China Trends #1 - The Long and Winding Road to an EU-China Investment Treaty

Europe

Author

Mathieu Duchâtel

Resident Senior Fellow and Director of International Studies

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The European Council has again defined the negotiation of a Bilateral Investment Agreement (BIA) with China as a priority, in fact "the EU’s main priority towards deepening and rebalancing its economic relationship with China". China’s 2018 Policy Paper on the European Union also places priority on the conclusion of an agreement, even though the BIA is clearly seen as a stepping stone to a full free-trade agreement.(1)

Seven years after the decision to launch bilateral negotiations was reached at the 15th EU-China Summit, the negotiating teams of the two sides have gone through their 19th round of negotiations last October in Brussels.The succinct communiqué jointly adopted after the negotiation mentions "an effort to bridge the gaps on a number of remaining issues". This clearly remains an arduous task. Yet, the adoption in 2019 of the EU Investment Screening Mechanism and of China’s new Foreign Investment Law create an environment of greater legal clarity for the two sides.

The current difficulties encountered reflect "growth pains" in the EU-China relationship.

Overall, Chinese commentators are relatively upbeat regarding the prospects of concluding an agreement. They distinguish between short-term obstacles and long-term perspectives and argue that a strong common interest to create rules to regulate the bilateral investment relationship will prevail in the long run.The current difficulties encountered reflect "growth pains" (成长中的烦恼) in the EU-China relationship. According to this logic, the two sides need to come to terms with the fact that besides the complementarity of the EU and the Chinese economies, which has not completely disappeared, "competition is more and more salient" (越来越突出).

Obstacles and solutions

Chinese analysts have responses for most of the complaints and demands formulated by the European side. Problems are understood as differences in perceptions and understanding that need to be bridged. They cover four main areas: market access, sustainable development norms, corporate social responsibility standards and the composition of the negative list. There is a recognition that what China faces from the European Union is a "major challenge" to converge.

But how should the two sides go around the concrete obstacles that have been delaying the conclusion of the agreement? Wang Haochen, from the Department of Economic Forecast under the State Information Center of the National Development and Reform Commission, presents the problem as a bargaining issue. On the one hand, the EU’s key goals is to "reduce to the minimum the sectors on China’s negative list". On the other hand, China faces an "incessant flow of restrictive regulations adopted against Chinese investment" (针对我国投资频频出台限制法规) and differences that remain important in levels of developments. In addition, the EU and China diverge on how they understand "openness" (开放程度), even though the extent of this divergence is not defined precisely in the source.

Wang Haochen’s tone is resolutely positive when it comes to European pressure on state-owned enterprises (SOEs) and subsidies. The two sides have "different understandings of what a fair competition environment means" (公平竞争环境). But external pressure is helpful domestically to promote SOE reform in the direction of "modern management, system of property rights and reduction of direct state interference in corporate affairs" (降低政府对企业经营行为的直接干预). No specific concessions are envisioned though. Wang Haochen insists on the "necessary state protection of the interests of SOEs".

China faces an "incessant flow of restrictive regulations adopted against Chinese investment".

Differences on norms and standards are portrayed as part of a historical necessity tending towards convergence. Chinese direct investment in the EU is one way through which Chinese companies will upgrade their own norms and standards of operations, especially with regards to human resources. But Wang shows much less flexibility and optimism where intangible technology transfers are linked to direct investment in China. He describes such transfers as an "unavoidable situation" (不可避免的情况), not even mentioning the new legal guarantees prepared by China in its draft Foreign Investment Law to reassure investors.

Wang Haochen makes two recommendations in order to conclude the negotiations with the European Union.

First, argue strongly (据理力争) that the EU should reduce the level of scrutiny of Chinese direct investment, and negotiate an agreement that supersedes the EU investment screening mechanism and the national screening mechanisms (权限高于欧盟及成员国颁布的管制条例或法律). How could an external agreement supersede EU rules that have just been adopted remains unclear. This is particularly striking as China itself now strongly insists on the primacy of its legal system over international law in many issues, ranging from maritime affairs to human rights.
Second, he suggests a gradual opening market access on the basis of careful risk assessments. He does not make any specific recommendation beyond the car and finance industries which have been designated for gradual opening in the spring of 2018. China’s logic should focus on “strategically controlling the rhythm of market opening, layer after layer”, and it should maintain strong safeguards such as national security screening (despite the risk of being accused of having double standards).

Prevailing over European fears

The starting point of most analyses is the minimal weight of bilateral investment in the overall EU-China economic relationship, by comparison also with their global economic strength. Two figures are constantly cited: the EU’s stock of investment in China represents only 4% of its global overseas direct investment, and China’s FDI in Europe amounts to only 2% of the stock of foreign investment inside the EU.

But while such figures do not lie, the larger policy question for China is how to respond to what is perceived as the "rise of protectionism" in Europe. Liu Zuokui, an expert of Europe at the China Academy of Social Sciences, provides a bleak list of all the various problems currently faced by European governments and how they converge to give birth to a strong wave of "protectionism". The consequence for China is not only in the form of new restrictions in terms of market access and access to European technologies: China also needs to deal with Europe placing more emphasis on "ideological differences and cultural threats" (意识形态的差异以及其他文化的威胁). This directly affects China’s Belt and Road Initiative, as China not only faces an investment screening mechanism, trade protection measures and the refusal to be granted Market Economy Status, but also deep wariness (防范) towards infrastructure projects funded by Chinese loans.

In short, Liu Zuokui sees competition between the BRI and Europe’s norms and standards. Europe’s toolbox of protective measures will further grow. Liu Zuokui also predicts an increase in legal disputes on trade issues, especially anti-dumping actions against China.

The long-term game for Chinese firms is to get European companies accustomed to cooperation with China so that the Europeans "improve their attitude".

But there are also reasons not to be entirely pessimistic, according to Liu Zuokui. Overall, Europe needs foreign investment and access to developing markets. Chinese companies are learning to cope with the European environment, how to deal with Corporate Social Responsibility standards and how to present their operations in relation with Europe’s unemployment problem. These efforts will pay in the longer term.

He also expects the European population (欧洲民众) to increasingly gain better understanding of the Belt and Road Initiative. He also observes that implementation of the investment screening mechanism will inevitably lead the EU to seek a new balance between market protectionism and openness. In short, the situation is far from being all black. Over the long term, the two sides have a "common interest in cooperation, not confrontation" (合作而非对抗).

Wang Haochen ends his recommendations on how to promote convergence between the Belt and Road Initiative and the EU Investment Plan, and places importance on the learning curve of Chinese firms operating in Europe. It is understandable that the concentration of Chinese investment in M&As and shareholding creates opposition forces in Europe. The answer to dispel such concerns is to increase joint investment in third countries and greenfield investment inside Europe, also together with European firms. The long-term game for Chinese firms is to get European companies accustomed to cooperation with China so that the Europeans "improve their attitude" (改善态度).

Interests over rules

Such optimism should be placed in the larger framework of China’s foreign policy strategy. Ambassador Su Ge, Chairman of China’s National Committee for Pacific Economic Cooperation, recalls the outcome of the June 2018 Central Work Conference on Foreign Affairs that took place in Beijing and was the occasion to pin down China’s foreign policy strategy, or in his own words, "great power diplomacy with Chinese characteristics under the guidance of Xi Jinping thought". The priority defined in 2018 is to "stabilize great power relations" in the context of the US trade war. As a result, deepening China’s relations with the EU, France, the UK and Germany is a matter of strategic balance, and Chinese optimism is also a diplomatic effort to create positive outcomes.

As Sun Yan from the European Studies Department of the China Academy of Social Sciences makes it clear, the main challenge in EU-China relations is how the two sides manage their "normative competition" (规则之争). On this issue, like many Chinese analysts, she places expediency and relative power over absolute values. "In reality, in this world, there is no absolute justice in international rules, and no international system is able to fully satisfy all its stakeholders. The best rule is to grasp the guiding principles and the big direction of the interests of all stakeholders and set rules that take good care of the interests of the majority of countries". This vision of international rules and standards as reflecting a global balance of power rather than any benchmarking or best practices also permeates Chinese analyses of the ongoing investment negotiation with Europe.

References

(1) "Make joint efforts with a positive and pragmatic attitude to reach a win-win bilateral investment treaty, and launch a joint feasibility study on China-EU Free Trade Area at an early date to build a sound institutional framework for upgrading the economic and trade cooperation". "China’s Policy Paper on the European Union", Xinhua, 18 December 2018. http://www.xinhuanet.com/english/2018-12/18/c_137681829.htm