This summer, while Shanghai residents were frying pork on blistering hot sidewalks in People’s Square, the Chinese government took two steps toward a new era of rebalanced growth and long-term economic relations with the United States. These moves—announcing that a free trade zone (FTZ) would be established in Shanghai and China’s desire to negotiate a bilateral investment treaty (BIT) with the United States—could lead to more two-way investment between the United States and China.

Of course, in China, as in the United States, all politics are local. Government officials in Beijing will consider these reforms through the lens of local politics. The growing demands of China’s new educated urban middle class have become one of the primary drivers of China’s latest wave of reform efforts. To their credit, China’s new leaders have apparently decided that more international competition, not less, is the key to addressing the raising expectations of this essential segment of contemporary Chinese society.

While experts are undecided on how the Shanghai FTZ will affect China’s economy and doing business in China, proponents claim that the Shanghai FTZ will create an area in that rivals Hong Kong in its openness, transparency, and ease of entry. Approved by China’s State Council on July 3, the FTZ was presented to the Standing Committee of the National People’s Congress for review and approval on August 16. During the last several weeks, the Shanghai FTZ has been dominating the attention of the US business community, which is breathlessly awaiting the first wave of official guidance that will show just how far the barriers to foreign business will fall. This official guidance is expected to be provided in several stages starting in late September.

The details will be important to specific businesses, but the implications of the FTZ are larger: It will also be a testing ground for reform principles that may be applied throughout China and included in a US-China BIT. For example, how will Chinese health insurance companies fare when the doors are open to international competitors? Will foreign internet companies and online payment processors gain substantial market share if Internet content provider (ICP) and payment processor licenses become fully available to foreign companies. For US companies coming to China, “national treatment” under a US-China BIT is fundamentally an issue of comprehensive market access.

China’s announcement during side meetings at this summer’s Strategic & Economic Dialogue that it will negotiate a BIT with the United States surprised and delighted the US side. China agreed to use the expansive international standard-model BIT, endorsed by the United States, as the starting point of negotiations, which will reportedly start next month. A BIT would cover nearly all types of investments, including approval process for opening new businesses and, for the first time, financial and professional services.

Chinese officials have identified two core objectives for negotiating an expansive BIT: strengthen Chinese companies to improve the quality of their products by exposing them to greater international competition and smooth the way for Chinese investment into the United States.

Domestic politics have pushed the Chinese government to focus on boosting product quality standards. Low quality standards and lack of confidence in Chinese-made products by China’s influential middle class has been a major problem. China’s emerging young urban middle class wants safe baby formula for their children. Expectant parents in China are going to extraordinary lengths to bring safe, foreign-made baby formula into the country by any means available, permitted or otherwise.

Another desired outcome of BIT negotiations from China’s perspective is a more open environment for Chinese investment in the United States. Chinese companies and people do not perceive the United States as a welcoming environment for Chinese investment. This perception is likely exaggerated since the US market is largely open to Chinese investment.  But China-bashing in the US media and from members of Congress helps nourish this perception in China. Nonetheless, the time has come for the US government to say to China that non-discrimination must go both ways and that China should embrace the principle of “national treatment,” which means there cannot be separate rules for domestic and foreign businesses.

The idea of national treatment is at the core of both the Shanghai FTZ and the contemplated BIT. However, both initiatives face domestic political headwinds in China. National treatment is opposed by many of China’s powerful state-owned enterprises and government regulators. The 10-year term of Hu Jintao and Wen Jiabao was criticized by many in China’s educated middle class for the slowdown in the economy. By all accounts, China’s new leaders, especially Premier Li Keqiang, strongly support China’s embrace of national treatment, but it seems that a debate within the government still has not been resolved.

The early installments of the Shanghai FTZ guidance will not only show short-term opportunities for foreign investors but will give a strong signal of the seriousness of China’s new leadership in promoting the broader goal of national treatment. The demands of middle class consumers throughout China are creating pressure for reform that the demands of foreign governments can never hope to match.

[author] Norm Page ([email protected]) is chair of the China Practice of Davis Wright Tremaine LLP and an adjunct professor at East China University of Political Science and Law and Fudan University Law School. He has been practicing and teaching law in Shanghai for seven years. [/author]

(Photo by Will Hastings via Flickr)

Posted by Christina Nelson