European protectionism - a new method of fighting China
Hanna Luczkiewicz - 29-04-2019
The last time the leaders of the European Union held strategic conversations about China was after the Tiananmen Square protests in 1989. Twelve Heads of State and Government imposed sanctions in connection with violent repression against civilians. Almost 30 years later, during the last March European Council, EU leaders once again focused on China, calling the country a “systemic rival” and deciding that it was time for the EU to face it again. Due to the growing concerns relating to China's industrial policy, cyber security and trade wars, Beijing returned to the top of the European agenda. At the same time, some of EU leaders claimed it was necessary to increase the role of the state in the economy as a form of counterbalance to the growing presence of China on the European continent. Considering the above, can we talk about the end of the European free trade period and the beginning of a protectionist period?
China's Superpower Ambitions
Over the last few years we have witnessed an increase in the inflow of foreign investments from China to the European Union, especially to the most-developed member states of the European Union - Germany, France and Great Britain. Contrary to traditional investors, Chinese acquisitions focus on a limited number of sectors, including IT, robotics, automotive and aviation industries. In addition to the flow of Chinese investments into the EU, the “Made in China 2025” strategic plan also received a great deal of publicity. China outgrows its role as “factory of the world” and becomes the face of the fourth industrial revolution. This strategic plan, organized in ten key industries, aims to make China the leading potentate in modern technologies, including telecommunications equipment, electric railways, biotechnology, robotics and automation. The “Made in China 2025” strategic plan gives Chinese companies preferential access to capital, both in research and development as well as in penetration of foreign markets. The Belt and Road Initiative also embodies China's superpower ambitions.
As a consequence of the introduction of a new Chinese strategy, the United States was the first to make an attempt to hinder the implementation of this project. Within 3 years, the US introduced numerous customs restrictions on products from the Middle Kingdom, strengthened its system of monitoring foreign investments, spread subsidization for critical technologies and began to fight with Chinese champions of the IT sector, such as ZTE or Huawei.
Germany and France on the path of protectionism
The European Union with the free market economy model that has been promoted for decades, where both European and foreign companies could participate equally in acquisitions and mergers, public procurement tenders or technological rivalry, attempted to oppose China much later. The German rule “Wandel durch Handel” - change through trade - was in force for decades. However, it turned out to be less than effective. Despite the increasing exports to the Middle Kingdom, China's internal situation has not changed. Restrictions for access to the market, with concurrent licensing requirements and technology transfer as well as uncertainty of national laws and regulations, still prevent European companies from entry into the Chinese market.
A breakthrough moment occurred in 2017. Along with the symbolic takeover of the German robotics pioneer Kuka by a Chinese company, Germany realized that advanced technologies developed by German experts can be relatively easy to acquire by a state-aided Chinese rival. As a result, Germany introduced national regulations to monitor foreign direct investments originating outside the European Union and allow blocking for reasons of public security and order. As a result, in August 2018, the Chinese takeover of Leifeld Metal Spinning, a machine manufacturer for the space industry, was blocked.
However, in the last few months, European markets have been intensifying their actions to block the growth of Chinese domination. The recent decision of the European Commission (EC) to block the merger of two European conglomerates, Siemens and Alstom, for reasons of non-compliance with the EU competition law, has triggered an avalanche of criticism. In response, the French Economy Minister, Bruno Le Maire, accused the EC of “serving the economic and industrial interests of China, instead of defending the interests of Europe”. The merger of these two companies was supposed to create a “European rail champion” to take on the world's largest rolling stock manufacturer - China Railroad Rolling Stock Corporation (CRRC).
A recurrent argument in both the “National Industrial Strategy 2030” presented by the German government and in the letter prepared by the ministers of France and Germany to the European Commission, is the need to change the EU competition policy to make it less stringent, taking into account the possible effects on European competitiveness and supporting EU champions, also through governmental aid policy.
The first steps that aim to increase the role of EU countries in the economy have been visible for several months. In recent months we have witnessed a fight for control over Renault-Nissan between the French and Japanese governments. The German authorities proposed to create an investment fund that would prevent foreign takeovers of companies from key technology sectors. In February, the Dutch government increased its stake in Air France-KLM to 14%. Italy, on the other hand, intends to increase its share in Telecom Italia. A similar strategy of strengthening the role of the state in the economy is also taken by the Polish government, for example by re-Polonisation of banks. Recently, there has been increasing talk of the merger of Orlen and Lotos oil companies.
What is the answer of EU institutions?
As a result of an increasing number of votes urging to undertake more coordinated actions, in mid-March the European Commission presented a 10-point plan for more balanced economic relations between the European Union and the People’s Republic of China. It was noticed that both sides are at the same time partners, but also rivals in economic matters.
In the document, the European Commission called on China to stop the unfair treatment of European companies and investment practices that threaten the rule of law in recipient countries and increase the risk of plunging them into debt crises. The document called for “more balanced and reciprocal economic relations”, stating that China “protects its market only for its own leaders”, limiting foreign companies' access to the market, subsidizing local competitors and failing to protect intellectual property rights.
Thus, the EC appealed for the construction of a new arsenal to fight acquisitions by state subsidized companies and other aggressive trade tactics of the Chinese. Brussels aims to re-launch long-term plans to prevent companies from winning European public procurement contracts if they are located in countries that discriminate against European suppliers (for instance, EU companies were not admitted to infrastructure projects for the 2008 Beijing Olympic Games). The EC also commits to take action in response to the growing concerns about security threats related to the use of Chinese communications technology by companies such as Huawei in 5G network technology.
Furthermore, over the recent months the Union has taken a number of additional protective measures, including a system of monitoring foreign investments (according to the latest research, as much as 83% of Chinese foreign direct investment transactions in the EU in 2018 could have been covered by this new screening mechanism). Moreover, the EU has modernized trade defense instruments to further strengthen the protection of European companies against harmful imports and introduced a new method of calculating dumping margins. They are all targeted against one country.
Is protectionism the best way to counteract China's technological dominance?
In the face of an increasing number of calls to increase the role of the state in the economy and to close the European market for foreign players, it is necessary to hold a discussion about the effects of protectionist policies. The vast majority of economists are of the opinion that in the long run, supporting champions, nationalization of industry or blocking the inflow of investments cause not only an economic slowdown but, above all, limit the innovativeness of enterprises and cause price rises for consumers.
It is not only the unfair Chinese practices that make the Union less competitive. In 2007 the EU was the seat of 42 companies from the list of “Fortune 100”, in 2017 there were only 28 companies. Only 5 of the world's 100 most successful “unicorns” - companies worth over $ 1 billion - come from the EU27. In addition, we still have not managed to create an IT power similar to Apple, Chinese Alibaba or Facebook, and the forecasts are not looking good: 70% of the world's income from artificial intelligence solutions will be concentrated in North America and China.
Is there any other solution to strengthen the competitiveness of European companies than protectionist policy? Supporting EU innovation seems to be crucial. EU expenditure on research and development still amounts to only 2%, compared to 2.8% in the US (for Poland it is just over 1%). In addition, North America and Asia are frontrunners in private investments in Artificial Intelligence (AI). It has been a long time since the EU's global competitors have adopted ambitious plans for AI, in which industrial policy as well as public and private investments play an important role. Europe is also losing the technological race because its universities are lagging behind facilities in the US or China. Financing is also a major concern. While Europe has made real progress in reducing the distance to the US with regard to the companies' early-growth financing, it lags behind with later support. This is one of the main reasons why the most successful European companies often fall into the hands of companies from third countries.
Lastly, for Europe to remain competitive, it must continue to deepen the Single Market. The main reason why some industries, such as banking and telecommunications, have competitiveness problems is that they are still operating in domestic silos that hinder companies from achieving economies of scale. The Union is also lagging behind in the digital revolution. At the end of 2017, only 24% of European enterprises adopted the big data analytics, 16% integrated robotics and automated machines, and only 5% worked with artificial intelligence or 3D printing. This also reflects the general shortage of highly qualified technical specialists - this comes as no surprise considering that over 1/3 of the EU population lacks digital skills. Therefore, Europe cannot expect to become the global leader of new technologies if its citizens stayed in the 90s.
The Union should not be naive, but protectionism is not a solution
The Union is China's largest trading partner and China is the second largest destination for EU exports. Every day, goods worth more than EUR 1 billion flow between these two partners. Therefore, it is impossible to completely turn away from the Middle Kingdom and ignore its growing power. However, instead of pursuing an active interventionist policy and closed doors, Europe should prioritize innovation, competitiveness and consumer needs. Otherwise, instead of returning to the global race, Europe and its companies would be moved to the side track.
Clearly, this does not mean that we should naively look at how China behaves, believing that the country will stop dealing with politics that in recent decades has brought it significant political and economic benefits. The plan to develop a European comprehensive industrial strategy in the coming months is a step in the right direction. Particularly if it is based on increased financing of innovative projects, financial incentives to companies or strengthened European single market appropriate for the 21st century.
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