In its March 2019 paper “EU-China – A strategic outlook” (Strasbourg, 12.3.2019 JOIN(2019) 5 final), the EU examined the impact of Chinese state subsidies, and protection of the domestic market on investment by Chinese companies in the EU, and the limitations EU law has in dealing with any such impact.
The paper stated:
“EU policy tools do not fully address the effects within the EU internal market of subsidies granted by foreign governments. EU competition policy instruments apply without discrimination to all economic operators, irrespective of their origin. EU state aid rules only cover aid granted by Member States. Further, EU merger control does not allow the Commission to intervene against the acquisition of a European company solely on the grounds that the buyer benefitted from foreign subsidies. Trade defence instruments address subsidies that affect the price of products imported into the EU. However, these instruments do not cover all potential effects of unfair subsidies or support by third countries. To close this gap, it is necessary to identify how the EU could appropriately deal with the distortive effects of foreign state ownership and state financing of foreign companies on the EU internal market.”
The paper then sets out the action point to be determined:
“Action 8: To fully address the distortive effects of foreign state ownership and state financing in the internal market, the Commission will identify before the end of 2019 how to fill existing gaps in EU law.”
According to the press, we are now a few weeks away from seeing the Commission’s initial position on this issue. Why should business be watching for the proposal?
First, any potential regulation on investment or the conditions under which businesses can be bought or sold affects the value of those businesses, and so changes the conditions upon which investments are made. So one can see, for example, that seed investors into fledgling EU businesses will have to take into account any new restrictions when considering any eventual on-sale to Chinese buyers.
Second, any measures aimed directly at Chinese businesses is bound to cause friction between the EU and China. While there is a small but growing negative sentiment against China in the EU and elsewhere, businesses should expect the EU to adopt measures that might affect their business in China only where strictly necessary.
Moving back to the issues raised in the 2019 Paper in more detail, what are these perceived gaps in EU law?
First, EU Merger Control law does not currently allow the Commission to take the effect of subsidization or domestic market closure into account in determining whether the transaction would be pro- or anti-competitive in relation to the EU market.
Second, EU state aid law, which provides the EU with tools for dealing with state subsidies only applies to subsidies granted by or through the resources of EU Member States, and does not, in any event, focus on the impact of those subsidies on the Single Market. State aid law does not focus on closure or strength on EU domestic markets, as these issues are dealt with elsewhere under EU law, primarily through competition rules.
Third, the EU’s Trade Defence Instruments (variously the anti-dumping, anti-subsidy, safeguard, and trade barriers Regulations) are limited as to what is considered as being within scope, with the primary focus on goods and not services. In addition, because of WTO obligations which cannot be changed easily, the remedies under the anti-subsidy measure are also limited to countervailing duties imposed at the border. However, it must be noted that the trade barriers Regulation does permit investigation of access to third country markets, and covers all trade including services.
It is also worthwhile noting that WTO rules on subsidies, while clearly delineating the categories of “prohibited” and “actionable” subsidies, are not highly developed and rely heavily on dispute settlement procedures between the Contracting Parties, which are now largely hamstrung as a result of the US refusing to nominate new Appellate Body members.
When the proposal is issued, it will be interesting to see how the Commission deals with the complex legal issues raised by this idea, including:
- What is the connection, if any, with EU and Member State foreign investment review measures that focus on security issues? Would this new subsidy system be ousted by these reviews, and only operate to the extent that foreign investment reviews based on security concerns were not engaged, or were passed?
- How will the issue of subsidies provided by foreign governments be framed? Will the Commission provide a general framework that would allow broad categories of state interventions to be considered? Or will it stick to clear and egregious types of subsidy, for examples as set out under WTO rules? If the former, the EU will have to be careful not to create a stick which it can be beaten by third countries. If the latter, the EU will have to accept that any such list will be worked around, and will need to be constantly reviewed.
- What might be the measure of harm, or “unfairness”? Will the EU simply extend current state aid rules to companies operating in the EU and receiving third country state aid?
- What evidence would be required to show that any such measure of harm was in fact met? The Dutch Ministry paper from December 2019 focuses on transparency in accounting, arguing to some extent that the activity of a subsidized entity can be separated into activity on the EU market and other markets, and a failure to demonstrate transparency in relation to the EU market would permit the EU to impose certain behavioural controls on such entities. How might this test operate? Would all companies operating in the EU be required to show full and transparent accounts to be able to undertake transactions?
- How far into the EU industrial base would any new powers extend? Adding new requirements to the EC Merger Control Regulation would not necessarily deal with the problem, since the Regulation does not cover all but the largest acquisitions with impacts on the EU market, whereas the “unfairness” could, in principle, reveal itself at any level of business. Therefore, is a new review mechanism called for? If so, how does it operate? Obviously if state aid rules are simply extended to aids provided by foreign states, that might avoid the need for an entirely new system;
- Whatever the review mechanism, what would be the rights of third parties to stimulate such enquiries, or at least to participate in investigations?
- What might be appropriate remedies if the “unfair” subsidization is found?
- Would the entity be placed on a “watchlist” and its activities further scrutinised?
- Would the “unfairness” be offset in some way? If so, how might this apply to entities involved in services or investment? Would the entity be limited or controlled as to its activities in the EU, including what EU entities it can invest in or acquire?
- How would any remedy pass a non-discrimination test? So, for example, EU companies found to have received aid are required by the EU to repay it, usually through a recovery requirement placed on the paying Member State. However, those companies are not restricted from making investments in EU businesses.
- How does the EU avoid making this a “China-specific” issue? At one level the EU has already framed this issue as China specific as it raised it in a paper called “EU-China – A strategic outlook”. However, it is the case that subsidies are paid by many (most?) governments and may have an impact on activity in the EU. It should be forgotten that the big WTO subsidy cases are between the EU and US (for example, Boeing vs Airbus), not China;
- How quickly will any measures be enacted? At one level, with firms failing globally as a result of COVID-19, it can be argued that now is the critical moment to protect the EU industrial base from “unfair” intervention, but is unlikely that a measure as controversial as this is likely to be will pass through EU processes quickly;
- Finally, there is the question as to how the UK will react to any such EU measure as part of the Brexit discussions. The EU and UK do not see eye to eye over the EU’s demand for the UK to accept a “level playing field” between the UK and EU, and the UK specifically has rejected the EU’s desire for the UK to follow EU state aid law. It is not wholly clear as to whether the UK’s reluctance is based on a principled rejection of EU control, or whether the UK is looking towards increased support of UK industry that might fall foul of EU state aid rules. Given the UK Government appears to be taking more interest in industrial policy, it will be interesting to see where the UK pitches its reaction.