The EU-China CAI Investment Breakdown: What EU Manufacturing Sectors Could Be Hit?

May 6, 2021 Posted by China Briefing Reading Time: 4 minutes

EU sanctions on specific China investments comes a step closer.
Semiconductors, digital tech, energy are all areas that could be hit.
Questions arise of suitable ‘intermediate investments’ to maintain China access.

Op/Ed by Chris Devonshire-Ellis

Following on from EU trade chief Valdis Dombrovskis stating that the EU ratification of the China CAI Investment deal was being suspended, his speech yesterday on EU industrial strategy is perhaps a forerunner of what is coming in terms of the EU’s position on China.

Dombrovskis stated that the EU Commission has carried out a “bottom-up analysis” based on trade data, which provides first insights. The analysis revealed that the EU was highly dependent on 137 out of 5,200 products imported, representing six percent of the total value of imported goods. Of these, about half originated in China, followed by Vietnam and Brazil. This includes batteries, semiconductors, critical raw materials, and hydrogen.

As a result, Dombrovskis asserted that :”Clearly, we have to build up our critical capacities in these areas. Our biggest challenge lies in preventing the strategic dependencies of tomorrow, especially for inputs and advanced technologies that will be vital to the green and digital transitions. We have to address today’s dependencies in an efficient and targeted manner. We have to work with like-minded partners to strengthen the resilience of our supply chains.”

Dombrovskis also announced the creation of several alliances to protect the EU from ‘supply chain weakness’, stating that :

“The Commission is preparing to launch two industrial alliances in the digital field: the Alliance on processors and semiconductor technologies, and the Alliance for Industrial Data, Edge and Cloud. We are also considering the preparation of an Alliance on Space Launchers and an Alliance on Zero Emission Aviation, to complement the Renewable and Low-Carbon Fuels Alliance, which is also under consideration. But it is also clear that technology leadership goes hand in hand with leadership in standard-setting. This is why we will present a strategy on standardization. The objective is to take a more assertive stance on European interests in this area. At the same time, we will seek cooperation with like-minded partners around the world, in order to lead the global conversation on standard-setting and future regulation.”

The political message emerging from this analysis is clear, and in particular, with reference to ‘like-minded partners’ – bearing in mind the EU has imposed significant sanctions on Russia and has begun targeting Chinese officials. Neither are like-minded countries and this implies the EU will be taking steps away from trade and business with China in specific areas in the future.

It remains to be seen how this will manifest itself; given that the EU-China CAI agreement seems dead, the EU could take more assertive measures along the lines of the United States, whose China trade policy it appears to be mimicking.

The US is currently debating the ‘Strategic Competition Act’ that specially targets China and is designed to limit access to trade and technology in specific products, notably those to do with new technologies. Washington, like the EU, has effectively barred Huawei from competing in their markets, instigating a trade war with China concerning the imposition of tariffs on selected goods – many of which remain despite Trump now being out of office.

The warning here for EU manufacturers involved in the industries Dombrovskis mentions – batteries, semi-conductors, hydrogen energy technologies, critical raw materials, digital technologies, processors, and low carbon fuels among others, is the extent that Brussels will be prepared to go to legislate to isolate China from R&D, trade, and involvement in any of these sectors.

There will be repercussions – China is already forming a significant alliance with Russia over new tech, while Russia already has the world’s largest reserves of LNG, and significant reserves of ‘critical raw materials’ such as rare earth. Russia also possesses a formidable IT industry – as does China, which is one of the world’s largest investors in R&D. EU businesses could find themselves cut off from the research and supplies if they do not get the China-Russia engagement balance right – and there is little on the table right now to suggest that they have.

This push back is a triple whammy – decoupling means losing or restricting access to R&D and even materials in essential new technologies and products, while at the same time creating a China-Russia alliance against the West – the ‘new cold war’ – that Presidents Putin and Xi have warned against. It will additionally usher in a period of mutual distrust and waste resources as two different systems will emerge with double the resources spent to acquire them. The technical incompatibility will arrive – globalization will become extinct.

These moves are already, incidentally, playing out in space, where a lot of tomorrow’s technologies are developed in scientific conditions that cannot be replicated on earth. China has just put the first section of a Space Station into orbit, while Russia has said it wishes to quit the aging ISS and go it alone. Both have stated they are jointly considering a permanent moon base.

The analogy is right there – China and Russia are looking to the stars – while the EU appears to want to create divisions on earth. EU businesses in the sectors mentioned would be advised to look at the implications should the EU follow the logical path ahead based on Dombrovskis comments and look for ways around any legal restrictions Brussels may wish to introduce to limit China access.

This raises the issue of intermediary economies/jurisdictions where European, US, and UK companies can set up to access China.

Interestingly, the EU sanctions on Myanmar only target companies based in the EU, while currently remaining silent on overseas subsidiaries. This could be an intriguing planning point, although it needs to be looked at in more detail. ASEAN or parts of ASEAN via RCEP look like the most obvious candidates as intermediary jurisdictions, such as the Philippines and Indonesia, both of which have an FTA with the Swiss-based EFTA and, via ASEAN, with China, in addition to Vietnam, which has an agreement with the EU.

Francophone, Italian, and German-influenced countries in Africa, which also have favorable trade agreements with China, may also start to come to prominence. Mauritius for example has Free Trade Agreements with both China and India and is eying a deal with the Russian-backed Eurasian Economic Union. It is also a member of the African Continental Free Trade Agreement (AfCGTA). I shall discuss these intermediary location investment issues next week.

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