Economy, Talking Point

Merkel makes it happen

What is the significance of the newly signed China-EU investment deal?


China and EU rushed through an investment deal while US dealt with its tumultuous power transition

Dealmakers from the European Union have a reputation for negotiating to the very last minute. And so it proved again on Christmas Eve last month, when a trade and cooperation agreement with the UK was struck as the clock ticked perilously close to a ‘no-deal’ Brexit.

Another major deal was announced six days later, this time for an investment treaty between the EU and China that has been in the making for much longer. The negotiation ran close to a deadline again, with both parties keen to reach terms before the end of the year.

So what’s in the treaty and which side got the best of it?

What’s the focus of the deal?

On December 30 the European Union and China announced that talks on their Comprehensive Agreement on Investment (CAI) had wrapped up and that a new accord will replace 26 existing investment treaties between China and 27 EU member states.

Ursula von der Leyen, the president of the European Commission, was delighted, applauding the treaty as providing “unprecedented access” for European investors to the Chinese market. Although the agreement doesn’t extend to trade between the two markets, she described it as a key step towards rebalancing the EU’s economic relationship with China.

Yet amid the fanfare, it’s more accurate to say that what has been agreed is the broad outline of a political deal and that the detailed final text of the accord will only be completed in the months ahead. “Today’s conclusion in principle of the negotiations is a first step in the process; deliberations for the adoption and ratification of the agreement are yet to take place and will be conducted in full transparency,” the EU added in a statement.

Was an agreement anticipated?

Talks on investment access have dragged on for nearly seven years, moving through their 35th round last month. When we last reported on the negotiations there were signs that the Europeans were losing patience. “Europe needs to be a player, not a playing field,” Charles Michel, the European Council’s president, had griped to reporters, calling for clearer evidence that the Chinese would make real concessions (see WiC512).

What seems to have got the deal over the line is the influence of two key figures. In September the Chinese leader Xi Jinping and German Chancellor Angela Merkel doubled down on a commitment to getting an agreement by the end of 2020. Last week they delivered the headline-grabbing accord – with less than 48 hours to spare.

Both have their reasons for forging ahead. As we noted last year, Merkel wanted to announce a win before Germany gave up the rotating presidency of the European Council. Unlike many senior figures in Washington, she has stuck more to the view that deepening economic ties will bring Beijing closer to a Western worldview. She has also staked significant personal capital on reaching terms with the Chinese, seeing it as part of her legacy (she stands down later this year, having visited China 12 times since 2005). Of course, it helps that parts of the deal could boost crucial German sectors like carmaking.

For Xi Jinping the calculations are different. Shaking hands with the EU is part of a pitch that positions China as a champion of globalisation and as a marketplace with ever-growing opportunities for outsiders. An investment accord like this offers a different narrative to the flashpoints of 2020, including frustration at China’s initial response to the Covid-19 outbreak, the festering impact of the trade and tech rows with Washington, and international concerns over new national security legislation in Hong Kong.

More importantly Xi will have known that time is short before Joe Biden takes over from Donald Trump at the White House. Biden’s team has talked about reforging a transatlantic coalition against the Chinese and indeed the Europeans were rumoured to be open to a rapprochement after a difficult time dealing with Trump. Case in point: a draft plan circulating in European capitals at the end of last year, which called for a new focus with Washington on a common response to China’s “growing international assertiveness”.

In that context Beijing was more willing to grant further concessions to EU negotiators, keeping the Europeans just as focused on closer ties with the Chinese – pre-empting Biden’s US charm offensive.

Here there is some similarity with Beijing’s enthusiasm for the RCEP trade deal concluded between Asia-Pacific nations late last year (see WiC519) too: the Americans are conspicuous in their absence from the new bloc, with the Chinese taking the chance to cement their status in the Asian region, in trade terms at least.

Simply put, Xi wanted another deal with the Europeans that could drive a wedge into Washington’s efforts to forge a united front against China. He knew that Merkel wanted an agreement as well and the timelines suddenly shortened, bringing an end to years of discussion.

What does the EU get out of it?

At first glance the terms look pretty attractive for the Europeans, who haven’t been required to concede much more than the status quo for Chinese investment in Europe.

In contrast, they have been claiming meaningful gains for companies from Europe that want to invest in China. Foreign firms doing business in new energy vehicles won’t have to sign up with local partners any longer, for instance, which is significant when car manufacturing makes up more than a quarter of European investment in China, according to EU figures. Joint ventures aren’t essential for providers of private hospitals either – a concession to earn French favour, it has been widely reported (France’s Orpea is interested in replicating its European footprint of Alzheimer’s clinics in China; see WiC367).

The EU argues the deal is also a major step towards a ‘level playing field’ in trade and investment ties with China, with stipulations that demand greater transparency on the subsidies and cheap loans that support many of China’s state-owned enterprises.

There’s confidence that the CAI is going to bring better protection of intellectual property as well, in regulations that prohibit forced transfers of technology from European firms to their local partners.

“In the sectors covered, European business will gain certainty and predictability for their operations as China will no longer be able to prohibit access or introduce new discriminatory practices,” the EU negotiating team celebrated.

So the Chinese have made significant concessions?

Despite the talk of moving towards reciprocity, China’s market is still more restricted to European firms than the EU is for Chinese ones. “The starting position is unequal. China’s market is much more closed, but everyone can already freely invest in Europe,” Jurgen Matthes from the German Economic Institute in Cologne told Deutsche Welle. “It was clear from the start that China would make more concessions than the EU – that cannot be celebrated as a particular success now.”

Other critics claim that the concessions granted to European businesses are too limited, concentrated mostly in the two sectors mentioned, plus telecommunications. There are other gripes: in electric vehicles the new regime only applies in cases where there isn’t surplus capacity in a particular province; European investment is still capped at less than 50% in telecommunications ventures; and foreign ownership of private medical care facilities is permitted in some cities, but not all of them.

A further question is how Chinese commitments under the CAI are going to tally with countervailing priorities to localise supply chains and secure control over R&D and higher-value manufacturing in China. European companies now have greater assurances on the investment landscape but what happens when they try to build businesses that contradict policies promoting Chinese equivalents, for instance?

The prospects of achieving a genuinely level playing field have been pilloried by the deal’s detractors, who worry that the terms concentrate on state subsidies in the services sector, while most EU investment in China is in manufacturing, where government support isn’t going to be as closely monitored.

They add that Beijing has been making similar commitments about reining back the role of its state-owned enterprises since joining the World Trade Organisation in 2001. And even as the new rules come into effect there are questions about how the regulations are going to be enforced. The scope of the state-to-state dispute settlement in the treaty needs more clarity and there is no agreement on how to handle conflicts between individual investors, although both sides have committed to completing their negotiations on investment dispute resolution within two years of the final signing of the CAI.

What happens next?

The text of the agreement will be finalised and translated for approval by the heads of government of the EU member states. The treaty also requires approvals from the European Parliament in a process that is expected to take at least a year.

One area where it is likely to run into opposition is over allegations of forced labour in China. European parliamentarians have already passed resolutions condemning a system of labour camps for ethnic minorities in parts of western China and EU negotiators have been accused of skirting concerns about forced labour in their haste to strike the investment pact.

The EU Commission counters that China has promised to work towards the ratification of conventions against forced labour from the International Labour Organisation. But that isn’t enough to placate a number of European parliamentarians, who note that there is no deadline for the ratification, and who also query whether the Chinese will ever comply with the EU’s stance on labour rights.

“On labour it’s impossible for China to agree. Can you imagine China with independent labour unions?” Shi Yinhong, an advisor to the State Council, agreed in the Financial Times. “Forced labour also relates to Xinjiang, so that’s another ‘no’ for China.”

In the meantime it is going to be more awkward for the EU to take a high-profile stance against Chinese policies in other areas as the deal crawls towards formal conclusion – whatever Brussels claims.

The Chinese government will also see the accord as way of rebutting American claims about the restrictiveness of China’s trade and investment environment. Already the Chinese are promoting the agreement as a tonic for the global economy, including a heralding of the treaty from the state-run Global Times as “a New Year gift from China and the EU to the world”.

In response Washington will work at trying to forge a rival consensus – similar to the way that it has stirred opposition to Huawei’s role in 5G rollouts in Western markets. Some of that effort might pay dividends after speculation that officials from Italy, Poland, Spain and Belgium are unhappy at the way that Germany steamrollered through the CAI in the final days of its presidency of its EU Council. “There’s a lot of frustration among smaller countries about the way the Commission has been used to push through one of Merkel’s pet projects at the end of her term and the end of her legacy,” an unnamed diplomat told Politico, a website.

The refusal to wait a few more weeks for talks with the new Biden administration is another point of contention. “We need more consultations and transparency bringing our transatlantic allies on board. A good, balanced deal is better than a premature one,” Polish Foreign Minister Zbigniew Rau tweeted after the agreement was announced.

Nonetheless, commentators still expect the deal to be approved, despite a general consensus that the treaty in its current form looks like more of a strategic win for China.

Next stop, the CAI’s proponents add, is a potential deal between the two sides on trade – which surpassed $517 billion in the first three quarters of last year. But given the length of time that it took to negotiate the CAI, and the major complexity of brokering a trade deal that gets the blessing of the EU’s 27 separate states (with their different export priorities), it’s little wonder that analysts don’t expect a trade agreement any time soon…

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