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Your Move, US: What the China-EU Deal Means for the Trade War

by Dominic Morgan

April 29, 2019

Locking up an EU-China trade deal

China made significant concessions at a crunch summit with the European Union, but the deal could prove to be a big win for Beijing

Europe is not used to getting its way in trade negotiations with China. But that is exactly what appeared to happen at the EU-China Summit on April 9th.

In the days leading up to the meeting in Brussels, it looked like the two sides would fail to agree a joint statement for a third straight year.

European Union ambassadors complained of the “slow and difficult” talks with their Chinese counterparts. Just four days ahead of the summit, one diplomat told Euractiv that Brussels and Beijing remained “worlds apart” on several key issues.

But all that changed during a dramatic final weekend, as the Chinese side made a last-minute push to secure a deal.

Beijing submitted new drafts of the statement on the Saturday, Sunday and Monday, each with fresh concessions, according to the South China Morning Post.

After six years of stalling, Beijing agreed to confirm an “ambitious” investment agreement widening market access and guaranteeing equal treatment for EU firms in China by the end of next year.

New rules on the labeling of food products, which will offer protection to European cheese and wine producers, will be agreed within months.

Perhaps most significantly, China pledged to help Europe reform the World Trade Organization to promote rules-based trade.

At a press conference alongside Chinese Premier Li Keqiang, European Council President Donald Tusk hailed the agreement as a “breakthrough.”

The sudden reversal left many Western observers asking why Beijing, after resisting for so long, finally decided to move forward with such a wide-ranging deal.

One EU diplomat even asked whether the deal was “too good to be true,” according to the South China Morning Post.

China has a history of slow-walking reforms, and so a certain level of skepticism is understandable. The China-US trade agreement currently being negotiated will reportedly be backed up by an “enforcement mechanism” to ensure all the pledges are implemented by agreed dates, whereas the EU deal is much looser.

The two sides only committed to “achieve decisive progress” on an investment agreement by the end of the year and conclude it in 2020.

But the global situation has changed dramatically in the past year. Beijing now has much stronger strategic reasons for dealing with Europe in good faith.

New Europe

Ahead of the summit, Chinese negotiators were reportedly taken aback by the uncharacteristic aggression shown by their EU counterparts.

The Chinese side eventually agreed to key changes to the joint statement only after EU officials threatened to walk out of the talks, according to the South China Morning Post.

The robust negotiating style reflects a deeper shift in European attitudes toward China.

“There are growing worries in Europe over how much more Chinese investment is going to grow, and whether this will mean Europe loses its economic sovereignty,” says Lisbeth Kirk, founder of the EUObserver news service.

In March, the European Commission released a strategy paper that for the first time labeled China an “economic competitor” and a “strategic rival.”

The language echoed closely that used by the United States in its 2017 national security review, which presaged the start of the trade war.

Europe disagrees strongly with America’s tariff war, which it perceives as unilateralist and harmful to a rules-based global order, but this more hawkish shift raised alarm bells in Beijing.

China’s economy has dealt with the impact of US tariffs reasonably well, but the trade war severely dented investor confidence. The Chinese stock market lost $2.3 trillion in value over 2018.

Any friction with Europe would create further jitters. The EU is China’s largest trade partner, above even the US, with €1 billion (RMB 7.6 billion) worth of goods flowing between the two sides each day.

“Beijing… could not afford to further alienate itself amid the trade war,” said Huang Jing, Dean of the Institute of International and Regional Studies at Beijing Language and Culture University, in an interview with the SCMP. “A deteriorating relationship with the EU could have a disastrous impact on China.”

There were also worrying signs for Beijing that Europe was preparing to close up its market if talks on a China-EU investment agreement failed.

Days after the release of the strategy paper, European leaders agreed to renew discussions over a controversial procurement mechanism, which would only allow firms from countries deemed to offer “reciprocal” treatment to the EU to bid for contracts inside the bloc.

If adopted, the mechanism would give Brussels the power to ban Chinese firms from any EU public procurement projects—a $2.4 trillion market.

The EU also passed new foreign investment screening regulations in March that will come into force in mid-April.

Though not as robust as the US’s investment screening regime, the rules would allow European institutions to scrutinize proposed deals and advise member states to block them.

Fundamental reforms to EU competition law and industrial strategy are also under discussion, which are designed to counter the threat from large Chinese state-owned enterprises.

In the past, China could have taken these threats with a pinch of salt. The EU rejected plans for a procurement mechanism, for example, in both 2012 and 2016.

But the political landscape inside the EU has changed since then. Germany has moved in a more protectionist direction, especially after the hostile takeover of robotics firm Kuka by a Chinese firm in 2016.

In addition, the impending exit of the free-market United Kingdom from the EU has handed more power to France, the bloc’s most protectionist member.

“We definitely miss the more liberal-orientated voice in the room,” Danish Prime Minister Lars Løkke told the Financial Times after the Council discussion of the procurement mechanism last month.

For Duncan Freeman, a fellow at the College of Europe’s EU-China Research Centre, these moves by the EU were not decisive by themselves in forcing China’s hand on the investment agreement, as “they do not fundamentally change the economic relationship.”

But they made it clear that Sino-European relations were at a crossroads, and that there was a risk of the EU turning away from China.

Dividing the West

The Chinese side appeared to be unwilling to risk a deeper split with the EU at such a sensitive time.

EU negotiators involved in the discussions noted that their Chinese counterparts were determined to get a deal locked down, even if that meant making concessions.

“The Chinese side was very eager to have a joint statement,” one official told Euractiv.

It is easy to understand why China felt an urgent need to shore up relations with Europe. Above all, a China-EU deal makes any possible rapprochement between the US and Europe much less likely.

The two Western powers have discussed joining forces to push China to open up its market on several occasions.

“We have the same criticisms of the situation in the Chinese market,” a senior EU diplomat told Politico in April. “We just use different ways of addressing them.”

Last spring, French President Emmanuel Macron proposed just such an anti-China alliance to his US counterpart Donald Trump during his visit to Washington.

Luckily for Beijing, Trump rejected this offer because he does not want to reduce pressure on the EU to open up its own market to American cars and agricultural goods.

But the prospect has never gone away. Last week, the US ambassador to the EU, Gordon Sondland, urged the EU to settle its differences with the US on trade so that the two sides could “link arms” and
“turn toward China, which is really the future problem.”

If the EU were to agree to this deal, it would be a disastrous development for China. Together, the EU and US account for more than 40% of global gross domestic product (GDP), and China would struggle to compete in negotiations against such a huge partner.

It might find itself forced to go much further, much faster on domestic reforms than it would do to comply with the EU-China investment agreement.

A EU-US deal would also leave China dangerously isolated at the World Trade Organization. The US is pressuring China to relinquish its developing country status inside the global trade body, which allows Beijing to set higher tariffs in many sectors without punishment.

According to Wang Yiwei, a professor of international relations at Renmin University, China was particularly keen to keep Europe onside ahead of the G20 summit in June, where WTO reform will be high on the agenda.

Changing Priorities

The trade war has also changed how China perceives the EU’s demands for reforms. In many areas, China is effectively granting concessions to Europe that it has already made to America.

There have been clear signs in recent months that Beijing is moving to address structural issues raised during its negotiations with Washington.

In March, Beijing fast-tracked a new Foreign Investment Law that is designed to promote equal treatment for overseas firms in China.

Last week, the central government took the unprecedented step of naming and shaming local governments found to have treated foreign businesses unfairly.

China has also pledged to revise its “negative list” of industries where foreign investment is restricted by June.

According to a statement by Premier Li, sectors that will be opened up include telecommunications, health care, transport, infrastructure and energy—all areas where European firms excel.

What’s more, the deal with Europe helps Beijing politically as it dilutes the sense that it is making reforms simply to appease the US.

“Xi Jinping can’t be seen to be backing down to Donald Trump,” says Shaun Rein, Managing Director of research firm CMR China and author of The End of Cheap China. “So, China is more likely to do structural reforms based off negotiations with a consortium of countries.”

Closer Ties

If Beijing delivers on its promises over the EU investment agreement, there is even a possibility that it could forge a united front with Brussels against Washington.

Until recently, this prospect would have been unthinkable, but the US’s increasing unilateralism under the Trump administration has handed China a unique opportunity.

“The trade war and the US’s general behavior has created incentives for the EU and China to cooperate more,” says Richard Turcsanyi, a researcher at the Institute of International Relations in Prague.

These incentives are growing as the US renews pressure on the EU over trade. In April, the US Trade Representatives proposed tariffs on $11 billion of European products, including jets made by Airbus.

At the EU-China Summit, both sides spoke of working together to defend international rules-based governance.

“We both believe that we need to uphold multilateralism, respect the international law and fundamental norms governing international relations,” said Li. “We also believe that we need to uphold a multilateral trading system with the WTO at its core.”

Before Tuesday, it looked likely China would be blamed for any deadlock over WTO reform at the upcoming G20 summit. Now, it looks more likely that the US will find itself cast as the rogue actor.

If this China-EU cooperation proves fruitful, the US may find itself outflanked on other issues too.

In contrast to Washington, Brussels is willing to work with China on almost any issue as long as this is done through a rules-based framework that ensures fair competition.

“Ties between China and the EU are so different from the China-US relationship, which has strategic conflicts in many sectors,” Ding Chun, Director of the Centre for European Studies at Fudan University, told the SCMP.

Brussels has so far resisted US pressure to ban Chinese telecommunications firm Huawei from participating in the build-out of 5G mobile networks over cyber security fears.

Ahead of the EU-China Summit, EU Council President Tusk hinted that China had something “important to lose” if no deal was concluded, hinting that Huawei’s fate could be linked to that of the investment agreement.

Eleven countries are due to hold 5G auctions this year and another six in 2020, meaning that Huawei will remain a live issue for some time to come.

Europe could also play a decisive role in helping China promote its global trade and infrastructure-building strategy, the Belt and Road Initiative.

Whereas Washington is implacably hostile to the BRI and has put allies under severe pressure not to endorse it, Brussels is more pragmatic.

“We, as Europeans, want to play an active part [in the initiative],” German Chancellor Angela Merkel said in March. “That must lead to a certain reciprocity, and we are still wrangling over that a bit.”

If China is willing to bring BRI more in line with European market standards—for example, by ensuring foreign companies can compete fairly for contracts on Chinese-funded projects—Europe could become an important partner.

The European Reconstruction and Development Bank is already working closely with the Asian Infrastructure Investment Bank, providing 7.5% of the China-led bank’s staffers.

At the EU-China Summit, the two sides also agreed to increase cooperation on rail links connecting Chinese and European cities.

The partnership is in its early stages, and it is still possible that the apparent breakthrough could prove to be a false dawn. But for both Beijing and Brussels, the potential rewards from working together—and the costs of not doing so—have never been higher.

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