Taiwan's economics ministry approved on Friday a plan by AU Optronics Corp to build a new LCD plant in China, paving the way for the world's No.4 LCD maker to tap future growth potential on the mainland.

The ministry also said it is studying a plan to allow Chinese appliance makers to invest in Taiwan LCD makers, which need to stay competitive with sector leaders Samsung and LG Display that have received official approval from China to build $6 billion worth of LCD plants in China.

Asian makers of liquid crystal displays (LCDs) are rushing to set up production bases in China, which could soon become the world's top LCD TV market. China is home to some of the world's top TV makers including TCL and Haier.

AU, a supplier to top brands such as Dell, Hewlett-Packard and Sony, would set up the $3 billion LCD factory by using 7.5-generation technology to make panels in Kunshan of eastern China.

The investment met our requirements after examination by relevant departments and the ministry's investment commission decided to approve it, the ministry said in a statement.

AU said in a statement on Friday that it was pleased with the approval.

The decision came after the Taipei stock market closed. AU's Taipei-listed shares fell 1.27 percent, against the main TAIEX's 0.41 percent rise.

But the stock had risen 4 percent in the past four sessions after the government said last weekend that it was likely to approve the China plant by the end of the month at the earliest.

It is positive for AU in the longer term but the stock has been flat recently and we really have to see some pickup in demand before we buy its shares, said Michael On, managing director at Taiwan's Beyond Asset Management.

AU shares have been rangebound in the past several months amid slack sales and weaker panel prices, while AU expects the LCD market to start bottoming out in the first quarter of 2011.

Earlier this week, AU said it expected the China plant to start operating in 2012 after receiving governmental approvals from Taiwan and China. AU also did not rule out building more LCD module plants in China next year.

Larger local rival Chimei Innolux Corp, the world's No.3 LCD maker, is also reportedly to apply to set up its own 7.5-generation LCD plant in China in the first quarter of next year. Japan's Sharp Corp is in talks with China on building an 8th generation plant.

(Reporting by Argin Chang and Baker Li; Editing by Jonathan Standing)