What Is a Special Economic Zone (SEZ)?

A special economic zone is an area in a country that is subject to unique economic regulations that differ from other regions of the same country. The SEZ regulations tend to be conducive to foreign direct investment (FDI). Conducting business in an SEZ typically implies that the company will receive tax incentives and the opportunity to pay lower tariffs.

Special Economic Zones Explained

SEZs are zones intended to facilitate rapid economic growth by leveraging tax incentives to attract foreign dollars and technological advancement. While many countries have set up SEZs, China has been the most successful in using SEZs to attract foreign capital. China has even declared an entire province, Hainan, to be an SEZ.

Key Takeaways

  • SEZs are subject to unique economic regulations that differ from other areas in the same country.
  • SEZs are supposed to facilitate rapid economic growth by leveraging tax incentives to attract foreign investment and spark technological advancement.
  • The first four SEZs in China were all based in the southeastern coastal region, including Shenzhen, Zhuhai, Shantou, and Xiamen.

The Appearance of Modern SEZs

The first modern SEZs appeared in the late 1950s in industrialized countries. They were designed to attract foreign investment from multinational corporations. The first was in Shannon Airport in Clare, Ireland. In the 1970s, zones were established in Latin America and East Asia. The first one in China appeared in 1979, the Shenzhen Special Economic Zone. The first four Chinese SEZs were all based in southeastern coastal China and included Shenzhen, Zhuhai, Shantou, and Xiamen. China allowed, and continues to allow, these areas to offer tax incentives to foreign investors and develop their infrastructure without approval. The SEZs essentially act as liberal economic environments that promote innovation and advancement within China's borders. The SEZs continue to exist with great success.

The success of Shenzhen and the other SEZs prompted the Chinese government to add 14 cities plus Hainan Island to the list of SEZs in 1984. The 14 cities include Beihai, Dalian, Fuzhou, Guangzhou, Lianyungang, Nantong, Ningbo, Qinhuangdao, Qingdao, Shanghai, Tianjin, Wenzhou, Yantai, and Zhanjiang. New SEZs are continually being declared and include border cities, provincial capital cities, and autonomous regions. 

Benefits of Implementing SEZs

The benefits of operating within an SEZ include tax breaks for business owners and independence. However, the macroeconomic and socioeconomic benefits for a country using an SEZ strategy are a subject of debate.

Real World Example

In the case of China, mainstream economists agree that the country's SEZs helped liberalize the once traditional state. China was able to use the SEZs as a way to slowly implement national reform that would have been otherwise impossible. Studies have also found that SEZs elsewhere increase export levels for the implementing country and other countries that supply it with intermediate products. However, there is a risk that countries may abuse the system and use it to retain protectionist barriers in the form of taxes and fees. SEZs also create an excessive bureaucracy that funnels money away from the system, which makes it less efficient.