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nstilling Investor Confidence

Foreign businesses and institutions are still digesting the ramifications of China’s new Foreign Investment Law. Top economist Cui Fan talks through the details and areas of concern

By NewsChina Updated Apr.1

The National People’s Congress, China’s top legislative body, passed the Foreign Investment Law on March 15 at the closing meeting of its annual two sessions, a revamp and unification of the existing legal framework to cover the entry, promotion, protection and management of foreign investment. By highlighting the protection of foreign investment, and responding to major long-term concerns of foreign business, it is expected to improve the business environment and boost the country’s commitment on the further opening-up of its market.  

Concerns and controversy have arisen in the process of making the law, from both Chinese experts and foreign business groups, including issues such as the definition of forced technology transfer, the power of local government in making policies, and broad terms and vague language in the law.  

While the law is a basis for guiding and setting up the framework for the forthcoming abolishment, amendment and establishment of a series of laws and regulations to make it enforceable, prudent clarifications in setting the rules of implementation should be made to enforce the law effectively, said Professor Cui Fan of the School of International Trade and Economics with the University of International Business and Economics, in an interview with NewsChina.   

NewsChina: The Foreign Investment Law stipulates that the Chinese government will ban forced technology transfers by administrative means. Some Chinese experts think it might lead to improper restrictions on technology transfers while foreign investors, such as the European Union Chamber of Commerce in China (EUCCC), have expressed worries about the possibility of non-administrative bodies instead compelling technology transfers. What’s your take on this? 

Cui Fan: Chinese experts, including me, mainly hope to clarify the concept of what a ‘forced technology transfer’ is. This concept has been frequently mentioned during the Sino-US trade friction, but it is not clearly defined. The World Trade Organization’s (WTO) umbrella agreement [in Marrakesh, Morocco, in 1994] does not mention anything related to technology transfers. But China promised, when it entered the WTO in 2001, that China would not make technology transfers a condition of doing business in China. To live up to its word, China has not stipulated technology transfer as an entry condition in any of its laws or regulations for foreign investment. It is not clear yet if Chinese administrative staff ever hinted at such a requirement when examining and approving foreign investment projects. China is willing to pass a law to curb the  
possibility now. It’s a step forward anyhow. 

The problem is, whenever China and the US discuss the matter, the US usually makes the meaning of the concept rather broad. The US tends to refer to it not only in China’s WTO accession agreement, but also in China’s requirements about joint-venture partnerships, ownership restrictions and the case-by-case approval system, claiming that the approval system carries hidden pressure on foreign-invested enterprises (FIEs) to make technology transfers.  

China has canceled the case-by-case approval system for foreign investments which have not been on its negative list in recent years. After the Foreign Investment Law is passed, China may cancel the entire approval and filing system. But those operating in fields still on the negative list may have to go through the approval process, and equity restrictions may be retained in some sectors. The US may think this constitutes forced technology transfer. But it is not realistic for China to cancel all the restrictions at once. After all, there is still a negative list.  

In addition, certain regulations in Chinese laws, such as those on cybersecurity and patents, involve requirements in terms of technology for the sake of national security and public interest. Such practices that are legal and reasonable in other countries might also be deemed as a form of forced technology transfer if the term is not made clear in the law.  

It is necessary to be prudent when making forced technology transfer a legal term. The present statement in the law may be a way to show China’s goodwill. But when making enforcement regulations later, this point should be clarified to avoid becoming too generalized. 

Administrative means could refer to all kinds of instructions and requirements directly made by administrative organs and staff, as I observe. Some Chinese social organizations, like chambers of commerce, can sometimes act on behalf of the government. So it is understandable if the EUCCC worries that non-administrative bodies might demand technology transfers. But if they deem China’s enterprises, including State-owned enterprises (SOEs), as non-administrative bodies in this case, they go too far. Because all Chinese enterprises operate independently and thus their negotiation with FIEs are business negotiations. The technology transfers involved between them are a function of market behavior. A line should be drawn between government and market conduct when discussing the matter.  

NC: The Foreign Investment Law allows local governments to put forward policies to promote foreign investment. There are worries that this might give them too much power to make favorable policies at the price of ignoring the law or damaging fairness in the market. Are the worries reasonable?  

CF: China’s preferential policies for foreign investment shrank after 2008 when China integrated taxation policies for domestic and foreign-funded business. Since then, local governments put forward many favorable policies to attract investment, which caused chaos. It is logical to have local governments make favorable policies based on the law, but some governments went too far, for example, in providing tax preferences. It is not good for maintaining the consistency of national economic policy and leads to vicious competition.  

In December 2014, the Chinese government started to clean up these local policies. Projects in many places that had lured investment with preferential policies deemed illegal came to a halt as a result. In 2015, the government temporarily suspended this clean-up, allowed the signed contracts to carry on and meanwhile reiterated the rules for local governments in issuing new policies. 

In June 2016, China established its fair competition review system, which prohibits providing preferential policies to specific operators beyond legal limits, including exempting operators from social insurance premiums. All local governments and government organs need to go through the fair competition review when making policies in principle. When private investment, including foreign investment, started to drop dramatically in 2016, the central government required governments at all levels to fulfill their promises to investors. In January 2017, the State Council issued policies to encourage foreign investment and made it clear that local governments are allowed to make favorable policies in this regard, as long as it is within legal limits.  

In this process, two bottom lines about local governments’ power gradually emerged: On the one hand, the policies they make should be based on the law. On the other, local governments should keep their word.  

The Foreign Investment Law draws on experience and lessons from the past. It retains the favorable policies on the national level. Meanwhile, it allows local governments to put forward policies to boost foreign investment within legal limits, which would include the demand for a fair competition review, the requirements of China’s trade policy compliance review [as mandated in the WTO agreements among its member countries] and laws and regulations in tax collection and management, and so on. Policies made within these parameters should be sound, legally speaking. 

NC: The Foreign Investment Law adds a complaint mechanism for FIEs and provides legal channels like administrative reconsideration and litigation. How do you understand the combination of administrative and legal channels as stipulated by the law? 

CF: It is good that the legislative body put administrative reconsideration and administrative litigation into the law in the end, signaling that FIEs could choose to pursue a judicial remedy on the same footing as domestic companies. They have different functions to complaint mechanisms.  

Administrative reconsideration and administrative litigation apply to situations in which foreign investors have a complaint about a type of specific administrative conduct. When FIEs think an administrative organ should give a license but it does not, they can sue, for example.  

What a complaint mechanism can cover is very broad. It can handle complaints from FIEs as to whether the administrative staff puts pressure on the enterprises to do something, or whether their attitude is satisfactory.  

This mechanism will help supervise Chinese administrative staff so they better perform their duties. China has reached agreements with many countries, some of whom might doubt China will fulfill certain agreements. In these circumstances, such a complaint mechanism will urge the Chinese government to make more efforts in carrying out international treaties and give its partners more confidence.  

Meanwhile, we should notice that while this complaint mechanism for FIEs could be powerful in solving problems in the future, it is unfair for domestic enterprises which do not have such a channel. It is understandable that the Foreign Investment Law targets only FIEs in establishing the mechanism. But I believe that after the FIE complaint mechanism is put into effect, it will be necessary to build a broader complaint mechanism to also cover domestic enterprises to improve the business environment.  

NC: Local governments are not allowed to illegally set requirements for market entry and exit for FIEs. During the legislation process, some experts suggested that China preserve for local governments the power to do so, particularly under the negative list system – in a bilateral investment treaty, it means sections outside the negative list are automatically open to foreign investors – in order to provide some buffers in the supervision and management of newly emerged industries or unexpected foreign investment access. What’s your take on this?  

CF: It is unfeasible. China has repeatedly stressed in documents that local governments are prohibited from setting requirements for market entry and exit, and this is against the law. Some local governments set restrictions for foreign investment probably out of  
regional protectionism. The power to confine investment might get misused, if it is once allowed. 

It is true that US states and EU members are endowed the rights to set barriers to foreign investment by themselves. Instead of granting the same power to Chinese local governments, China can only address the problem by trying to reach agreement on constraining the power to do so by local governments of both parties in negotiations on bilateral investment protocols with the US or the EU.  

Under the negative list system, it is not feasible either to gain a buffer by using  
local governments to curb the access of newly emerged industries. It primarily should be solved by designing the relevant content in investment treaties. Up to now, China has not signed any agreement which includes the negative list and investment liberalization. When signing such treaties in the future, China needs to carefully design its negative list. For example, it is possible to be more flexible and predictable when defining a sector that deserves the right to make restrictive measures in the future, so it can include a new technology in the negative list when necessary. It is also reasonable to make safeguard clauses in exceptional circumstances to extend flexibility in policymaking. 

NC: The law legalizes the system of pre-establishment national treatment plus a negative list for foreign investment. If there are more preferential rules in market access in international agreements China has signed, such rules shall prevail, the law stipulates. Some worry that it may lead to the possibility of foreign investors suing the Chinese government directly by using international investment treaties and thus disturbing the uniformity of the legal system. Do you agree? 

CF: China signed bilateral investment treaties with some countries in earlier years and the agreed treatment is relatively low by today’s standards. Indeed, the issue of market access is rarely included in China’s existing bilateral investment agreements. Given this, the application of terms by lower standards is not in line with the spirit of fostering high level opening-up within the law. 

There are two ways of applying international laws in China. Many laws, including civil law and maritime law, give priority to the direct application of international treaties, and that works well. Meanwhile, some international rules, such as WTO rules, need to be integrated into domestic laws to be enforced.  

I would prefer to directly use international agreements when it comes to foreign investment. This will help make China more prudent when signing bilateral investment treaties to keep its promises consistent with domestic laws and regulations. The treatment, rights and obligations we could promise in bilateral or multilateral investment treaties should constantly keep pace with the reform and progress made in the foreign investment system. 

On the other hand, I don’t think it is a bad thing if foreign investors directly use international treaties to sue the Chinese government within China, which could mean administrative litigation. Because if they do not sue in China, they will go to an international arbitration institution like the International Center for Settlement of Investment Disputes (ICSID) for investment arbitration, based on the bilateral investment treaties signed with China.  

Many of our bilateral investment treaties stipulate that foreign investors can choose either local judicial remedies or international arbitration to solve investment disputes. If the law does not allow them to directly apply international investment treaties and asks them to use domestic laws only, they will see a slim chance of winning in China and directly go to the ICSID instead. I think it will be better to bring the international disputes back to China, because it will be more costly to go to international court.  
NC: The Foreign Investment Law is much shorter than the 2015 version, with many details deleted, and was approved and passed much quicker than usual. Foreign business groups have questioned it for being fast-tracked and vague. What’s your opinion? 

CF: The law is a fundamental one that sets up the pillars and framework governing foreign investment in China. As China is establishing a new management system for foreign investment, this fundamental law provides guidance to revise and establish enforceable laws and regulations. 
It preludes the systematic abolition, amendment and establishment of laws and rules to come.  
It is true that specific rules are not in place yet, but it is predictable that from now until January 1, 2020 when the law comes into effect, implementation regulations and supporting rules and normative documents will gradually be released to make the law enforceable. Most importantly, in this process, the government will continue to solicit opinions from FIEs and foreign business groups. 

Besides, the law was not made in a hurry. The legislation process might have been shorter, but the basic rules and principles, as well as problems covered in the law, have been discussed for a long time or have been practiced for some time. Take the negative list system. Six years have passed since it was first tried in the Shanghai Free Trade Zone. The final law is a result of China’s reform and experience in managing foreign investment. It is also a continuation of China’s efforts in building a fair competition system starting from 2008. So it is high time that China built a new fundamental law.  
NC: The law stipulates that China will build an information reporting system and a security review system for foreign investments, but the language is broad. It has triggered concern from foreign business groups about the uncertainties in the future.  

CF: The 2015 version of the foreign investment law is very long, with dozens of articles about each of the two systems you mentioned. So the design, and discussion about it, is well-grounded. 

The information reporting system and security review system are already at work. A filing system run by the Ministry of Commerce demands FIEs to register their information on an official platform and there is also an annual information-reporting system. Now the law has passed, there will be enforcement regulations and special laws and rules to further clarify the matter and build a unified information reporting system to cover the information reporting before and after FIEs enter the Chinese market.  

Two security review systems have already been in operation for several years. One is on FIEs’ mergers and acquisitions of domestic firms, and the other is for  
security reviews of foreign investment in free trade zones. A unified security review system will come out with specific regulations. 
NC: Do you think China’s efforts in using the rule of law to improve the investment environment, including the foreign investment law, will help speed up the process of reaching bilateral investment treaties (BIT) with the EU and the US and help China play a bigger role in WTO reform? 

CF: I think so. Now China’s ultimate goal is to make its market economy system in line with the international standard. China’s efforts on the rule of law in this regard have something to do with international situations, but it is more of a step in China’s market economy construction and reform to the foreign investment system at China’s own pace.  

These efforts will help China play an important role in multilateral fields and reach BITs and regional trade agreements, including the Regional Comprehensive Economic Partnership and China-Japan-South Korea free trade agreements.  

China has been playing an active role in enhancing international trade and investment facilitation. For example, at the G20 summit held in Hangzhou, Zhejiang Province in 2016, China initiated efforts to reach the G20 Guiding Principles for Global Investment Policymaking, a milestone in fostering multilateral investment rules, providing directional guidelines for future international investment. At the WTO Ministerial Conference in Buenos Aires, Argentina in 2017, China made a joint statement with ministers from other WTO members and called for a framework for global investment facilitation.  

China’s efforts to enhance development in this field require its own investment legal system to be highly open and support investment facilitation. The Foreign Investment Law will contribute to this, because it marks China’s transition from an opening-up model focused on product flows to institutional opening-up, which includes establishing domestic rules, writing laws in line with international rules and initiating new international rules.

A Chinese woman works for a foreign-invested enterprise in Jiangxi Province