample is 5296  31,
giving a total sample size of 164 176 for testing the logistic model.
The descriptive statistics for the variables in the empirical model can be found
in Table 1. The means for proximity to knowledge (NK), proximity to market
(NM) and proximity to labor (NLR) are close. Moreover, the highest value
for GDP (GDP) is 26 204.47, whereas the lowest is only 117.46, showing that
market size and potential of certain regions are far higher than for others. The
highest value for basic infrastructure (INFRASINV) is 29 657.32, whereas
the lowest is just 64.05, with a standard deviation of 5869.82, showing that the
basic infrastructure of some regions is much better than for others. Observing
variables measuring enterprise characteristics, namely, R&D intensity (RD),
sales growth (GS) and rm size (SIZE), signicant differences were found
among the enterprises.
To perform a logit analysis, we rst performed a Pearson correlation
analysis, with the resulting matrix shown in Table 2. Proximity to knowledge
(NK), proximity to market (NM) and proximity to labor (NLR) have a signicant positive correlation, suggesting that knowledge, market and labor are
concentrated in certain regions in China. Meanwhile, there are signicant
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Table 1: Descriptive statistics


Variable
Proximity to
knowledge
Proximity to market
Proximity to labor
Intrinsic knowledge
Intrinsic market
Intrinsic labor
GDP
Infrastructure
Industrialization
Coastal area
Firm size
Firm performance
R&D intensity
Sales growth
Capital intensity

Code

Mean

NK

167 896

41.65

NM
NLR
KNOW
MARKET
LABOR
GDP
INFRASINV
INDUSIZE
COASTAL
SIZE
PER_SALE
RD
GS
CAPINTSIVE

167 896
167 896
167 896
167 896
167 896
167 896
167 896
167 896
167 896
167 896
164 610
164 610
167 462
167 276

42.90
34.23
6440.38
1.47
22 471.27
5043.52
4853.09
0.23
0.35
15.07
13 213.85
0.03
0.18
0.22

Standard
deviation
25.75
31.50
26.12
10 274.74
1.12
15 257.86
4600.76
5869.82
0.10
0.488
1.34
21 023.08
0.14
1.04
0.21

Minimum Maximum
1.00

100.00

1.00
1.00
7.00
0.28
292.36
117.46
64.05
0.05
0
11.94
11.52
0.00
1.00
0.00

100.00
100.00
72 220.00
7.30
71 940.60
26 204.47
29 657.32
0.51
1
20.25
459 318.00
7.00
50.82
8.16

negative correlations (coefcients between 0.44 and 0.26) when comparing


proximity to knowledge, (NK), proximity to market (NM) and proximity to
labor (NLR) with knowledge stock (KNOW), market potential (MARKET) and
labor resources (LABOR), respectively, indicating that regions with abundant
resources do not necessarily have lower proximity measures.
In addition, for the most part, the correlation coefcients between the
variables for rm characteristics (including enterprise size (SIZE), rm performance (PER_SALE ), R&D intensity (RD), sales growth (GS) and capital
intensity (CAPINTSIVE ) and region variables (including proximity to knowledge (NK), proximity to market (NM) and proximity to labor resources (NLR),
as well as basic infrastructure (INFRASINV ) and level of industrialization
(INDUSIZE ) are lower than 0.3, indicating no multicollinearity problem.
Variance ination factor (VIF) analysis is further performed to test for multicollinearity; the results show that the VIF is no greater than 10 (Hair et al,
1998), indicating that no multicollinearity problem exists in the regression
model. Thus, all variables are included in the logit analysis.

Regression results
Table 3 presents the regression results. According to the table, a regions
intrinsic knowledge, market and labor resources consistently show positive
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364
Yu and Shen

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Table 2: Correlation matrix

Asian Business & Management

1. Proximity to
knowledge
2. Proximity to
market
3. Proximity to
labor
4. Intrinsic
knowledge
5. Intrinsic market
6. Intrinsic labor
7. GDP
8. Infrastructure
9. Industrialization
10. Coastal area
11. Firm size
12. Firm
performance
13. R&D intensity
14. Sales growth
15. Capital intensity

Vol. 12, 3, 351380

10

11

12

13

14

15

0.709  


1


0.866

0.828

0.278  

0.259  

0.299 

0.288  
0.374  
0.390  
0.263  
0.504  
0.501  
0.001
0.003

0.438  
0.386  
0.435  
0.271  
0.576  
0.413  
0.001
0.003

0.399  
0.380  
0.409  
0.304  
0.616  
0.393  
0.000
0.009  

0.520  
0.500  
0.802  
0.781  
0.576  
0.472  
0.011  
0.027  

1
0.005 
0.496  
0.605  
0.585  
0.437  
0.025  
0.049  

0.000
0.000
0.003

0.001
0.006 
0.010  

0.002
0.008  
0.024  

0.007  
0.007  
0.051  

0.075  
0.050  
0.218  

1
0.071  
0.028  

0.000
0.000
0.003

1
0.740  
0.469  
0.354  
0.258  
0.000
0.008  
0.000
0.001
0.005 

1
0.849  
0.627  
0.512  
0.018  
0.037  

1
0.545  
0.341  
0.035  
0.068  

0.004
0.007  
0.037  

0.008  
0.019  
0.066  

 
and  indicate 10 per cent, 5 per cent and 1 per cent signicance level, respectively.
Note: Number of observations included in the analysis of correlations between variables is 164 176.

0.579  
1
0.010   0.000
0.026   0.000
0.001
0.001
0.025 

0.000
0.000
0.000

1
0.258  
0.120  
0.010  
0.072  

0.030   1

Geographic proximity and foreign direct investment

Table 3: The impact of proximity measures on location choice


Variables

Code

Intercept
INTERCEPT
Proximity measures
Proximity to
NK
knowledge
Proximity to market
NM
Proximity to labor
NLR

Expected
sign
?

W/O proximity
measures

With proximity
measures

10.370 (2026.908) 9.259 (1430.376)

0.038 (249.814)




0.014 (41.964)
0.007 (3.642)

Intrinsic endowments
Intrinsic knowledge
Intrinsic market
Intrinsic labor

KNOW
MARKET
LABOR

Control variables
GDP
Infrastructure
Industrialization
Coastal area
Firm size
Firm performance
R&D intensity
Sales growth
Capital intensity

GDP
INFRASINV
INDUSIZE
COASTAL
SIZE
PER_SALE
RD
GS
CAPINTSIVE

0.000 (839.486)
0.000 (352.010)
5.028 (189.765)
0.008 (0.009)
0.204 (267.303)
0.000 (15.781)
0.068(0.320)
0.038 (4.926)
0.615 (28.443)

0.000 (832.977)
0.000 (406.815)
2.871 (61.150)
0.261 (8.410)
0.206 (269.215)
0.000 (15.933)
0.069 (0.324)
0.039 (4.975)
0.620 (28.695)

?
?
?
?
?
?
?
?
?

0.309 (66.709)
0.237 (3.269)
0.012 (0.014)
0.308 (19.660)
0.887 (151.409)
1.838 (540.784)
0.618 (38.211)
1.892 (203.067)
3.313 (471.666)
21
28 249.50
0.326
164 176

0.312 (67.245)
0.239 (3.297)
0.012 (0.014)
0.379 (23.222)
0.939 (129.975)
1.805 (409.599)
0.354 (10.875)
1.189 (66.259)
2.522 (241.748)
24
27 727.20
0.340
164 176

Year and industry dummies


Electronics industry
INDU_elect
Food industry
INDU_food
Service industry
INDU_service
Year 2002
YEAR_2002
Year 2003
YEAR_2003
Year 2004
YEAR_2004
Year 2005
YEAR_2005
Year 2006
YEAR_2006
Year 2007
YEAR_2007
Degree of freedom (DF)
2 log-likelihood
Nagelkerke R2
N

0.000 (37.277)
0.824 (1132.370)
0.000 (4.782)

0.000 (40.083)
0.795 (984.640)
0.000 (3.825)

 , 

and  indicate 10 per cent, 5 per cent and 1 per cent signicance level, respectively.
Note: Wald statistics included in parentheses.

effects on location choice by Taiwanese enterprises investing in China. This is


consistent with current theories, and shows that an abundance of knowledge,
market and labor resources in a region is very important in inuencing
investors location choice.
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Yu and Shen

The log-likelihood ratio ( 2 log-likelihood) for the model including the
proximity measures and for the model without proximity measures is 27 727.20
and 28 249.50, respectively, which are both signicant at 99 per cent condence
level. In addition, the predictability of the model with the measures for
proximity is higher than the predictability of the model without the measures,
indicating that proximity measures have incremental explanatory power with
regard to location choice.
As shown in Table 3, proximity to knowledge, proximity to market and
proximity to labor resources each have a different inuence on location choice
by Taiwanese enterprises. The coefcient for proximity to knowledge (NK)
is 0.038, which is signicant at the 1 per cent level, suggesting that regions
more centrally located with regard to the spatial distribution of the countrys
knowledge are more likely to be chosen for investment, which supports
Hypothesis 1. Moreover, this suggests that the cost of accessing knowledge,
higher in regions that are farther away, decreases an enterprises desire to invest
in a region.
The coefcient for proximity to market (NM) has a signicant positive effect
(0.014, P-valueo0.01), indicating that regions less centrally located with regard
to the countrys markets are more likely to be chosen for Taiwanese enterprises
investment locations, which is contrary to Hypothesis 2. It is generally observed
that many Taiwanese manufacturers entering China early set up production
bases in China; however, they mainly export their products, instead of focusing
on the Chinese market. Therefore, being close to the market has relatively fewer
benets, particularly as the facility costs are higher in high-population areas.
As the sample period is 20012007 and the sample for this study mainly
comprises manufacturers, particularly electronics manufacturers, the results
from this study are consistent with practical observations.
Finally, consistent with Hypothesis 3, the coefcient for proximity to labor
resources (NLR) has a signicant negative effect ( 0.007), suggesting that
proximity to regions with large labor pools also increases the likelihood of
Taiwanese enterprises investing in that region.
Furthermore, according to Table 3, most of the control variables are statistically signicant, which is consistent with the expectations. First, the coefcients for basic infrastructure (INFRASINV) and level of industrialization
(INDUSIZE) are positive and statistically signicant, indicating that the higher
the level of basic infrastructure and industrialization, the more likely Taiwanese
enterprises are to invest in the region. This is consistent with past locationchoice research, and shows that geography is an important inuence in location
choice. If these factors are absent from the regional model, judgment about
location choice by enterprises will include bias. On the other hand, the coefcients for the enterprise characteristics variables, including enterprise size
(SIZE), rm performance (PER_SALE) and sales growth (GS), are positive
366

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Geographic proximity and foreign direct investment

and statistically signicant, suggesting that the larger the enterprise, the better
the rm performance, the greater the sales growth therefore, the more likely
the enterprise is to invest in China.
The coefcient for capital intensity (CAPINTSIVE) is negative and statistically signicant, suggesting that a labor-intensive enterprise will most probably
invest in China. This is consistent with the main reasons given by Taiwanese
enterprises. In addition, the industry dummies are statistically signicant,
meaning that different industries might have different reasons and strategies
for investing in China. The effect on the electronics industry is positive, whereas
the effect on the food industry is negative, showing that compared with other
manufacturing industries, enterprises in electronics manufacturing will most
probably choose to invest in China. However, the food industry is less likely to
do so. As the Chinese economy has developed and consumer purchasing power
has increased, the number of enterprises investing in China is changing.
However, these results are consistent with actual facts during the sample period.
Different industries have various considerations for location choice, due to
different investment purposes. To gain additional insight into industrial
variations on the impact of proximity, this study examines location choice
across various industries, specically viewing the manufacturing, food and
services industries. Table 4 shows the results.
As shown in Table 4, the explanatory powers of the model for the
manufacturing, food and services industries (Nagelkerke R2) are 0.349, 0.242
and 0.270, respectively, whereas the log-likelihood ratios ( 2 log-likelihood)
are 26 118.95, 527.53 and 868.52, respectively, all of which are signicant at 99
per cent condence level. However, the inuence of the different proximity
factors on the various industries differs.
For manufacturers, the intrinsic characteristics of the regions signicantly
inuence location choice by enterprises, as knowledge stock (KNOW), market
potential (MARKET) and labor resources (LABOR) all have a signicant
positive effect. This indicates that the higher the knowledge stock, the greater
the market potential, and the greater the labor resources of a region therefore,
the more likely Taiwanese enterprises are to invest in that region. Beyond the
intrinsic characteristics of a region, the inuence of proximity measures on
investment position is also statistically signicant, as proximity to knowledge
(NK) and proximity to labor resources (NLR) have a signicant negative effect,
whereas proximity to market (NM) has a signicant positive effect. This
indicates that for manufacturers, regions closer to Chinas knowledge and labor
resources are more likely to attract investment. Meanwhile, as the effect of
proximity to market is signicantly positive, this suggests that manufacturers
are less likely to invest in regions that are proximate to Chinese markets.
For the food and services industries, the effect of knowledge endowments
(KNOW) and labor resources (LABOR) is insignicant. Rather, the market is
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368

Table 4: The impact of proximity measures on location choice_by industry

Intercept
Proximity measures
Proximity to knowledge
Proximity to market
Proximity to labor
Intrinsic endowments
Intrinsic knowledge
Intrinsic market
Intrinsic labor

Asian Business & Management

Control variables
GDP
Infrastructure
Industrialization
Coastal area
Firm size
Firm performance
R&D intensity
Sales growth
Capital intensity

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Year dummies
Year 2002
Year 2003
Year 2004
Year 2005
Year 2006
Year 2007
Degree of freedom (DF)
2 log-likelihood
Nagelkerke R2
N
 , 

Code

Expected sign

Food


8.334

Service


6.983

Manufacturing
9.355 (1377.733)

INTERCEPT

NK
NM
NLR





KNOW
MARKET
LABOR

GDP
INFRASINV
INDUSIZE
COASTAL
SIZE
PER_SALE
RD
GS
CAPINTSIVE

0.000 (0.167)
0.000 (0.083)
4.879 (3.857)
0.871 (2.819)
0.270 (3.376)
0.000 (6.649)
64.550 (3.033)
1.639 (2.075)
1.519 (1.175)

0.000 (5.838)
0.000 (1.425)
4.022 (4.740)
0.398 (0.819)
0.059 (0.627)
0.000 (2.050)
18.762 (0.955)
0.174 (0.744)
1.464 (9.453)

0.000 (844.196)
0.000 (426.039)
2.774 (52.768)
0.320 (11.382)
0.213 (274.787)
0.000 (16.926)
0.069 (0.330)
0.042 (5.949)
0.702 (23.325)

YEAR_2002
YEAR_2003
YEAR_2004
YEAR_2005
YEAR_2006
YEAR_2007

?
?
?
?
?
?

0.492 (1.042)
0.960 (3.549)
1.074 (4.308)
1.780 (5.726)
1.500 (3.279)
3.094 (9.115)
21
527.53
0.242
3565

0.391 (0.779)
0.824 (3.419)
2.057 (16.617)
1.099 (3.801)
2.388 (9.723)
3.680 (18.591)
21
868.52
0.270
4836

0.394 (23.325)
0.975 (129.264)
1.848 (394.492)
0.305 (7.482)
1.090 (51.318)
2.452 (211.351)
21
26 118.95
0.349
155 775

(10.306)

0.001 (0.013)
0.029 (5.548)
0.026 (2.552)
0.000 (2.488)
0.432 ((6.408)
0.000 (0.698)

and  indicate 10 per cent, 5 per cent and 1 per cent signicance level, respectively.
Note: Wald statistics included in parentheses.

(23.626)

0.010 (0.926)
0.037 (10.288)
0.011 (0.491)

0.041 (261.197)
0.014 (38.386)
0.008 (4.306)

0.000 (0.487)
1.063 (63.065)
0.000 (0.882)

0.000 (46.938)
0.802 (927.781)
0.000 (5.499)

Yu and Shen

r 2013 Macmillan Publishers Ltd. 1472-4782

Variables

Geographic proximity and foreign direct investment

the most important consideration for location choice by these investors,


particularly the intrinsic market potential of the region. Enterprises in the
service and food industries are more likely to invest in regions with higher
market potential.
Enterprises in the food industry are more likely to choose regions proximate
to a market as an investment location. However, for the service industry,
avoiding competition is more important, so Taiwanese enterprises will most
probably choose regions that are higher in proximity, meaning that if the
enterprises are not investing in regions with high market potential, they choose
remote regions away from markets to avoid competition, as a way to establish a
new market.

Sensitivity analyses
The correlation coefcient for the relationship between proximity to knowledge
(NK) and proximity to labor resources (NLR) is 0.866. Although the VIF did
not show any problems of multicollinearity, to eliminate any statistical issues
due to the relationship between proximity to knowledge and proximity to labor
resources (Allison, 1977), the study uses a method from prior literature (for
example, Mosteller and Tukey, 1977; Smith and Sasaki, 1979) to eliminate
factors related to proximity to knowledge in the measure for proximity to labor,
and produce a new measure for proximity to labor. This test is implemented in
two steps. First, we estimate a pooled regression of proximity to labor on a
constant and on proximity to knowledge. The coefcient estimates on the
constant and proximity to knowledge are then used to construct estimates of
new proximity to labor resources. That is, new proximity to labor resources is
estimated as the residual in the regression of proximity to labor resources on a
constant and on proximity to knowledge; hence, the new proximity to labor
resources is unrelated to proximity to knowledge. Second, original proximity to
labor resources is replaced with new proximity to labor resources and the
empirical model is then estimated. As Smith and Sasaki (1979) demonstrate, the
coefcient for the new proximity to labor resources measure from the regression
using this method is unbiased. The rst column of Table 5 presents the results of
the test.
As shown in Table 5, the intrinsic endowments of a region have a signicant positive effect on investment location choice, whereas the measures for
proximity have incremental explanatory power for location choice. Proximity
to knowledge and proximity to labor resources have a signicant negative effect
on location choice, indicating that regions more centrally located in the spatial
distribution of Chinas knowledge and labor resources are more likely to
become investment locations. On the other hand, proximity to markets has
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Yu and Shen

Table 5: Sensitivity analyses


Variables
Intercept
Proximity measures
Proximity to
knowledge
Proximity to market
Proximity to labor
Intrinsic endowments
Intrinsic knowledge
Intrinsic market
Intrinsic labor
Control variables
GDP
Infrastructure
Industrialization
Coastal area
Firm size
Firm performance
R&D intensity
Sales growth
Capital intensity

Code

Expected
sign

INTERCEPT

9.234 (1417.205) 9.148 (1399.663)

NK

0.043 (313.532)

0.031 (298.676)

NM
NLR




0.014 (41.964)
0.007 (3.642)

0.012 (52.577)
0.007 (3.642)

KNOW
MARKET
LABOR

0.000 (40.083)
0.795 (984.640)
0.000 (3.825)

0.000 (40.083)
0.795 (948.640)
0.000 (3.825)

GDP
INFRASINV
INDUSIZE
COASTAL
SIZE
PER_SALE
RD
GS
CAPINTSIVE

0.000 (832.977)
0.000 (406.815)
2.871 (61.150)
0.261 (8.410)
0.206 (269.215)
0.000 (15.933)
0.069 (0.324)
0.039 (4.975)
0.620 (28.695)

0.000 (832.977)
0.000 (406.815)
2.871 (61.150)
0.261 (8.410)
0.206 (269.215)
0.000 (15.933)
0.069 (0.324)
0.039 (4.975)
0.620 (28.695)

?
?
?
?
?
?
?
?
?

0.312 (241.748)
0.239 (3.297)
0.012 (0.014)
0.379 (23.222)
0.939 (129.975)
1.805 (409.599)
0.354 (10.875)
1.189 (66.259)
2.522 (241.748)
24
27 727.20
0.340
164 176

0.312 (67.245)
0.239 (3.297)
0.012 (3.297)
0.379 (23.222)
0.939 (129.975)
1.805 (409.599)
0.354 (10.875)
1.189 (66.259)
2.522 (241.748)
24
27 727.20
0.340
164 176

Year and industry dummies


Electronics
INDU_elect
Food
INDU_food
Service
INDU_service
Year 2002
YEAR_2002
Year 2003
YEAR_2003
Year 2004
YEAR_2004
Year 2005
YEAR_2005
Year 2006
YEAR_2006
Year 2007
YEAR_2007
Degree of freedom (DF)
2 log-likelihood
Nagelkerke R2
N

Alternative
measure no. 1

Alternative
measure no. 2

 , 
and  indicate 10 per cent, 5 per cent and 1 per cent signicance level, respectively.
Note: Wald statistics included in parentheses.

a signicant positive effect on location choice, suggesting that if Taiwanese


enterprises do not choose locations for market potential, they will choose
regions distant from the Chinese markets to develop new markets.
370

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Geographic proximity and foreign direct investment

To further decrease the correlation between the independent variables, the


study uses a similar method to eliminate factors relating to proximity to knowledge in the measure for proximity to market, to create a new measure
for proximity to market. In addition, this study eliminates factors related
to proximity to knowledge and factors related to proximity to market in the
measures for proximity to labor resources, to create a new measure for
proximity to labor resources. These two new measures are then run through a
regression analysis, with the outcomes shown in the second column of Table 5.
All three measures for proximity are statistically signicant, and their direction
is consistent with the above ndings. This once again validates expectations in
Hypothesis 1 and Hypothesis 3.

Endogeneity issue
Another concern about our analysis is potential endogeneity, mainly reverse
causality and omitted variables bias. In our empirical results above, we address
possible endogeneity in several ways. First, extensive control variables are
included in the model to resolve omitted variable bias. Specically, all the
frequently examined determinants of FDI location choice in the literature are
entered into the analysis, such as basic infrastructure (Cheng and Stough, 2006),
gross domestic production (Zhao and Zhu, 2000), coastal area (Belderbos and
Carree, 2002), level of industrialization (Sun et al, 2002) and rm characteristics
(Makino et al, 2002).
Second, we use the discrete choice Instrumental Variable (IV) estimator to
control for endogeneity. Following the econometrics literature (for example,
Smith and Blundell, 1985; Rivers and Vuong, 1988), this study employs a twostage estimator. The estimation procedure is to model a continuous endogenous
regressor as a linear function of the exogenous regressors and instrument.
Predicted values from this regression are then used in the second stage discretechoice model. This two-step method is suggested to be consistent (Adkins,
2009). After reviewing available data, we nd one variable to be an appropriate
instrument regional density. This variable is measured by dividing the number
of rms distributed in one region by the oor-space of that region. It is highly
correlated with the potentially endogenous regressors (that is, three proximity
measures), but does not directly inuence the dependent variable (that is,
location choice). In addition, while estimating the discrete-choice IV model, we
exclude one control variable, level of industrialization, from the model, because
of its potential correlation with the instrument. The estimation results are
reported in Table 6. The coefcient for proximity to knowledge is signicantly
negative ( 0.011), supporting Hypothesis 1. Consistent with Hypothesis 3, the
coefcient for proximity to labor has a signicantly negative effect ( 0.013).
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372
Yu and Shen

r 2013 Macmillan Publishers Ltd. 1472-4782

Table 6: Results of the discrete-choice IV estimator


Variables

Code

Expected sign

Model 1


( 26.31)

Model 2


5.461

( 26.40)

Model 3
4.036 ( 8.46)

Asian Business & Management


Vol. 12, 3, 351380

INTERCEPT

4.311

NK
NM
NLR





0.011 ( 6.13)

0.006 (3.31)

0.013 ( 1.92)

Intrinsic endowments
Intrinsic knowledge
Intrinsic market
Intrinsic labor

KNOW
MARKET
LABOR

0.000 (11.31)
0.343 (16.01)
0.000 (2.07)

0.000 (3.33)
0.366 (15.27)
0.000 (2.29)

0.000 (4.63)
0.225 (2.60)
0.000 (2.73)

Control variables
GDP
Infrastructure
Coastal area
Firm size
Firm performance
R&D intensity
Sales growth
Capital intensity

GDP
INFRASINV
COASTAL
SIZE
PER_SALE
RD
GS
CAPINTSIVE

0.000 (25.58)
0.000 ( 21.85)
0.065 ( 1.22)
0.107 (17.37)
0.000 ( 3.87)
0.084 (1.70)
0.018 (2.06)
0.278 ( 4.98)

0.000 (20.95)
0.000 ( 20.74)
0.145 (4.52)
0.106 (17.37)
0.000 ( 3.89)
0.072 (1.43)
0.018 (1.94)
0.265 ( 4.83)

0.000 (11.78)
0.000 ( 1.55)
0.445 (6.73)
0.102 (17.05)
0.000 ( 3.95)
0.067 (1.34)
0.018 (2.06)
0.260 ( 4.82)

Intercept
Proximity measures
Proximity to knowledge
Proximity to market
Proximity to labor

r 2013 Macmillan Publishers Ltd. 1472-4782

 , 

INDU_elect
INDU_food
INDU_ service
YEAR_2002
YEAR_2003
YEAR_2004
YEAR_2005
YEAR_2006
YEAR_2007

?
?
?
?
?
?
?
?
?

0.119 (6.49)
0.064 ( 1.07)
0.018 (0.37)
0.116 ( 3.45)
0.3767 ( 10.59)
0.682 ( 17.13)
0.097 ( 1.96)
0.399 ( 6.64)
0.952 ( 12.95)
21
6946.79
0.0000
164 176

0.118 (6.52)
0.082 ( 1.38)
0.001 ( 0.02)
0.06 ( 1.96)
0.212 ( 6.56)
0.629 ( 15.98)
0.725 ( 17.43)
1.473 ( 29.80)
2.008 ( 34.44)
21
6834.53
0.0000
164 176

0.121 (6.77)
0.084 ( 1.42)
0.007 (0.14)
0.108 ( 2.01)
0.264 ( 5.41)
0.399 ( 11.08)
1.002 ( 20.20)
0.7551 ( 12.41)
1.142 ( 12.40)
21
5850.79
0.0000
164 176

1
2.15
0.1426

1
2.43
0.1187

1
0.58
0.4473

and  indicate 10 per cent, 5 per cent and 1 per cent signicance level, respectively.
Note: Wald statistics included in parentheses.

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Asian Business & Management

Year and industry dummies


Electronics
Food
Service
Year 2002
Year 2003
Year 2004
Year 2005
Year 2006
Year 2007
Degree of freedom
Wald w2
Prob4w2
N
Wald test of exogeneity:
Degree of freedom
w2
Prob4w2

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As for the coefcient for proximity to market, it is signicantly positive (0.006).


These results are all consistent with our prior analyses. In addition, the results
from the Wald test of exogeneity show that the null hypothesis of exogeneity is
not rejected for each model. Taken together, there is no harmful impact of
endogeneity in the main results of this study.
Third, we lagged the explanatory variables by 1 year to avoid possible reverse
causality. The reverse causality issue here refers to the likelihood that the location
choice of foreign investors could lead to changes in a regions proximity to the
resources distributed in the country. As location choice is made in year t and the
three proximity variables are measured in year t 1, it is unlikely for foreign
investors investment decisions in the current year to have signicant impact on
the proximity measures of investment regions in the prior year. The econometric
theory supports that lagging is able to free the model from simultaneity bias
(Wooldridge, 2002), and it has been widely used to reduce the problem of reverse
causality (for example, Wiklund and Shepherd, 2003). Finally, following prior
studies, we employ the discrete-choice model with rm-level data to further
minimize potential endogeneity (for example, Du et al, 2008). In the country-level
analysis with aggregated FDI data, reverse causality is more likely to be a concern, as a large volume of FDI may inuence the distribution of resources across
regions. However, it is generally believed that an individual rms location
decision is unlikely to have such a large impact on the proximity of particular
regions to resources distributed across the entire country.

Conclusion and Discussion


Following reforms and implementation of an open-door policy, Chinas economy has been developing rapidly, supporting the trend of foreign enterprises
investing in China. Much current research on this trend investigates location
choice by enterprises investing in China. However, most studies focus only on
the inuence of factors such as the characteristics, systems, culture and basic
infrastructure of the regions themselves, while ignoring how the environment where particular regions are embedded inuences enterprise decisions.
Therefore, using network theory as a foundation, this study analyzes how the
embedded spatial context inuences the likelihood of an enterprise to invest in
a region.
In general, this study treats China as one system and specically views
various regions to understand the distribution of knowledge, market and labor
resources. Then, this study analyzes the level of proximity to knowledge, market
and labor resources in a given region, while further studying how these
proximity measures inuence the preference of enterprises for investing in that
region. Empirical results show that in combination with a regions resource
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Geographic proximity and foreign direct investment

endowments, measures of proximity also have great explanatory power for


enterprises location choice. This suggests that geographic characteristics,
particularly spatial location, inuence the decisions of enterprises investing in
China. In terms of direction, they will most probably invest in regions
proximate to knowledge and labor resources and far from markets.
This outcome is closely related to the particular characteristics of Taiwanese
enterprises investing in China, among which a large proportion are manufacturers. Moreover, it is consistent with general observations of FDI in Asia.
In the past decade, export orientation has played a central role in Asian
economic development (Gaulier et al, 2007). A signicant proportion of FDI in
Asia is characterized as export-oriented investments to create a production site
for exporting (Baek and Okawa, 2001). In particular, Asian FDI is dominated
by ows from more developed countries with high-technology economies (such
as the United States and Japan) to emerging countries with medium-technology
economies (such as China and Vietnam) (Petri, 2012). As their FDI is intended
for production in the host country, investors from developed countries are
seeking labor-cost savings and favor locations more proximate to abundant
labor resources and further away from regions with higher wage rates (Wakasugi,
2005). In addition, export-oriented foreign investors are more responsive to the
technological gap in the host country (Mataloni Jr, 2011; Petri, 2012) and prefer
locations more proximate to technological knowledge. Given the strong export
orientation of Taiwan investors in China, our ndings can be described as a
typical phenomenon in Asia.
This research contributes to theory in several ways. First, past research
focused on analyzing location choice at country level, whereas this study
provides empirical evidence for location choice on a sub-national level. Second,
past research focused on analyzing the inuence of geographic distance between
host and home countries on location choice (for example, Alstyne and
Brynjolfsson, 2005), whereas this study nds that in investment locations with
high heterogeneity, such as China, in addition to geographic distance between
a given location and other regions, the knowledge-, market- and labor-resource
endowments of proximate regions are important considerations in location
choice. Third, past research has focused on the inuence of economic and
institutional factors, whereas this study suggests that geographic factors
are also an important factor, particularly the spatial context in which a given
region is embedded. Therefore, if these factors are ignored, predictions
regarding location choice by enterprises might not be as accurate. Fourth, this
study supports network theory, as apart from the intrinsic characteristics of
a region, the position of a region within the network also inuences enterprises
willingness to invest there. Finally, this study demonstrates Nachum et al (2008)
suggestion that measures for proximity may be used on smaller geographic
units.
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Yu and Shen

The outcomes have the following implications for management. First, the
present study is a quantitative study of the geographic characteristics of Chinese
regions, and the results can help foreign investors in China compare differences in
geographic characteristics of various regions and develop a better location-choice
strategy to increase their competitive advantage in China. Second, China is a very
large country where the geographic environment and resource endowments of
various regions differ greatly, as well as the geographic distance between regions.
Therefore, this study provides a model to assist enterprises in weighing the tradeoff between geographic distance and resource endowments, which will help
enterprises establish rm-specic advantages through location choice.
Furthermore, the results show that beyond the intrinsic endowments of regions,
the spatial context in which a specic region is embedded is also an important
factor inuencing a regions potential for value creation, indicating that if
enterprises ignore this factor, they may not make an optimal location choice.
Finally, this study nds that industries have differing concerns when they make
location choice, and therefore the inuence of geographic distance and resource
distribution on location choice differs according to industry characteristics.
The research has limitations. As the study focuses only on Taiwanese-listed
companies investing in China, the attributes of these Taiwanese enterprises may
have inuenced the results. Future research could focus on a different country
of origin for comparison and further analysis. In addition, as Taiwan law limits
investment in China in certain conditions, there may be a few Taiwanese
enterprises that reinvest through a third country, and do not report these
investments in their annual reports. However, as the sample includes all direct
investments in China by Taiwanese-listed companies, the missing information
should not inuence the results and ndings.

Acknowledgements
The authors acknowledge constructive suggestions from two anonymous reviewers and are grateful for comments by Mei-Chu Huang, Chun-Yuan Christian
University, and Chun-Ju Liu, Tunghai University, on earlier drafts. The authors
also acknowledge nancial support from the National Science Council of Taiwan,
Republic of China (NSC 96-2416-H-194-032-MY3). The authors alone are responsible for all limitations and errors that may relate to the study and the article.

About the Author


Sui-Hua Yu is currently an Associate Professor in the Department of Accounting
at National Chung Hsing University, Taiwan. She received her PhD in
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accounting from National Chengchi University, Taiwan. She has published


in the areas of business and management accounting research. Her research
interests include foreign direct investment in China, intangible assets and
innovation management.
Chen Feng Shen is currently a Senior Associate at Price Waterhouse Coopers
Taiwan. He received his MA in accounting and information technology from
National Chung Cheng University, Taiwan. His research interests center on
cost accounting and foreign direct investment in China.

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