The new EU Regulation on the screening of foreign direct investments: A tool for disguised protectionism?

Prof. Nikos Lavranos, Secretary General of EFILA

In December 2018, the EU institutions agreed on the text for an EU Regulation establishing a mechanism for screening all foreign investments into the EU.

In just over a year the EU institutions adopted this Regulation, which is unusually fast and reflects the apparent political will of the institutions involved to deliver something tangible that would address the fear against Chinese investments that would essentially take over the European economies.

The Regulation is in particular noteworthy because it introduces an EU-wide screening mechanism at the EU level as well as at the Member States’ level, which in many ways is similar to the US screening mechanism (CFIUS) whose scope of application was recently also significantly expanded. (The revised CFIUS text is part of the very extensive National Defense Authorization Act for Fiscal Year 2019, sections 1701 et seq.)

The EU Regulation is also significant in that it gives the Commission and other Member States the power to directly interfere in the screening of FDI in a particular Member State.

At the Member States’ level, it should be noted that there is a disparity among them regarding their approach of whether or not to screen FDI, and if so, under which conditions and procedures.

According to the Commission, about half of the Member States have currently no screening mechanism at all, while the other half does have one. In addition, the conditions and procedures of the existing screen mechanisms differ.

Accordingly, the Regulation aims to harmonize this situation by grandfathering all existing screenings mechanisms and by encouraging all Member States, which have not yet one, to establish such a mechanism. In addition, common basic criteria for the screening of FDI are laid down in this Regulation. Indeed, all Member States are required to register all incoming FDI and to report them to the Commission and to all other Member States. In fact, the Member States and the Commission are required to set up a dedicated contact point for that purpose.

At the European level, the Regulation gives the Commission – for the first time – the power to actively screen FDI – not only those that are “likely to affect projects or programmes of Union interest on grounds of security or public order”, but also those that are “likely to affect security or public order in more than one Member State”.

The Commission may issue opinions, which the Member State concerned is required to duly take into consideration. Similarly, Member States can comment on the screening of FDI in other Member States.

However, what is most interesting is the wide scope of the sectors that may be screened, which covers, inter alia, the following areas:

(a) critical infrastructure, whether physical or virtual, including energy, transport, water, health, communications, media, data processing or storage, aerospace, defence, electoral or financial infrastructure, as well as sensitive facilities and investments in land and real estate, crucial for the use of such infrastructure;

(b) critical technologies and dual use items as defined in Article 2.1 of Regulation (EC) No 428/2009, including artificial intelligence, robotics, semiconductors, cybersecurity, quantum, aerospace, defence, energy storage, nuclear technologies, nanotechnologies and biotechnologies;

(c) supply of critical inputs, including energy or raw materials, as well as food security;

(d) access to sensitive information, including personal data, or the ability to control such information; or

(e) the freedom and pluralism of the media.

Also, noteworthy is the fact that there is no minimum threshold of the amount of the FDI for screening, which means that potentially any FDI from 1 to 100 billion euros could be screened.

While the fear against a Chinese takeover of the European economies is widespread and understandable, it is not supported by facts. Indeed, as a recent study by the well-respected Copenhagen Economics institute shows that countries other than China invest much more into the EU.

According to this study the US is by far the largest investor in the EU and accounted for 51.1% of the M&As by third country investors, followed by Switzerland (10.8%), Norway (4.6%) Canada (3.8%), while China comes only fourth with a meager 2.8%.

When it comes to investments by State Owned Enterprises (SOEs) from third states, Russian investors accounted for 16.6% of M&As, followed by Norway (15.8%), Switzerland (11.8%), while Chinese SOEs account only for 11% of the M&As.

In other words, the amount of Chinese FDI are far lower than from several other third countries, but which seemingly are considered friendlier and thus approached with less hostility.

Be that as it may, the real risk of this Regulation is not so much the screening of FDI but that it could be abused as a tool for disguised protectionism and classic state-governed economic nationalism.

This is so because the big Member States will be able to force smaller Member States to block FDI, for example from China, in order to give preference instead to French, German or Spanish investors.

Similarly, the Commission may force a Member State to block an FDI for unrelated more important geopolitical reasons.

This can also raise the tension among EU Member States which are competing for FDI. For example, if the Rotterdam harbour wants to attract Chinese investments for upgrading and expanding its facilities in order to be able to better compete against the harbour of Hamburg, Germany might very well use the argument of “security or public order” in this Regulation to force the Netherlands to block the Chinese investor and rather accept a European investor instead, or forget about the whole project altogether.

This is not to say that one should be naïve about Chinese, American or Russian investments, which are often connected with geopolitical aims or potentially (business) espionage. The example of Huawei, which has been restricted in developing the 5G network in some Western countries, is telling. At the same time, one should not forget that EU Member States are competing with each other to attract FDI and have the vested interests of their national champions always in mind.

Thus, the line between genuine protection of “security and public order” and disguised protectionism is very thin and tempting to cross for short term political and/or economic gains. However, this Regulation – unsurprisingly – does not contain any effective mechanisms to mitigate this risk.

Therefore, when this EU Regulation enters into force, foreign investors are well-advised to seek proper in-depth advice prior to investing into the EU.

Chinese SOE Investment: An Economic Statecraft

Bashar H. Malkawi*

China’s rising economic preeminence has been stunning, firmly ensconcing China as the second most powerful world economy replacing previously second-ranked Japan. In a remarkably short span, less than 15 years, the US economy has experienced a relatively huge decline vis-à-vis China on a nominal GDP basis.

China’s remarkable economic juggernaut has been fueled by an opening of markets, globalization and booming free trade which has provided immense financial benefit to Chinese companies. The free market open rules trading system led to the establishment of China as a major global exporter. As China’s economy has boomed, China has looked increasingly abroad for investment opportunities to both employ its cash hoard and provide long-term growth for its citizens.

In China, many large companies are state-owned enterprises (SOEs), and are the most common form of entity that are involved investment. Chinese SOEs receive preferential treatment in terms of access to capital and obtaining regulatory approvals[1] and are employed in the advancement of Chinese governmental aims “serv[ing] political goals, including fostering indigenous innovation, supporting social stability and crisis response in China, and advancing economic initiatives abroad such as ‘One Belt, One Road.’”[2]

By definition, all SOEs raise concerns because of their connection to their home states. These anxieties over state-owned businesses are not unique to China and relate to all SOEs in general. Investments made by states trigger different regulatory sensitivities compared to considerations raised by private companies because of the possibility that in conducting business government owned or controlled entities may utilize non-profit motivations and substitute political ambitions instead of or in addition to profit-making.

Thus, these concerns are tied to any government-owned business which potentially subjugates (or at a minimum is an additional motivation) private market interests to the political interests of the state.[3] Indeed, such concerns are not entirely new. As an illustration of prior concerns with respect to government-owned businesses and their investment decisions was the opposition over Dubai Ports’ attempt to invest in the U.S.  In 2007, the Dubai government-owned Dubai Ports World sought to acquire port terminals located in the U.S.  Members of the U.S. Congress, concerned about a foreign government controlling the flow of goods and people into the U.S. voiced strenuous opposition on national security grounds.[4] In this respect, Chinese SOEs are no different than other state-owned businesses.

However, there are additional factors with respect to China’s SOEs which increase national security concerns of FDI recipient nations; China’s political structure and unique state dominance/control of SOEs presents a different type of investor.  China is a communist economic order and the state is purposely directly involved in all critical economic sectors. “The way that the Chinese government exercises ‘state capitalism’ is that it directly or indirectly controls a large number of powerful SOEs, especially in the strategic and key sectors.”[5]

The raison d’être of the Chinese SOE is the advancement of the CCP’s objectives thus amplifying the general “state-ownership” concerns. China is ruled by one political party, the CCP, and its domination of Chinese SOEs is of critical importance.  The CCP wields near total non-financial control over its citizenry; singularly legislates the law of the land and CCP appointed judges rule on the interpretation of law in courts. These facts are not meant as a criticism of China which has expressed no intent of aggressively advancing such goals. Nevertheless, Chinese SOEs may have motivations that align with CCP goals and those aims may not necessarily correlate with other countries’ national interests.

While the U.S. government also wishes to advance its geo-political goals, the key distinction is that the U.S. government’s pursuit of policies is not part of private U.S. company investment decision making.  In evaluating FDI from U.S. companies, the presumption is the decision to invest is 100 percent profit motivated; but the same cannot be said of Chinese SOE investment. It is thus crucial to internalize that Chinese SOEs related investments may very well harbor an agenda to advance strategic goals for the CCP. These concerns can be expected to grow.  The CCP is apparently strengthening its control over SOEs.

The potential motivation to further the goals of an alternative vision of global governance by a private entity investing and buying companies is a very different context for review than traditional corporate acquirers. In addition, investments and joint ventures from SOEs may not be an efficient allocation of resources or be a profit-generator.[6] If investments are not based upon pure economic motivations, the investments may prove to be less than stellar performers or at a minimum, fail to achieve the potential return. Crucially, such motivations bring potential economic risk/loss of potential into the calculus for a recipient nation.

China has acknowledged the crucial need to reform its inefficient SOEs and doing so would lend confidence to recipient nations and lower concerns.[7]  However, economic considerations have not trumped political considerations. Rather than utilizing pure economic factors as the benchmark for SOE reform, political factors are considered which may impinge on the profit-making calculus private sector companies engage in.[8] In terms of enacting reforms to China’s SOEs, economic performance is surely a factor but not the controlling factor as it would be in a private sector business. This demonstrates that SOE investment in other countries may potentially be made based at least in part upon non-economic factors.  The fact that some SOEs investments may not have pure economic profit as the driving factor may constitute an inefficient allocation of financial resources and economic potential in addition to raising security concerns.

Although FDI is acknowledged as beneficial and an important enabler of economic vitality, many governments are concerned about national security implications of FDI. Chinese FDI has come under more stringent scrutiny in recent years sparked by political. concerns about foreign ownership in Europe and the U.S. Some in the U.S. have urged a complete ban on Chinese SOE investment. It is not only the U.S. that has signaled a reassessment is being considered. The EU has also expressed concerns regarding China’s FDI into the EU and the associated national security risks of OBOR-driven investment.  EU diplomats gave expressed “suspicions ran deep over China’s geopolitical intentions in Europe, particularly with its massive trade and infrastructure plan, the ‘Belt and Road Initiative’.

In the U.S., CFIUS is the primary vetting mechanism and wields power to review a “covered transaction,” defined as any merger, acquisition or takeover … by or with any foreign person which could result in foreign control of any person engaged in interstate commerce in the United States.  The term “national security” is not strictly defined and CFIUS focuses on certain strategic national security spheres such as energy, defense and technology.[9]  The U.S. President is specifically empowered to “suspend or prohibit any covered transaction that threatens to impair the national security of the United States.” In every other country, a CFIUS style review mechanism is an option that should be examined as a potential solution to the upcoming challenges of increasing Chinese investment worldwide.


* Bashar H. Malkawi is Dean and Professor of Law at the University of Sharjah, United Arab Emirates. He holds S.J.D in International Trade Law from American University, Washington College of Law and LL.M in International Trade Law from the University of Arizona.


[1] See Wendy Leutert, China’s Reform of State-Owned Enterprises, 21 ASIA POLICY 83, 86 (2016).

[2] Id.

[3] See Sovereign Wealth Fund Acquisitions and Other Foreign Government Investments in the United States: Assessing the Economic and National Security Implications: Testimony Before the Comm. on Banking, Housing, and Urban Affairs, 110th Cong. 4 (2007) (testimony of Edwin M. Truman, Senior Fellow, Peterson Institute for International Economics), available at http://
banking.senate.gov/public/index.cfm?FuseAction=Files.View&FileStore_
id=e4fe589e-90aa-46e0-afe9-lefb57fcd69c.

[4] See Bashar H. Malkawi, Balancing Open Investment with National Security: Review of U.S. and UAE Laws with DP World as a Case Study, 13 The University of Notre Dame Australia Law Review 153, 161 (2011).

[5] Julien Chaisse, Demystifying Public Security exception and Limitations on Capital Movement: Hard Law, Soft Law and Sovereign Investments in the EU Internal Market, 37 U. Pa. J. Int’l L. 583

[6] See, e.g., Debt risk for main state-owned enterprises is controllable: China, THE ECONOMIC TIMES (India) (Jan. 27, 2017), http://economictimes.indiatimes.com/articleshow/56806126.cms?utm_source=contentofinterest&utm_medium=t ext&utm_campaign=cppst (“While many state companies are bloated and inefficient, China has relied on them more heavily over the past year to generate economic growth in the face of cooling private investment.”)

[7] For an excellent discussion of SOE reforms see Wendy Leutert, supra note 1.

[8] See id. Wendy Leutert, China’s Reform of State-Owned Enterprises, 21 ASIA POLICY 83, 86 (2016), available at https://www.brookings.edu/wp-content/uploads/2016/07/Wendy-Leutert-Challenges-ahead-in-Chinas-reform-ofstateowned-enterprises.pdf.

[9] See https://www.wsgr.com/CFIUS/pdf/section-721.pdf (noting the list of factors CFIUS will consider include defense, energy and technology). Note there are calls to expand the list of areas.  See https://www.agriculture.senate.gov/newsroom/dem/press/release/senators-stabenow-and-grassley-introduce-bipartisan-legislation-to-protect-american-agricultural-interests-in-foreign-acquisitions (proposal to add food security to list).