Can the EU afford to block China’s business openings to Europe by denying her the ‘market economy status’?

EU/China Summit, 12-13/07/2016. Handshake between Xi Jinping, President of the People’s Republic of China, on the right, and Jean-Claude Juncker President of the Eueopean Commission. Date: 12/07/2016. Location: Beijing, China – Diaoyutai State Guesthouse. © European Union , 2016 / Source: EC – Audiovisual Service / Photo: Olli Geibel.

The way Wallonia, Belgium’s French speaking region approved CETA – the comprehensive economic and trade agreement between the EU and Canada – is a rather dark landmark. In the future, Europe’s trade and otherwise relations with foreign countries will be rather shaky. This was also true in the past, but now became evident for everybody to comprehend. Europe’s protection of home markets has always been a standard cause of conflict with trade partners. This observation also applies to relations with the US and China, first and second trade partner of the EU.

However, while in the case of US the EU has been avoiding to challenge the status quo or to test the prospects of the relationship, in the case of China the direct confrontation has almost invariably been the case. To be noted, that the EU – China relations are of a quite different quality than the US – China affairs. The US and China have a much deeper and wider bonding between them, than Europe’s association with the most populous country of the world.

What do the Chinese perceive?

This writer has heard key Chinese personalities, belittling the ties and opportunities their country has in the EU or envisages for the future, in contrast to the US. China accuses the EU of miser and egotistic attitude in economic dealings, general indecisiveness and flaccid presence in world affairs. At the same time, news from New York’s financial hub tell great stories about the presence of Chinese companies there, raising tens of billions of dollars in Wall Street.

Only last week the Chinese logistics and delivery company ZTO raised $1.4 billion in Wall Street, in the largest US initial public offer (IPO) of the year. Imagine the meaning of this fact, having a Chinese company which realized the biggest IPO at New York’s Stock Exchange in 2016. Not to say anything about the mythical Alibaba Group Holding Ltd IPO of $24bn in 2014. Undoubtedly, in terms of attainments and opportunities, China has much less to expect from Europe compared to the US.

Recovering from the crisis

There is more to it though. In the aftermath of the financial crisis of 2008-2010, Europe found it very difficult to recover from the recession that followed. Still today the Old Continent is plagued with stagnation in the real economy and by grave problems in its financial industry. Almost all its major banking groups are in dire straits with non performing loans, unable to adequately recapitalize themselves in the free market. Unfortunately, the European Central Bank reacted too late, with quantitatively inadequate programs vis-à-vis the devastating effects of the crisis. Incidentally, it was Germany that blocked the ample and timely refinancing of the economy from ECB’s coffers.

Now, the entire Eurozone surely faces the forthcoming next crisis from a disadvantaged position, also due to the problems stemming from Brexit and the immigration stalemate. The tribulations around the approval of the CETA trade pack with Canada are a very indicative development of EU’s difficult position. Unfortunately though, Brussels turned to some questionable policy tools to revive the ailing euro area economy.

The wrong tools

One of those tools, an inopportune one, was the introduction of new import hindering measures, imposing extra tariffs on allegedly dumped or subsidized products. To be noted, that those measures are much more easily justified and lead to heavier anti-dumping levies under World Trade Organization rules, if the products are exported from a non-market economy. Under China’s Accession Protocol in the WTO which was activated on 11 December 2001, the country was classified as a non-market economy. However, the Protocol stipulates that this categorization has to end by the end of 2016, allowing China to be considered as a market economy.

In connection to that, the EU is conducting an investigation and an internal dialogue to decide if China has today evolved into a market economy or not. And this has to be determined well before the end of this year. Understandably, if the answer is yes, then the use of extra antidumping tariffs on Chinese products will be much more difficult to justify under WTO rules and the extra levies will be much lower than present. Of course, this question has to be answered by Brussels in good faith, using real facts and not biased assumptions.

What is a market economy?

To judge this, one key fact is the existence, the size and the role of its capital markets and more precisely its stock exchange. China has two plus one huge bourses. In any market economy the companies enlist in the stock market, in order to capitalize themselves and finance their investment projects. All economic theories accept that this is the market of markets, making sure that the nation’s financial resources are used in the best way, financing the more productive real investments. The large numbers of listed firms and of those preparing to enlist through initial price offers (IPOs) are quite indicative that the country is a market economy.

In China all stock market figures are immense. The country has three bourses, the Shenzhen Stock Exchange, the Shanghai Stock Exchange and the Hong Kong bourse, which operate independently. The second one is the world’s 5th largest stock market, with a capitalization at $3.5 trillion as of February this year, and 2nd largest in Asia.

In Shanghai, the listed stocks are 1,188 and another 1,420 in Shenzhen, plus 1,866 in Hong Kong. To be noted that the sovereignty of Hong Kong was transferred to China from Britain on 1 July 1997. As for companies lining up to enlist their stocks through IPOs, they don’t only look towards the Chinese bourses, but to New York too. Many Chinese companies have either enlisted or plan to do so in the New York’s capital market.

The EU has to decide

In short, China has three fully grown stock markets, which are tightly connected to the real economy and decisively support impressive overall growth rates. The European Union has to now decide if China is a market economy or not under this light. Obviously, this decision has to be based on facts and not on the worries of the EU solar panel industry and the ailing European steel and steel products manufacturing. Unfortunately, some EU circles are trying to make out of this subject a major political affair. However, this is a bureaucratic and exclusively WTO business, without any side effects on hot issues like the environment and the social rights, which usually mobilise the European public opinion.

Hence, it seems that the efforts by those quarters to politicize and mobilize the public opinion against the market economy status for China will fail, and the issue will never reach the eight o’clock news. There is no journalistic substance in it, and any attempt for the contrary will look like an aggressive and unjustified campaign, generously paid for by lobbyists, acting against a friendly nation, China.

Is Europe a market economy?

Speaking of market economies, the EU is itself a great government/state entity. Theoretically, in a market economy the intervention of the government has to be minimal and in any case bellow 50% of the GDP. According to such a definition, almost all the EU countries are, to a large extent, non market economies.

Their government budgets account for around half the GDP. If one adds the expenditure and the incomes of other state entities like the local and regional authorities, plus the economic weight of the government-controlled public utilities and other state sector businesses, the free market segment of the economy is barely one third of the total. Having said that, if China is not a market economy, then no EU country is.

Still there is strong opposition

Still, there is information from Brussels that there is a strong group of people defending the position that China is not a market economy. For one thing, the EU Parliament, in a non legislative resolution said that “Until China has fulfilled the EU’s five criteria for market economy status, its exports to the EU must be treated in a “non-standard way”. According to the EU law, if the EU Commission were to propose to recognize China as market economy, the Parliament would have co-decision rights with the Council.

In contrast, this same legislative body has passed the CETA trade pack with Canada with a large majority, which politically touches sensitive issues like the environment, social and labor rights and the judicial structures. The two cases are comparable. They are both about jobs and incomes. So, if the Parliament agreed to CETA why not to China? At this point, one must learn to ‘read’ European politics. Many things are not as they look. This means that if the Commission comes along with a realistic and strongly substantiated proposal that China must be recognized as a market economy, the Parliament could accept it, despite the above quoted headline denial. Interestingly enough, the same Parliamentary resolution leaves an opening for that.

The second paragraph of the same Press release reads:”However, the EU must find a way to do this (decide about market economy status for China) in compliance with its international obligations in the World Trade Organization (WTO), and in particular, China’s WTO Accession Protocol, which provides for changes in how China is to be treated after 11 December 2016. In a resolution passed by 546 votes to 28, with 77 abstentions, MEPs call on the EU Commission to come forward with a proposal that strikes a balance between these needs”. Obviously, the MEPs, or at least some of them, recognize that China may be right in declaring that after 11 December she must be recognized as a market economy.

The US-China-EU triangle

Coming back to the US-China-EU triangle, the Brussels decision about China will have important upshots on the bilateral relations of all three sides. If Europe decides that the most populous country of the world is not a market economy, China will almost automatically build up its attachment to the US. In this way, the EU will not only lose what China can offer the Old Continent, but at the same time will experience a deviation of the American interests from the Atlantic to the Pacific. And all that will happen at a time when Europe is already suffering from a kind of isolation from global developments.

The US may probably also deny the market status to China. But the Americans have opened a thousand other doors for the Chinese companies to enter their market. Chinese companies are today quite active in New York and heavily invest on real or financial American assets. On the other hand, the EU inopportunely examines with a magnifying glass every effort of the Chinese business to invest in the EU.

What does the Protocol really say?

Understandably, the issue of granting China market economy status by the EU and the US has attracted the interest of the academic community. Two prominent scholars specialized in EU-China relations recently produced a highly relevant article entitled “The Role of Market Economy Status in EU-China Relations”. Wei Shen (Jean Monnet Chair in EU-China relations at the ESSCA – Asia Institute) and Antonella Forganni Assistant Professor at the ESSCA School of Management look at this issue in an impartial, constructive and exhaustive manner.

They recognize that the issue is of key strategic importance for the rather strained EU-China relations. Brussels has resorted to extensive use of the antidumping and the anti-subsidies tools against Chinese products. The writers conclude that the mainstream interpretation of Paragraph 15 of China’s Protocol of Accession to WTO, specifies that the market economy status should be granted at the end of the transition period, which ends this year.

Supporting the positive option

According to Shen and Forganni there is a second interpretation “defended by some scholars”, that “only certain rules will expire at the end of 2016, but not all of them….”. Obviously, the two researchers consider that the first option is more powerful. Their wording of the relevant passage speaks of ‘some scholars’ plainly reducing this opinion to a second rate option.

As a result, if Europe chooses to follow the weaker opinion, the choice will be considered as an aggressive action against China. Not to forget, that the EU-China relations are already strained, due to the many antidumping and anti subsidy measures Europe has imposed on Chinese imports.

In short, Europe has to choose to either follow the inward looking approach by bowing to the cries of marginal business activities for more protection and thus risk a lot, or follow the stipulation of paragraph 15 and sail to the world markets.

All things said, it’s rather difficult to predict what the proposal of the Commission will be. The Sting though will monitor the topic closely.