Special Economic Zone - SEZ

What is a 'Special Economic Zone - SEZ'

A special economic zone (SEZ) refers to designated areas in countries with special economic regulations that differ from other areas in the same country. These regulations tend to contain measures that are conducive to foreign direct investment. Conducting business in a SEZ usually means a company receives tax incentives and the opportunity to pay lower tariffs.

BREAKING DOWN 'Special Economic Zone - SEZ'

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. In fact, China has even declared an entire province, Hainan, to be an SEZ, which is quite distinct, as most SEZs are cities.

It should come as no surprise that China first pioneered the idea of SEZs by creating four of them in 1980. The first four SEZs were all based in southeastern coastal China and made up of Shenzhen, Zhuhai, Shantou and Xiamen. China allowed, and continues to allow, these areas to offer tax incentives to foreign investors and to develop their own infrastructure without approval. The SEZs essentially acted as an economic liberal environment that promoted innovation and advancement within China's borders. The SEZs continue to exist with great success.

Since 1980, China has expanded the number of SEZs to more than 38, not including the entire province of Hainan Island. The additional SEZs followed the same path as the first four and realized fast growth. Shenzhen, for example, grew from 30,000 people in 1979 to more than 1 million at the turn of the century.

Benefits of Implementing SEZs

The benefits of operating within a SEZ are pretty cut and dried; business owners receive tax breaks and freedom. However, the macroeconomic and socioeconomic benefits for a country using a SEZ strategy are a little less black and white. Taking China as an example, it is the consensus of mainstream economists 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. Beyond China, studies have also found that SEZs increase export levels for the country that implements the zone and for other countries that supply it with intermediate products.

There is the risk, however, that countries abuse the system slightly and use it as an excuse to retain protectionist barriers in the form of taxes and fees. SEZs also create excessive bureaucracy that funnels money away from the system.