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The EU and China on December 30, 2020 made a consensus for the Comprehensive Agreement on Investments (CAI) between China and the EU. Following seven years of back and forth, this would replace 26 current agreements between 27 separate EU countries and China. Thus, such a treaty is necessary to create a uniform legal framework for investments between the EU as a whole, and China. Those present at the meeting included Chinese President Xi Jinping, European Commission President von der Leyen, European Council President Charles Michel, German Chancellor Angela Merkel, representing the Presidency of the EU Council, and finally, French President Emmanuel Macron.
At the moment, CAI is considered ad referendum, meaning certain details must first be finalized before all groups are subject to the policy. Forecasts estimate it to be signed sometime in 2022, when there will be a French Presidency in the EU. It would then go to the EU Council and the European Parliament for approval. In regards to ESG, CAI addresses three main ESG issues:
1. SOE (state-owned enterprise) treatment and subsidy allocation
2. Forced technology transfers
3. Sustainable development
SOE Treatment and Subsidy Allocations
China’s SOEs make up about 30% of China’s GDP, according to China Briefing. In Fortune Global 500 companies, in 2017, there were 75 SOEs in China, compared to less than half the amount outside of China, at 27 SOEs, citing data from a China Journal of Accounting Research paper. In the same year, the total assets of Chinese SOEs hit RMB151,711bn. They also sold over RMB52.2tr in value of goods and services, making Chinese SOEs vitally important to both foreign and domestic markets. Although they make up such a large part of the market, overconsumption and dependence on SOEs in particular industry sectors lead to control of prices and affect monetary prices. This thereby affects productivity of non-state companies, and lowers the overall operational efficiency of SOEs themselves. Those on the EU side have called for more regulation regarding SOE behavior in order to curb the privileges and leeway many SOEs enjoy. SOEs would fall under scrutiny to reduce discrimination in purchases as well as sales of goods and services, and on request, enterprises would be assessed on their compliance with CAI should the policy pass.
Transparency is another key step for many processes for foreign investments such as qualification of subsidies. In addressing a loophole in WTO regulation, CAI would require more clarity on subsidy issuances for the services sector. Moreover, on China’s end, it would need to provide certain levels of information and a plan of action should there be subsidies with negative effects for EU investments.
This topic falls under several pillars of SASB’s (Sustainability Accounting Standards Board) Materiality Map, which focuses on financially material sustainability topics important to global investors. The first is Competitive Behavior, which covers monopolistic behaviors, anti-competitive practices, collusion, and price manipulation. CAI would require higher accountability and scrutiny for SOE behavior in the marketplace, especially areas where many SOEs are the dominant or essentially only market player. Another topic is Management of the Legal & Regulatory Environment, which includes the level of monetary incentives, including subsidies, that companies can receive. In the future, such distribution of subsidies should provide a more transparent view of subsidies that SOEs are receiving, and how other companies may qualify for subsidies in general.
Forced Technology Transfers
Under CAI, previous investment requirements in China requiring transfer of foreign companies’ technologies will no longer apply. This includes such requirements typically relevant for joint ventures between foreign and local companies, where foreign manufacturers, for example, were required to provide information on proprietary product information. It will also prevent encroachment of contractual freedom for technology licensing and guarantee protection from unsanctioned disclosure of confidential data usually given to administrative groups.
In regards to SASB pillars, this topic also maps out to Competitive Behavior, and Management of the Legal & Regulatory Environment. Local companies will no longer have the right to demand foreign partners to provide patent information or IP from a legal standpoint, as previously enforced with JVs.
Sustainable Development
The CAI focuses on three main areas under sustainable development, specifically labor, corporate social responsibility (CSR) and the environment. In regards to labor, China should avoid using labor standards as a way to protect certain companies. The country should also make commitments to better adhering to International Labor Organization (ILO) standards.
From a national level, the Chinese government would also enforce companies to better adhere to CSR requirements. Regarding the environment, CAI has sections regarding the environment and climate. Both parties much ensure continued commitment to the Paris Agreement on climate change. Additionally, China cannot use environmental standards with protectionist justification.
These areas are related to Labor Practices, Human Rights & Community Relations and GHG emissions under SASB’s materiality map. Labor practices includes fair wages, child labor, forced labor and more. For human rights and community relations, this also covers management of direct and indirect effects on core human rights, as well as how certain people groups are treated. These two pillars have been a bone of contention from certain EU members. For GHG emissions, China has already been proactive in measures to assure it can attain carbon neutrality be 2060, ahead of many other countries that have also committed to the Paris Agreement on climate change.
Overall, CAI will hold more companies accountable on an international level to better adhere to many ESG principles. Specifically addressed under CAI include targeted policy against anti-competitive behavior, and calls for improved labor and environmental practices.
Sources:
www.sasb.org/standards/materiality-map
https://ec.europa.eu/commission/presscorner/detail/en/ip_20_2542
https://trade.ec.europa.eu/doclib/press/index.cfm?id=2237
https://www.sciencedirect.com/science/article/pii/S1755309119300437
