Hitting the bottle

Who would want to be Karel De Gucht right now, a man under attack from all sides in the row with China on solar panel tariffs?

Certainly few would blame the European Union’s trade commissioner for unwinding after a long day at the office with a glass or two, especially as he ponders how best to maintain a united front in the increasingly acrimonious dispute with Beijing.

The trade boss might even pull out a bottle from his own estate – a reassuringly robust Chianti, for instance, selling for €22 ($29.30) online, or maybe a more soothing and fruity rosé, retailing at just €18 a bottle?

But even De Gucht’s evening tipple turns out to have a political aftertaste.

That follows the announcement that China’s Ministry of Commerce is investigating allegations of unfair competition from European wine exporters, with allegations of subsidies and dumping.

De Gucht owns half of the La Macinaia estate in Tuscany, a recipient of a €1,500 subsidy last year, which adds a pleasingly personal twist to the tariff row. In fact, none of his wine seems to have been sold to the Chinese. But the fear for thousands of other winemakers in Europe is that they might end up in a fairly similar situation – i.e. selling little or no wine to China – if Beijing decides to respond to the solar dispute by imposing punitive new duties on imports of European wine.

So the wine investigation is linked to the solar panel row?

The Chinese authorities say it is a response to a petition filed by domestic winemakers last year and that the move is unconnected to the row over solar tariffs (see WiCs 193 and 196). The government has “long been exercising restraint in adopting trade remedy measures,” a Ministry of Commerce spokesman told reporters last week. “Such regular investigation should not be regarded as retaliation.”

Despite the denials, the timing looks suspiciously opportune. The Chinese newspapers moreover have been mentioning the prospect of taking retribution against European winemakers since last year – suggesting it’s a tactic Beijing has been patiently waiting to unleash. “China has the capacity to fight back if the EU launches an investigation into China’s solar products,” Zhou Shijian, a trade expert at Tsinghua University, told the China Daily last August, inferring that reprisals over wine would “do more harm than good to the EU.”

At least the battle lines are now more clearly drawn, although the two industries are hardly comparable in terms of value. Chinese customers bought wine worth about $1 billion from countries in the EU last year, according to Chinese customs data. But sales of Chinese solar panels to Europeans were much greater, peaking at $27 billion in 2011. Last year, they dropped significantly to closer to $11 billion, as subsidies were phased out in Europe, and tensions between Brussels and Beijing grew. But the disparity between the two industries is still huge, leading to questions in China about whether wine is a meaningful target in tit-for-tat terms. “Rmb10 billion compared to Rmb100 billion!” one netizen griped on weibo. “How can they say that this is an excellent response?”

Of course, the French trade ministry has no doubt that the wine investigation is shaped by ulterior motives, lashing out at the move as “inappropriate and reprehensible”. An unnamed official fumed: “The case is not treated on its own merit, but because a decision was taken in another area.”

Nor did the French winemakers see it as much of a coincidence, with Louis Fabrice Latour, chairman of the French Federation of Wine and Spirits Exporters, wringing his hands to the Financial Times that his industry was being “taken hostage” in the solar dispute.

Most of the Chinese media seemed to make the connection too, overlooking the official line in their eagerness to report the darkening mood.

“It is the situation on the battlefield which determines how negotiations proceed in warfare,” the Global Times sabre-rattled in one editorial. “Trade wars are similar. Whether the EU will compromise is determined by whether tit-for-tat sanctions do more harm than good to the EU.”

The China Daily agreed, saying that there was “no choice but to fight back” and that China has to “start showing more teeth when protecting its legitimate interests,” while the People’s Daily joined its media colleagues on the stockade, albeit with more of a game-playing analogy than a military one. “We have set the table for talks, (but) there are plenty of cards we can play,” it crowed. “China does not want a trade war but trade protectionism cannot but bring a counter attack. A large number of European enterprises are set to suffer as a result.”

Who is being targeted?

At first glance the Chinese media’s dissatisfaction with Europe seems broad, although there are hints that it sees some as more to blame than others. “Times change and power rises and falls,” the People’s Daily reflected sourly. “Still, this has not changed the deep-rooted, haughty attitudes of certain Europeans.”

Who could they possibly mean? Helpfully, the Beijing Youth Daily was ready to be more specific, calling out the French as the villains of the moment for being the most active in pushing for solar tariffs.

Indeed, the choice of wine for retaliation looks like a careful one, as the majority of European viticulture exports to China last year came from France ($716 million). Two of the other countries said to be supporting the solar duties were in second and third place (Spain with $116.5 million of sales, and Italy with $101 million).

As far as tit-for-tat goes, targeting wine isn’t as complex as cancelling contracts in the nuclear power industry, where French companies are prominent, or embargoing orders for Airbus aircraft, which China wants for the development of the aviation sector.

Similarly, although tariffs might disappoint wine fans in the Chinese middle class, higher prices and a scrimping of supply won’t mean much disruption to the lives of the ordinary public. True, it might curb the appetites of some of the wine connoisseurs in the wealthier elite. But that is more likely to delight the man on the street than depress him. All told, Beijing’s response looks clever and considered.

There’s also a sense that the Chinese may have taken a tactic out of the American playbook in targeting the French for rougher treatment. Back in 1992, Washington said it would impose duties of 200% on European wine exports in a trade row that started out over soya bean subsidies but ended up with a broadside against white wine, and Burgundy in particular.

France again seems to have been singled out, probably because it was leading the Europeans in their refusal to back down on farm subsidies. Threatening the wine producers was also seen as a good option because they tend to be a powerful domestic lobby in France. Ultimately, the dispute was settled before tariffs were imposed, something that the Chinese might be counting on again today.

There are other similarities to events 20 years ago, including some of the rhetoric. “Burgundy has had enough of being held hostage to the oilseeds issue,” Andre Gagey, a wine producer from the region, told media in 1992, in language similar to some of last week’s outcry.

And although there’s no way of knowing if Beijing knew that De Gucht was a winemaker, Washington’s decision to focus its fire on Burgundy was also said to have a personal edge. Jean-Pierre Soisson, France’s agriculture minister, had been outspoken on the protectionist theme, and is from the same region himself.

What might come next?

In the febrile atmosphere following the news of the wine investigation, other industries have been crossing their fingers that they won’t come in for more scrutiny from the Chinese as well. Reports in the Olive Oil Times (a new source for WiC, for sure) suggest that Spain’s big olive oil exporters worry their product could be next.

More significantly, there is growing speculation that the authorities in Beijing have received a complaint about subsidies for cars imported from the EU that have engines of two litres or more.

The ACEA, the European car industry association, is even warning that a preliminary investigation could be launched as early as next month. Almost half a million vehicles were exported to the Chinese last year, mostly top-end models that fit the criteria.

“If there is not an improvement in the political climate, if it becomes a real trade war – if that is going to be the position and the strategy of the EU – then I think the Chinese will retaliate for sure,” an ACEA spokesperson told Reuters.

Germany would bear the brunt of any action against imported vehicles. That would be a shift in strategy from the Chinese away from the current focus of pressuring the pro-tariff French and southern European states.

In fact, Germany is one of the countries opposing the new duties.

Certainly tariffs are an issue that divide Europe, says Simon Evenett, a professor from the University of St Gallen. Writing at VoxEU.org, he cites research on the period between 1991 and 2003 to show that Portugal, France, Italy, Greece and Spain all supported restrictions on imports in 85% of the relevant votes. In contrast, the UK, Germany and the Netherlands led a group that backed duties only a sixth of the time, leaving Ireland, Belgium and Austria as the swing voters, trading their own votes for political benefit.

This split among the member states highlights the opportunity for the Chinese to exploit differences within the European camp. Presumably, they are also hoping that the threat of action against the winemakers will stir up more opposition to the solar duties inside Italy, Spain and France.

But interestingly, Evenett also says that bluster works, citing further research suggesting that

European countries which have complained about Chinese dumping in the past seem to enjoy a higher share of exports to China (all other things being equal).

Less surprisingly, countries that send their ministers more frequently on trade trips to China also tend to do better on exports, which leads Evenett to recommend a ‘Jekyll and Hyde’ strategy. “Running to Brussels to complain pays, as does buttering up the Chinese with visits to Beijing,” he told Bloomberg earlier this year.

Who would be the winners and losers in a wine war?

The immediate beneficiaries from the news of the wine probe were the Chinese wine producers who all saw spikes in their share prices.

Nor will winemakers in places like Australia, New Zealand, Argentina or the United States be too disappointed, as they’ll be hoping to pick up market share if European exports incur additional fees.

Others predict that a tariff war would be a body blow for fine wine sales to the Chinese elite, a customer base that has driven much of the supercharged growth in the industry in recent years. But that is far from certain. Having to pay hefty duty on already-expensive bottles from Burgundy or Bordeaux might reduce the takings at a few of the leading restaurants and private clubs, as well as take some of the steam out of speculative buying at auctions and broking houses.

But the alternative view is that purchasers of top-end wine tend to be the least price sensitive, as well as more likely to hold much of their stock overseas rather than bring it into China. If so, tariffs will be less of an immediate concern.

Hong Kong’s wine merchants will be thinking something similar. In 2008, all tax and duty on wine was abolished meaning that many of the top-notch vintages circulating in Asia are bought and sold in the territory. About $1 billion worth of wine was traded in Hong Kong last year, the large majority arriving from Europe. A fifth of these imports were then re-exported into China or Macau, although this understates the cross-border flow as a significant share will have slipped in quietly to avoid mainland duty. Of course, the incentives for such smuggling will only grow if tariffs are imposed on direct sales to China – since wine sold in Hong Kong will be considerably cheaper.

One group who might be more concerned by the deepening row is the European vineyards that have fallen into Chinese hands, especially those with owners who intend to sell French wine to mainland consumers.

Bordeaux is the Chinese favourite: according to Safer, the body that monitors vineyard sales in France, 21 of the 35 properties sold in the region in 2011 went to Chinese buyers, and 23 out of 37 the year before.

“The Chinese are very shrewd businessmen. They are coming here, buying land relatively inexpensively with a very strong brand, and then they’re shipping it back to China and selling it for €30 to €50 a bottle. They can clear the cost of the chateau in one or two years,” Michael Baynes, a partner at a real estate firm in the region, told Bloomberg Businessweek last month.

Whether these Chinese chateau entrepreneurs will be able to cover their investment as quickly if tariffs force up prices is open to question.

But the most likely loser in a wine war is the kind of exporter outlined in the Beijing Youth Daily this week: lower end European vineyards who sell to middlemen at about €2 a bottle. After transport costs and duty, this wine arrives in China costing about double that (up to Rmb40 a bottle) and is then priced in the Rmb100-200 ($16-32) range for sale. The problem is that this market is pitching itself to a much more price-sensitive audience. Crucially, it is also competing with Chinese winemakers – like Changyu, Dynasty and Great Wall – who have been complaining about dumping from foreign brands. They will also be pushing for the current investigation to result in some form of punitive action.

Despite this, it’s unclear whether Beijing will see through its threat to Europe’s wine exports, especially if the EU tones down its solar duties or drops them completely.

In the meantime, there are signs that Beijing’s counterstrike may already be pushing the French towards a more conciliatory stance. “We need to resolve our trade problems with China through discussion, without advantages being given to one country over another. I want the Chinese to buy more French products,” French leader Francois Hollande told a trade meeting in Tokyo last weekend.

“It is up to us to be more competitive and to convince the Chinese that there can be reciprocity.”

---

© ChinTell Ltd. All rights reserved.

Sponsored by HSBC.

The Week in China website and the weekly magazine publications are owned and maintained by ChinTell Limited, Hong Kong. Neither HSBC nor any member of the HSBC group of companies ("HSBC") endorses the contents and/or is involved in selecting, creating or editing the contents of the Week in China website or the Week in China magazine. The views expressed in these publications are solely the views of ChinTell Limited and do not necessarily reflect the views or investment ideas of HSBC. No responsibility will therefore be assumed by HSBC for the contents of these publications or for the errors or omissions therein.