China Investment Policy – Ensuring The Mice Will Be Caught

Although much of the world continues to struggle with the COVID-19 virus, China is recovering and is very much focused on the need to kick start its damaged economy. Good news in China would be welcome news globally, as markets everywhere look for any sign of growth as a basis for optimism that the world economy generally will recover strongly in the second half of the year.

The Big Picture

China has gone through a number of phases of expansion over the last two decades. For much of the last twenty years, it experienced double digit growth as it attracted enormous inward investment and the world changed massively as a result of the mass movement of manufacturing capacity to the PRC.

Over the last decade, Chinese outbound investment has been a feature of many markets around the world, including manufacturing and other areas. There are, however, a number of reasons to think that China will now refocus on boosting its home market by seeking foreign investment once again.

2019 – Foreign Investment Law

As a result of falling growth projections for 2020, China needs to refocus on its home economy to preserve jobs and put foundations in place to assist its recovery. With this in mind, a new Foreign Investment Law came into effect on 1 January 2020. This was aimed at further opening up markets with the intention of "levelling the playing field" for foreign investors. The new law, however, contained big-picture statements of intent but not enough detail. Many viewed it as China’s attempt to address international criticism (particularly from the United States) about its lack of openness and improve its image as a frustrating place to do business.

The Foreign Investment Law seeks to simplify the legislation applicable to foreign investment. Prior to it taking effect, three principal laws related to each of wholly foreign-owned enterprises (WFOE), Sino-foreign joint ventures and contractual joint ventures. Increasingly, these old alternative business vehicles were viewed as outdated and the separate rules for each as unnecessary.

Building On the Foreign Investment Law – State Council Guidance

Although the Foreign Investment Law was seen as being general in nature, it nevertheless emphasised equal treatment for foreign investors. It also contained a number of statements about abolishing forced technology transfer and improving intellectual property rights protections. In addition to the law, the Opinions of the State Council on Further Improving the Use of Foreign Capital dated 30 October 2019 (the “State Council Opinions”) further outlined the general objectives in opening up the economy. It contained the following features:

Key Industries

(i) New areas permitted – It emphasised the objective of shortening the national and free-trade zone (FTZ) negative list and abolishing restrictions on sectors not included in the negative lists.

(ii) Financial sector (including banks and insurance) - This involves abolishing many restrictions on the activities of foreign invested banks, securities companies and fund management companies, lifting a number of entry requirements in respect of thresholds, total assets, operating years and types of corporation of foreign (and, in the case of Sino-foreign joint venture, Chinese) investors. The State Council Opinions promise the adoption of equal treatment in respect of registration formalities of foreign-invested and domestic insurance institutions. Significantly, they also announced the removal of foreign ownership restrictions (up to 51%) for securities companies, securities investment fund management companies, futures companies and life insurance companies in 2020 – this was fully implemented as of 1 April.

(iii) Motor Cars ‒ Equal market access for new-energy vehicles produced by domestic and foreign-invested manufacturers; and reform of existing regulations to allow the transfer of credits (awarded by selling motor vehicles exceeding national environmental standards) between various enterprises with foreign investors.

Promoting investment

(i) Process – The State Council Opinions require local governments to promote foreign investment and serve foreign-invested enterprises (FIE) better, by, for example, delegating more approval powers and streamlining the local approval process.

(ii) Funding - The objectives are to:

• Remove barriers to the use of overseas funding by supporting foreign-invested enterprises to use cross-border RMB funds and simplifying foreign debt registration. In response the People's Bank of China and the State Administration of Foreign Exchange acted on the 12th March this year by raising the foreign debt borrowing cap applicable to both domestic and FIE’s so as to allow borrowing up to 2.5 times of net assets shown in a borrowers latest audit report – such cap was previously up to twice its net assets.
  
  
• Simplify bank formalities relating to the use of money sent to China as debt or equity, removing red tape to allow funds to be used more quickly and easily.
  
  
• Encourage foreign-invested enterprises to make domestic equity investments by using their registered capital. It should be noted that the State Administration of Foreign Exchange expressly lifted the restriction on foreign-invested enterprises using registered capital on 23 October 2019 (a few days prior to the State Council Opinions) for domestic equity investments within China (previously, registered capital could only be used for purposes within a company’s permitted business scope).

(iii) Simplifying land planning approvals – The objective here is to combine planning, site selection and land use pre-examination, merge construction land-use planning permits and land-use approvals and simplify various review and approval processes.

Equal Treatment

(i) The Opinions envisage the full implementation of the Foreign Investment Law, the improvement of the complaints system for foreign-invested enterprises and a reduction in red tape to lessen the compliance burden on foreign-invested enterprises. In particular, an appropriate period of time will be allowed between the introduction and effectiveness of new regulations to help industry and businesses to adjust, having regard to the business environment and prevailing conditions. The Opinions also promised enhanced IP protection, which is particularly important as it potentially addresses some of the long-standing complaints foreign investors have made regarding remerges available and other such measures.

(ii) Tapping Foreign Expertise ‒ Loosening restrictions on (among other things) age, educational background and work experience to allow people with urgently needed skills to move within local areas; and reforming work permit and resident permit procedures for foreigners.

(iii) Remaining Restrictions ‒ Removing obstacles to fair competition and various restrictions on business/projects carried out by foreign construction enterprises; improving foreign investors’ applications for the operation of internet-based service businesses and entertainment places, among others, and adopting equal treatment for the approval of domestic and foreign-invested institutions on product certification.

It also appears that the measure also encourages equal participation in government procurement and envisages a role for foreign-invested enterprises in the development of standards regarding medical devices, food and drugs, and information products.

Taking the State Council’s Guidance Forward

Many international observers noted in late 2019 that additional details were needed, so further action has been expected. The first major regional government to take this forward has been Shanghai.

The Several Measures of Shanghai Municipality on Implementing the Opinions of the State Council on Further Improving the Use of Foreign Capital (Shanghai Measures) attempts to take forward many of the policy ideas set out in the State Council Opinions.

Industry Sectors

(i) Financial Services – As all restrictions in financial services industries listed in the 2019 Negative List were lifted as of 1 April, 2020 (removing limits on shareholding ratios for certain securities companies and life insurance companies), Shanghai will pursue its objective to become a world financial centre and encourage investment in industries such as life insurance and asset management, and further open up bond and foreign exchange markets and products.

(ii) Electric Motor Cars – The Shanghai Measures also mentions the new-energy motor car industry as an area to be further opened up. Under the Development Plan for Energy-saving and New Energy Automotive Industry (2012-2020), “New-energy” motor cars are defined as vehicles that use alternative power systems which are completely or mainly driven by new energy sources, mainly including pure electric driving automobiles, plug-in hybrid automobiles and fuel cell motor cars. Shanghai has since issued its 2020 Operation Process regarding the Implementation Rules for Encouraging Purchasing and Using New Energy Motor Cars in Shanghai, which aims to further shorten the time required for companies to register new-energy motor car models as well as the time required for consumers to purchase car plates and install charging piles.

(iii) Telecommunications, scientific research and technology service, education and health industries within Shanghai FTZ ‒ Shanghai is also attempting to further open up telecommunications, scientific research and technology services, and education and health industries within the China (Shanghai) Pilot Free Trade Zone (including the Lin-Gang Special Area). No details are available at the moment.

Encouragement and Assistance

(i) New Incentives – certain qualifying Shanghai foreign investment and capital increase projects may qualify for grants and other benefits from Shanghai district governments based on the size and importance of such projects. Further details are to be formulated at the district government level. At the moment, details are unclear as to what industries may benefit or what size of investment will qualify for these new incentives – the Shanghai Measures use very general wording such as “overall contribution” and “the development goals of Shanghai”, but foreign investors may wish to touch base with their local district government to check what kind of incentives may be available.

(ii) Help with work and resident permit procedures – This is another measure aimed at foreigners working in Shanghai. Although there are few details, this appears to be aimed at reducing delays and red tape and making it easier for foreigners to obtain work and residence permits.

(iii) Simplification of bank formalities related to foreign direct investment and foreign debt – The Measures indicate that simplified measures for foreigners will be introduced to exchange salary into foreign currency – a further attempt to make life easier for them. It is also envisaged that it will be easier for foreign-invested enterprises to complete foreign exchange registration and to borrow from overseas. This measure also confirms that foreign-invested enterprises (even without an investment business scope) can use registered capital for re-investment within China.

Legal Reform

(i) Land planning approval process - Combining multiple review and approval procedures into one certificate.

(ii) Accelerating implementation of the Foreign Investment Law – This indicates an intention to speed up the introduction of the details have been missing in the Foreign Investment Law.

(iii) Administrative Penalties – Providing exemptions for minor violations – this appears to be an intention to limit strict administrative liability for certain violations, but it is subject to the introduction of detailed regulation. This, however, appears to continue a trend, for example, the Shanghai Administration for Industry and Commerce (AIC) in 2019 issued a list of minor violations for which administrative penalties might be exempted, such as, a company failing to timely register the change of its registered address but correcting this breach after being ordered to do so. We can now expect more such relaxations aimed at rewarding compliance with orders.

(iv) Intellectual Property – Measures are to be introduced aimed at making legal action involving foreign-invested enterprises easier. Increased penalties will also apply to IP infringement cases.

Fairness

(i) Listening to concerns – The Shanghai Measures suggest a wish to listen better, improve communications with foreign-invested enterprises by appointing liaison officers for certain such companies that are viewed as key, and optimise the complaint mechanism.

(ii) Consultation – There is a new commitment to request submissions/opinions from foreign-invested enterprises and chambers of commerce on foreign investment-related regulations. The Shanghai Measures appear to acknowledge the need for time to digest and prepare for relevant regulations by providing a reasonable time gap between the issuance date and the effectiveness date. English translations of foreign investment-related regulations are also to be issued as standard practice.

(iii) Participation in Government Projects – There is a desire to enhance foreign-invested enterprises’ rights to participate in standard formulation and government procurement processes.

More Reforms Expected

The Foreign Investment Law and the State Council Opinions demonstrate an intention to develop a more transparent and open business environment to enable China to remain competitive. It is likely that China will continue to be selective about what investment in which area it wishes to encourage, and more detailed industry and area-specific policies are expected. Shanghai will not be alone in following up with actions

On 21 April, the Ministry of Commerce forwarded the Shanghai Measures to all other provinces for their reference, asking them to issue further policies and measures to stabilise the foreign investment environment in their areas. It is therefore likely that measures similar to those introduced in Shanghai will be developed over the coming weeks and months.

The outlook for 2020 is complicated as the world enters recession, and demand for Chinese-made goods drops. This backdrop combined with mounting challenges in trade and China’s relationship with Europe, the United Kingdom and the United States make reform even more important.

China has adapted many times in its recent history and is doing so again. As Deng Xiaoping famously said: “It does not matter if a cat is black or white, as long as it catches the mice”.