Requirements of a Bilateral Investment Treaty Between the EU and China by Bundesverband der Deutschen Industrie e.V.

POSITION PAPER

Requirements of a Bilateral Investment Treaty Between the EU and China

November 2017

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Guaranteeing Investment Protection In any bilateral investment treaty (BIT) between the EU and China, investment in China must be at least as well protected as under the BIT now prevailing between Germany and China. In addition, the treaty must fulfil modern standards (e.g. transparency).

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Improving Market Access Any agreement must contribute to the reciprocal opening of markets. The asymmetry now existing in market access between Germany and China must be removed.

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Safeguarding the Attractiveness of Germany as a Business Location Since 2014 the dynamic economies of Asia and South America have taken the place of the industrial nations in the role of the most attractive targets for international investment. Threats to close off one’s own market in order to enhance the openness of foreign markets are not conducive to achieving the right objectives. On the contrary, investment screening by the state should continue to protect public safety and order.

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

Table of contents I.

Core Demands of the BDI at a Glance ....................................................................................................... 3

II.

Background ................................................................................................................................................. 5

2.1 Increasing Importance of the Emerging Economies ........................................................................................ 5 2.2 Direct Investment between China, the EU, and Germany ............................................................................... 7 2.3 Investment Screening of the State in Strategic Sectors ................................................................................. 11 2.4 Existing Chinese Investment Agreements ..................................................................................................... 12 2.6 Market Access for Direct Investment in China ............................................................................................... 15

III.

Demands of German industry .................................................................................................................. 17

3.1 Investment Protection .................................................................................................................................... 17 3.2 Market Access ............................................................................................................................................... 21 3.4 Investment Screening and State Intervention in Strategic Sectors ................................................................ 22

Further Information from the BDI Concerning Bilateral Investment Treaties .............................................. 23

Impressum ......................................................................................................................................................... 24

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

Core Demands of the BDI at a Glance

Apart from provisions on investment protection (post-establishment), a Bilateral Investment Treaty (BIT) between the EU and China should also contain comprehensive provisions governing market access conditions (pre-establishment) which spur the mutual opening of markets. In the field of investment protection, the BIT must not fall behind the level of protection of the existing German BIT.

Investment Protection Substantive Investment Protection Provisions 

The BIT should guarantee European investors protection against discrimination (national treatment, most-favoured nation treatment).

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The BIT should provide effective protection against direct and indirect expropriation and ensure fair and equitable treatment (FET) of the investors.

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The definition of legal terms should be stated with greater precision compared with existing German BITs. The contracting parties' non-discriminatory right to regulate must on no account be called into question by the BIT. The protection of health, environment, and security must be guaranteed.

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The agreement should offer protection against the breach of assurances granted by the state (umbrella clause).

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The BDI has an open mind with regard to the establishment of an investment court with permanent judges. Here a multilateral solution should be sought. Existing investments must continue to be protected as they were under the old BIT (grandfathering).

Investor-State Dispute Settlement (ISDS) 

In cases of disputes, access to investor-state arbitration procedures must be open to all sectors of the economy without requiring a previous full exhaustion of the national redress procedures.

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The arbitration proceedings must be transparent and the arbitrators must be independent and properly qualified.

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A BIT between the EU and China should make it possible for unjustified (“frivolous”) claims to be rejected at an early stage.

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The agreement should provide for an appeals procedure to be established.

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The BDI is open with regard to the establishment of an investment court with permanent judges (ICS). Here a multilateral solution should be sought in the long-term.

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

Market Access 

The treaty should create market access on an equal footing for German companies in China and for Chinese companies in the EU. German subsidiaries and stakeholdings in China should command the same entrepreneurial freedom of action in China as enjoyed by domestic companies in China.

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China should introduce a nation-wide uniform negative list comprising those business sectors in which foreign investors do not enjoy the treatment accorded to Chinese nationals. The Chinese government could then issue investment prohibitions, restrictions, and constraints applying solely to foreign enterprises and only for the sectors listed. The negative list should be as brief and as clear-cut as possible and should be designated as an interim solution in advance of a complete market opening.

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The restrictions on foreign capital in certain branches should be abolished.

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The obligatory joint venture model which exists in several branches in China should be annulled. Obligatory joint ventures impede competition and contradict the principle of equal treatment. In particular, the allocation of a Chinese partner by the government is not appropriate.

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A comprehensive agreement should also guarantee the effective protection of intellectual property rights for investors. Internationally recognised standards in the implementation of intellectual property rights should also be applied in China.

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The local branches of foreign enterprises should receive the same treatment as domestic firms in the case of public procurement procedures and support programmes.

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Against the background of increasing digitisation, as a fundamental principle the agreement should also ensure the cross-border access, transfer, and storage of data.

Treatment of State-Owned Enterprises 

A BIT should restrict the opportunities of the Chinese government for gaining economic advantages for state-owned enterprises by means of subsidies, laws, or other political means.

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The BIT should prevent state-owned enterprises from acting in a discriminatory fashion against competitors when they take on governmental tasks (e.g. in issuing licences).

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The required level of transparency for Chinese state enterprises should be raised (e.g. in the area of accounting or with personal contacts to the government).

State Intervention Rights in Direct Investment (investment screening) 

A BIT between the EU and China should contain general overall guidelines governing investment screening procedures for foreign direct investment (FDI).

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An excessively broad definition of the concept of national security in the respective national legislation should be avoided in order to minimise restrictions of investment freedom by state investment screening procedures. Greater precision in the legal definitions could be helpful.

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The state intervention rights according to the German Foreign Trade Law in relation to non-EU investment are sufficient; a tightening of the states’ rights to restrict investments on the national or European level is not necessary, but a better coordination between the states would make sense.

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

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II.

The EU should monitor the investment flows from non-EU countries and its economic impacts.

Background

At the end of November 2013 the EU member states transferred to the European Commission the mandate for negotiating a Bilateral Investment Treaty (BIT) with China. The treaty would take the place of existing BITs between China and 26 EU member states (Ireland has no BIT with China and there is a joint agreement for Belgium and Luxemburg). Within the framework of various free trade agreements (CETA, Vietnam), the EU has already negotiated provisions for investment protection. However, the BIT with China is the first stand-alone investment agreement that the EU has negotiated since it was awarded the competence for investment issues in 2009 under the Lisbon Treaty. As soon as the new BIT with China comes into force, it will take the place of the existing bilateral agreements. That also applies to the 2005 treaty between Germany and China which features a comparatively high standard of protection. However, the conditions of market access are not regulated in this BIT. The conditions of market access for European enterprises in the Chinese market are still highly restricted. China is continuing to pursue a selective investment policy. The negotiations on a bilateral investment agreement offer an opportunity to achieve improvements in this area. In the course of the rapidly increasing direct investment abroad by Chinese investors, interest is growing on the part of the Chinese government in the conclusion of BITs. So far, China has concluded 149 BITs with other states, of which 130 are pure BITs and the 19 other agreements (e.g. trade agreements) also contain provisions for investment. 129 of the existing Chinese BITs are currently in force.1 Since 2010 China has increasingly been making use of the treaties acting as complainant in ISDS procedures. In addition, when negotiating new BITs, China has been placing emphasis since 2010 on provisions regulating the rights of new investors regarding access to the respective foreign markets (pre-establishment provisions).2

2.1 Increasing Importance of the Emerging Economies Until the 1980s, the industrial nations were by far the most important target for foreign direct investment (FDI). In 1985, with a share of 74.8%, most FDI went to the developed countries with only around a quarter (25.3%) going to developing and newly industrialising countries. In the 1990s, investors focused to an increasing extent on the emerging economies. It was in 2014 that, for the first time, investments in the developing and newly industrialising countries were higher (55.5%) than into the industrial nations (40.6%).3 In 2015, the last reporting period, in a reversal of the trend with 54.9% of worldwide FDI flows, more investment once again went to the industrial nations.

UNCTAD, Investment Policy Hub, <http://investmentpolicyhub.unctad.org/>, (as of: 04.01.2017). Zhang, Quianwan, China’s “New Normal” in International Investment Agreements, Columbia FDI Perspectives No. 174, 23.05.2016, <http://ccsi.columbia.edu/files/2013/10/No-174-Zhang-FINAL.pdf>. 3 UNCTAD Data Bank, Investitionsströme, Inward, Prozent an weltweiten Strömen, <http://stats.unctad.org>, (as of: 23.05.2017). 2

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

When we take a look at the FDI stocks, a different picture emerges. With a share of 64.1%(2015), most of the total FDI stock is in the industrial nations (1990: 76.7%). However, the annual investment flows identify the following trend: the dynamic economies of Asia and South America have replaced the industrial nations as the most attractive destinations for investors. With 765 billion US dollars, the emerging economies have never before attracted so much capital as in 2015. China is clearly well in the forefront of this development (2015: 310.5 bn. US dollars).

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

For an investment agreement between the EU and China, this development means that the negotiations take place under changed conditions, for example compared with the BIT negotiated in 2005 between Germany and China. China now conducts itself with greater self-assurance as an investor. For the industrial nations, competition for international capital and the consequent growth opportunities has intensified. Germany and the other EU countries must make increasingly more efforts to attract foreign investments.

2.2 Direct Investment between China, the EU, and Germany4 China has been a primary target for FDI around the world in the last decades. Since 2000 (193.3 billion US dollars) the stocks of foreign direct investment in China have increased more than sixfold (2015: 1,220.9 billion US dollars). In 2015 the European Union had FDI stocks of 167.9 billion euros in China â&#x20AC;&#x201C; that is 1.1 percent of all foreign investment outside the EU by EU investors.5 In the same year, the investment of German companies alone amounted to 69.6 billion euros.6 That was 41.8% of the total investment stock from the EU in China and 5.6% of total German foreign investment (2015: 1.034.1 billion euros). The German investment is accompanied by stakeholdings in 2,044 enterprises in China, 701,000 employees in China, and foreign turnover which at 262.0 billion euros exceeds German exports to China (2016: 76.1 billion euros) by more than three times.

Here it must be pointed out that the figures available and frequently quoted in various publications on FDI in Germany and Europe differ widely according to the respective institution and method of recording. The amounts recorded by the Bundesbank (compulsory notification from 3 million euros upwards and a company stakeholding of 10% or more by a foreign investor) are supplemented in this current paper by further sources to produce a more differentiated picture. The figures available from the Bundesbank often do not adequately reflect current trends since they appear with a delay of over two years. 5 Eurostat, <http://ec.europa.eu/eurostat/data/>, Zeitreihe bop_fdi6_geo (as of: 23.05.2017). 6 Deutsche Bundesbank, Bestandserhebung Ăźber Direktinvestitionen, Statistische SonderverĂśffentlichung 10th April 2017, p. 23.

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

However, the flow of investment from the EU to China has declined in recent years. On the one hand, the reasons for this are a more difficult environment economically with falling growth, rising wages, and growing competition through Chinese competitors. On the other hand, there are still substantial market access obstacles confronting European enterprises in China. The growth of investment is also hindered by the sluggish progress of reforms to further strengthen the market economy. According to a study by MERICS and the Rhodium Group, annual investment in China by European enterprises sank in 2016 for the fourth year in succession to around 8 billion euros.7 In the course of its rising economic clout and the structural transformation of the Chinese economy now currently underway, China is now not only the target of FDI but is gaining increasing importance as an investor. For 2016 the total Chinese investment abroad could for the first time exceed the amount of foreign investment into China. Since 2000, the amount of Chinese direct investment abroad (2000: 27.8 billion US dollars) has soared by a factor of 37 to more than a trillion US dollars (2015).8 While in 1995 total Chinese direct investment abroad amounted to 0.4%of worldwide cross-border direct investment, this figure has now multiplied by around ten times (2015: 4.0%) over the last two decades.9

Chinese investors have an investment stock in the EU amounting to 34.9 billion euros, which is still less than 0.6% of total investment from non-EU countries in the EU (2015: 5,744.9 billion euros). By comparison, the EU investment stock in China still exceeds that of Chinese investment in the EU fivefold. However, the latest trend signals that this gap will narrow sharply in the future. For 2015, the Bundesbank quantifies the investment stock of Chinese investors in Germany at around 3.6 billion euros. That is only 0.8% of total foreign investment in Germany (2015: 465.9 billion euros) and around a twentieth of German investment in China. However, Chinese investment in Germany tripled between 2012 (1.2 billion

MERICS/Rhodium Group,<https://www.merics.org/ueber-uns/merics-analysen/papers-on-china/cofdi/cofdi2017/>, MERICS Papers on China: Chinesische Direktinvestitionen in Deutschland und Europa (as of: 30.03.2017). 8 UNCTAD, World Investment Report 2015, S. 201. 9 UNCTAD Datenbank, FDI inward and outward stock annual, percentage of total world, <stats.unctad.org> (as of: 16.8.2016).

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

euros) and 2015. Already between 2002 and 2012 (i.e. before the change in the statistical recording method of the Bundesbank) the stock of Chinese investment in Germany increased ninefold.10 According to the latest figures from a study by MERICS and the Rhodium Group, the stock of Chinese direct investment in Germany in 2016 had even already reached 18.8 billion euros.11 While, owing to different recording methods, these figures cannot be directly compared with those of the Bundebank, it must nevertheless be stressed that both set of figures clearly demonstrate a trend of rising Chinese investment in Germany.12 Overall it can be clearly stated that the stocks of German and European investment in China are relatively high but that the growth rates are on a downward trend. In contrast, Chinese investment stocks in the EU are still at a relatively low level but in recent years have registered enormous growth rates.

Deutsche Bundesbank, Unmittelbare und mittelbare deutsche Direktinvestitionen im Ausland (BestĂ¤nde), < https://www.bundesbank.de/Redaktion/DE/Downloads/Veroeffentlichungen/Statistische_Sonderveroeffentlichungen/Statso_10/2017_bestandserhebung_direktinvestitionen.pdf?__blob=publicationFile> (retrieved on 23.05.2017). 11 MERICS/Rhodium Group, MERICS Papers on China: Chinesische Direktinvestitionen in Deutschland und Europa, <https://www.merics.org/ueber-uns/merics-analysen/papers-on-china/cofdi/cofdi2017/>, (as of: 30.03.2017). 12 For a survey of the different recording methods of various institutions for Chinese direct investment in Germany see the appendix to the following study by the Bertelsmann Foundation: Cora Jungbluth, Chance und Herausforderung, Chinesische Direktinvestitionen in Deutschland, https://www.bertelsmann-stiftung.de/fileadmin/files/BSt/Publikationen/GrauePublikationen/NW_Chinesische_Direktinvestitionen.pdf, (as of: 26.04.2017).

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

Investment in the automotive sector accounts for 31.0 %of German direct investment in China (investment stock 2014). A further 13.2% went to the chemical industry, 8.9% to mechanical engineering and 3.7 %to the electrical industry. 43.2% of German investment in China is spread across other branches of industry.

In recent years, direct investment from China has frequently attracted the attention of both politicians and the general public. In the autumn of 2016, public interest focused on the takeover offer by the Chinese investor

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

Grand Chip Investment for Aixtron, the German manufacturer of semiconductor equipment. At the end of July, the investor, a subsidiary of the investment fund Fujian Grand Chip Investment (FGC), had made a takeover offer worth 670 million euros for the ailing company. After the Federal Ministry of Economics had first issued a certificated of non-objection for the takeover in accordance with § 58 AWV (Foreign Trade Law), this was surprisingly withdrawn after information from US secret intelligence services. It was stated that the equipment made by Aixtron could be used in the Chinese nuclear programme and were therefore to be rated as a danger to public order and security. In July 2016, the takeover of shares worth 4.6 billion euros of the German robot manufacturer Kuka by the Chinese investor Midea had already made headline news and reignited the public debate on Chinese investment in Germany. The stake in Kuka was not the only Chinese direct investment in Germany in the first half of 2016. For example, it had been preceded by share purchases in companies such as EEW Energy from Waste (Beijing Enterprises), KrausMaffei (ChemChina), Bilfinger SE Wassertechnik (Chengdu Techcent Environment Group), or the takeover of the bank Hauck & Aufhäuser by the conglomerate Fosun. Further examples of takeovers in recent years in Germany were Putzmeister by Sany and KION by Weichai Power. At the European level, it was primarily the takeovers of Pirelli by ChemChina and the purchase of the Port of Piraeus by the state-owned concern Cosco that hit the headlines. In 70%of the 20 biggest transactions of the past years the buyer was an enterprise in which the Chinese state is the majority shareholder.13 In the period 2010 to October 2016 there was a total of 41 takeovers in Germany. The seven biggest takeovers make up over half of the takeover volume. In Germany and Europe, Chinese investments are often brown field investments and are usually takeovers as a rule. The advantages for the investor are the connection to existing networks and the acquisition of experienced management, skilled workers, and customers. These advantages can be directly exploited without a lengthy establishing period and possible phases when losses are incurred. A disadvantage for the investor is that he has to assume the liabilities. An advantage for Germany is that such investments can safeguard jobs. In contrast, German investment in China is predominantly green field investment. Such investments create new jobs and bring new elements of the value creation chain to China but also harbour more risks for the investor. This is particularly significant when, as in China, there are pronounced inequalities in market access for German and foreign firms compared with Chinese companies. In the last few years there has been a shift in the public perception in Germany of Chinese investment. At the start of the “Going Global” strategy of the Chinese government and with the first takeovers there was a fear that the companies would be broken up along with a loss of jobs and a direct transfer and a sell-out of German technology to China. However, it has emerged that Chinese investors are interested in preserving the companies and their locations in Germany. Access to customers and markets in Europe is important for Chinese investors.

2.3 Investment Screening of the State in Strategic Sectors Since 2016, Chinese takeovers have again been seen in a more negative light by the public. There is increasing concern that German technologies are being handed over to China with the sale of companies that operate in strategically important industries. In the course of this discussion, an internal paper of the Federal Ministry of Economics (BMWi) entitled “Key Points for a Proposal for Monitoring Investment at EU level” was published in October 2016. This paper was coordinated with other government ministries. In the paper, the BMWi proposes that the EU should empower the member states to forbid investments by non-EU investors. According to the paper, the precondition for such an intervention would be the purchase of at least 25%of the voting rights. In addition, there must be either a danger

Council of experts on assessment of economic development, Zeit für Reformen: Jahresgutachten 2016/2017, < http://www.sachverstaendigenrat-wirtschaft.de/fileadmin/dateiablage/gutachten/jg201617/ges_jg16_17.pdf>, S. 497, (as of: 11.11.2016).

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

to public order and security or “key technologies” must be affected which “are of special importance for continued industrial progress”. In particular, intervention would be justified if the investment was “influenced by industrial policy” on the part of the country of the investor, was made possible by state subsidies, thus giving rise to a “market disturbance”, when the investor is a state-owned enterprise, or when there is limited market access in the country of origin of the investor. An investigation should take place by the EU member state within three months. The issue of a certificate of non-objection should not be granted. Such legislation would considerably extend the competences of the Federal Government. In February 2017 the three biggest EU economies Germany, France, and Italy turned to EU Trade Commissioner Malmström in a letter asking her to take political measures to ensure greater reciprocity in foreign direct investment and in the awarding of public procurement contracts as against third countries. In a position paper attached to the letter guidelines are listed containing five points for the political design of a European investment screening mechanism. Freedom of movement of capital is a precious asset, which is also guaranteed by European legal rulings and which German industry in particular benefits from to a major extent. Experiences in Germany so far with investors from emerging countries can dispel many fears. In particular, experience with Chinese investors in Europe shows that they are driven by long-term interests and wish to widen their product portfolios by the purchase of new technologies. German and European law already allows a great deal of scope for dealing with possibly harmful investment. More specifically, the Federal Government’s Foreign Trade Law (§§ 4 para. 1,5 para. 2 AWG together with § 55 ff. AWV) allows the prohibition of or restrictions of investments in German companies by non-EU investors if, as a result of the acquisition, the public order and security of the Federal Republic of Germany could be endangered. This presupposes that an actual and sufficiently grave danger exists which affects a basic interest of society (§ 5 para. 2 AWG). This stipulates that the Federal Government must make a decision within three months of the takeover. It is possible for the business partners in the initial stages of investment to obtain a certificate of non-objection (§ 58 AWV) from the Federal Ministry for Economics (BMWi). Damage to the reputation of the companies involved can thereby be avoided. Additional hurdles could be interpreted as protectionist measures by other states and used as an argument for further measures of their own. A restriction of one’s own openness (“reciprocity”), from which German industry benefits to a great extent, is hardly a suitable way of pointing out to other states the deficits of their economic policy. As an extremely interwoven economy internationally, the harm of such measures for German companies would be incalculable. The BDI has a guarded position with respect to the extension of the catalogue of criteria to economic aspects or questions of industrial or technology policy. First of all, the European Commission should collect reliable data on foreign investment entering the EU in a monitoring process. This monitoring could lead to a process of evaluation and review which identifies possible adequate political measures if undesirable developments are recorded. An expansion of the test criteria for state intervention rights should only be given consideration as a real last resort.14

2.4 Existing Chinese Investment Agreements The People’s Republic of China has so far concluded 128 treaties under international law with other states which contain provisions relating to investments. Of these, 110 are purely investment agreements. Since 2000 alone, 61 treaties with provisions on investment have come into effect and 18 treaties since 2010.15

BDI, Extension of state intervention rights in relation to foreign direct investment, <http://bdi.eu/themenfelder/aussenwirtschaftspolitik/#/publikation/news/erweiterung-der-staatlichen-eingriffsrechte-fuerauslaendische-direktinvestitionen/> July 2017 (as of:17th July 2017). 15 UNCTAD, Investment Policy Hub, <http://investmentpolicyhub.unctad.org/>, (as of: 11.11.2016).

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

The Chinese BITs basically contain all the elements which are standard and are applied in international BIT practice. In the 1980s China’s investment policy interests were still largely determined by China’s role as an importer of capital. While the Chinese BITs dating from this period contain essential protection rights, they do not yet envisage the possibility of recourse to ISDS arbitration procedures. In cases of breach of the treaty, China was thus still largely protected from claims for high damages. In the nineties China increasingly developed into an exporter of capital. Consequently, the effective protection of Chinese capital abroad became more important. As a result, the possibility of initiating ISDS complaints was introduced into all BITs concluded since 1998.16 As is usual in classical BITs, most treaties encompass portfolio investment and grant protection against discrimination (national and most-favoured-nation treatment). They grant fair and equitable treatment (FET) of the investors, whereby the latest agreement with Colombia (2008) – as also in CETA and the EU treaty with Vietnam – itemises in the form of a list what precisely is to be understood as FET. All these agreements protect from direct and indirect expropriation. Apart from the agreement with Colombia, an umbrella clause also protects against the breach of agreements between the host state and the investor. With regard to the resolution of disputes that may occur, all the BITs mentioned provide for the classic provisions for investor-state dispute settlement procedures (ISDS) within the framework of ad hoc courts of arbitration. All the BITs mentioned permit arbitration procedures under the umbrella of the ICSID located at the World Bank. None of the BITs contains separate provisions for guaranteeing transparent ISDS proceedings. Very much in the fashion of classic BITs, the area of market access is not regulated by any of the BITs mentioned. Just like the majority of the German BITs and those in existence around the world, most Chinese BITs do not yet contain the new features which, for example, the EU has laid down in the free trade agreement with Canada (CETA). That applies not only to China’s BITs with industrial nations but also to those with developing countries and emerging economies, as is revealed by a look at some of the BITs of China which can be viewed at UNCTAD17. Neither the agreement with Germany (in force since 2005) or Switzerland (2010) nor the BITs with India (2007) or Colombia (2008) deal with issues like the environment, social affairs, sustainability, corporate social responsibility (CSR), corruption, or the right to regulate of the state. This applies not only to the preambles, in which such topics are more frequently to be found in more recent BITs, but also to the actual texts of the treaties. In contrast, the most recent agreements, such as the BIT with Canada (2012) and the free trade agreement with Australia (2015), which contains a brief investment chapter, feature commitments to the regulatory authority of the states with reference to health and the environment. In addition, the agreement with Australia, also complying with the worldwide trend, contains provisions for the promotion of investment. However, even with the more recent Chinese agreements, the material protective rights and also the procedural rules for handling ISDS procedures basically conform to the standard of the older Chinese BITs or the German ones. Chines BITs are increasingly being made use of by business enterprises. So far, Chinese investors have initiated four complaints on the basis of Chinese BITs, all since 2007 (2007 against Peru, 2010 against Mongolia, 2012 against Belgium, 2014 against Yemen). So far, only two ISDS actions have been brought against China on the basis of BITs, both after 2010. The complaint brought by the Malayan company Ekran Berhad in 2011 regarding the rights deriving from a leasing agreement has been settled; the complaint brought in 2017 by the South Korean firm Ansung Housing Co., Ltd. in connection with the construction of a golf course has yet to be decided.18 2.5 State of the Negotiations Between the EU and China

U.S.-China Economic and Security Review Commimssion, Policy Considerations for Negotiating a U.S.-China Bilateral Investment Treaty, August 2016, < http://origin.www.uscc.gov/sites/default/files/Research/Staff%20Report_Policy%20Considerations%20for%20Negotiating%20a%20U.S.-China%20Bilateral%20Investment%20Treaty080116.pdf>, (as of: 13.01.2017). 17 UNCTAD, International Investment Agreements Navigator, <http://investmentpolicyhub.unctad.org/IIA/> (as of: 12.01.2017). 18 UNCTAD, Investment Policy Hub, <http://investmentpolicyhub.unctad.org/>, (as of: 11.11.2016).

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

On 18th November 2013 the EU council of trade ministers awarded the European Commission the negotiating mandate for arriving at a BIT with China. It is intended to encompass the areas of market access, investment protection, along with investment and sustainability.19 The structure of the agreement, in which the issue of market access will also be the subject of negotiations along with the classic investment protection questions, is new for the EU. The 129 German BITs only cover the field of investment protection. On the Chinese side, the negotiating team is the same as with the agreement with the United States. In the agreement with the United States the subject of market access also played a central role. The first negotiating round between the EU and China took place in January 2014. On 19th December 2014 the European Commission conveyed its first draft to the Chinese side. After a careful exploration of the bargaining positions in the first year, there was an exchange of proposals in the second year. At the beginning of 2016, an agreement was achieved on the scope of the treaty. The 12th negotiating round took place at the end of September 2016 in Brussels.20 According to official statements, the negotiations, which are taking place in a complex and difficult environment, are marked by a constructive atmosphere. One of the subjects of the negotiations is the question of whether disputes should be dealt with in accordance with the old procedure through ad hoc arbitration courts or (as with CETA and the free trade agreement with Vietnam) through an Investment Court System (ICS). The agreed scope of the treaty provides for basic protective rights for foreign investors: 

Improvement of market access opportunities by the establishment of a genuine right to investment and by an assurance of non-discrimination.

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Treatment of central challenges of regulatory environment, including transparency requirements, licensing procedures, and permit procedures.

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Assurance of a high and balanced level of protection for investors and investments.

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Provisions for environmental and social policy issues.

So far, the negotiations only revolve around horizontal issues. Certain sectors of the economy have not yet been tackled. Neither has there been any exchange of any concrete offers relating to market access thus far. The 13th round took place at the beginning of December in Beijing, the 14 th round in July 2017 in Brussels. The most recent discussions centred on the definition of investments and on the legal criteria of expropriation. The next negotiating rounds are scheduled to take place in October 2017 in Peking and in December 2017 in Brussels.21 In the last round, the definition of investment and legal criteria for expropriation were discussed. It is not yet possible to predict when there will be an exchange of offers of concrete textual proposals. It is difficult to estimate how long the negotiations will last. However, Chinese government representatives have made it clear that they would like to conclude the negotiations as rapidly as possible so that afterwards it would be directly possible to enter into negotiations on a free trade agreement between China and the EU. For the Chinese leadership, the importance of the BIT is likely to have grown considerably recently, partly because of the increased activities of Chinese investors in the EU and the public debates that these activities have triggered in the EU and also partly because of a possible economic “walling off” of the United States under President Trump. The negotiations on a BIT between the United States and China have now been going on since 2008 and stalled in 2013. From the American point of view the reasons for the standstill were to be found in China’s concessions on market opening, which fell short of expectations. In the summer of 2016 the talks were resumed after China

Press release of the European Commission, EU and China agree on scope of the future investment deal, <http://trade.ec.europa.eu/doclib/press/index.cfm?id=1435> (as of: 15.8.2016). 20 European Commission (2016): EU-China Investment Agreement: Report of the 12th Round of negotiations, <http://trade.ec.europa.eu/doclib/docs/2016/october/tradoc_155061.pdf>, (as of: 11.11.2016). 21 European Commission, EU-China Investment Agreement: Report on the 14th Round of negotiations, < http://trade.ec.europa.eu/doclib/docs/2017/july/tradoc_155832.pdf> (as of: 1st August 2017).

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

had moved towards the American position with new proposals. However, the announcements by the new American President Donald Trump indicate that, in the coming years, the relationship between the United States and China will be more strained. Against this background it is hardly to be expected that the Trump Administration will prioritise the BIT negotiations with China and seek to rapidly conclude a treaty. Consequently, it may be that during the Donald Trump presidency the opportunity will arise for the EU to strengthen its own negotiating position vis-à-vis China.

2.6 Market Access for Direct Investment in China The existing BITs of individual EU member states with China are primarily concerned with the protection of investments already made (post-establishment). In contrast, in its negotiations on a BIT with China, the EU can now focus for the first time on an improvement in market access (pre-establishment) for European enterprises in China. In recent years the lack of symmetry in market access between the EU and China has been emerging ever more clearly. Whereas Chinese investors are increasingly benefitting from the openness of European markets, in China there continue to be high barriers to market access for foreign companies. The central instrument with which the Chinese government establishes the degree of foreign competition for individual branches is the “Catalogue for the Guidance of Foreign Investment Industries (2015)” (CGFII). The CGFII fundamentally categorises China’s economy into four areas in which FDI is either forbidden, possible to a limited degree, allowed (if not listed in the CGFII), or desired. In October 2016 a so-called negative list system was introduced nationwide. The transition from compulsory licensing to compulsory registration for FDI in sectors which are not included in the negative list makes FDI easier. However, it must be kept in mind that all M&A activities of foreign investors continue to be subject to official permission and are not affected by the new negative list system. In addition, so far no negative list as such has been compiled. Instead the CGFII itself functions in the interim as a negative list. The introduction of a negative list system based on the CGFII does not entail any market opening for foreign investors and the numerous restrictions for FDI in China laid down in the CGFII continue to apply.

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

For example, in some sectors (such as automobiles and rail vehicles) it is mandatory for foreign investors to enter joint ventures with Chinese companies. Foreign enterprises often find themselves compelled to form joint ventures with Chinese partners but these are also mostly allocated by the government. In total, according to the CGFII of 2015, there is an obligation to enter joint ventures in 50 sectors (of these there are 35 with a prescribed Chinese majority holding).22 In other sectors the CGFII attaches other restrictive conditions, such as holding thresholds for foreign financial institutions in the banking sector. There are also numerous official regulations, downstream from CGFII, which restrict or impede FDI, such as the obligatory disclosure of the “detailed engineering” to state design institutions in the case of the chemical industry and plant construction. By repeatedly expressing its commitment to market opening, the Chinese leadership attempts to make itself less vulnerable politically. For example, mention is made of the setting up of free trade zones, the conclusion of free trade agreements, or the introduction of the nationwide negative list. However, in the past it has often been the case that individual authorities increasingly interfere with the entrepreneurial freedom of decision of foreign firms in China. On the one hand, this partly takes place by means of new regulations and on the other hand partly through seemingly official dysfunctioning (customs problems, long duration of licensing procedures, blurred official competences). The partly uncoordinated but goal-oriented course of one-sided promotion of the local business community can be judged to be “economic nationalism”, which is also becoming increasingly perceptible for German companies. The following problems are encountered by European investors in accessing the Chinese market: 

Investment bans and targeted restriction of foreign holdings In a total of 36 branches (e.g. film production, certain types of power plants, news agencies) foreign investment is completely forbidden. In addition, in several branches foreign investors are only permitted to acquire minority holdings. For example, a holding in Chinese banks continues to be limited to 20 % for individuals and 25%for several foreign investors.

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Compulsory joint ventures and involuntary transfer of technology In a total of 50 branches, when investing in China foreign companies see themselves compelled to enter joint ventures with Chinese partners. In 35 of these branches the Chinese partner must hold the majority of the shares (e.g. automobiles, rail vehicles, or telecommunications). The joint venture partner is allocated by the Chinese government. In the process, this often entails a forced disclosure of technology in return for investment permits, such as the disclosure of the details of the engineering to state design institutions in the case of investment in the chemical industry and in plant construction. Efforts by the German automobile industry to hold more than 50%of the shares have so far met no success.

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Localisation and “buy Chinese” in public procurement Foreign companies are disadvantaged in public procurement and also in state promotion programmes. China’s law on awarding public procurement contracts contains a requirement that obliges the authorities, where possible, to purchase “home-produced” goods and services. What is especially problematic is that the concept of what is “home-produced” is not clearly defined. It is thus not clear in public procurement whether the products of foreign firms or foreign-Chinese joint ventures which produce in China are also considered to be “home-produced”.

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Bureaucratic uncertainty Chinese authorities often act in an inconsistent manner regionally or at different governmental levels.

National Development and Reform Commission, 积极推进新一轮对外开放以开放促改革、促发展 [Active promotion of a new round of opening to advance reforms anddevelopment], <http://www.sdpc.gov.cn/fzgggz/wzly/zhdt/201503/t20150323_668243.html> (as of: 30.11.2016). 22

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

For German firms this constitutes a growing obstacle to market access. Regulations are frequently interpreted or implemented differently in individual provinces. Licensing procedures are often not clearly defined.

III.

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Non-transparent regulation Regulations are often not transparently communicated in advance and not adequately examined with regard to their effects. Stakeholders are also frequently not, or only insufficiently, included in the drawing up of regulations. This often leads to major problems for foreign firms. For example, last year (2016) changes in the regulations governing the export of foreign exchange from China, which were communicated at short notice and merely verbally, severely restricted the repatriation of profits for foreign companies. The problem of non-transparent regulations also exists in awarding public procurement contracts. In certain awarding procedures the possible suppliers are assessed according to a points system (score cards) which gives a higher rating to Chinese companies than joint ventures or wholly foreign owned enterprises so that there is a competitive disadvantage right from the outset. This system has so far become apparent, particularly in awarding contracts for trains for local transport. However, it is not improbable that it will also be introduced in other branches.

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Insufficient protection of intellectual property Despite the general increased importance of IP protection in China, the implementation of already existing IP rights is often inconsistent and ineffective. In addition, in recent years there has been a growth in problems in connection with test standards that are too low in the registration of patents and trademarks. For example, there is a rising number of so-called “junk trademarks” with which Chinese companies deliberately register with very minor modifications trademarks that are already well-known abroad. Registered trademarks that have long been established in the market are not adequately protected and are often placed on equal footing with new trademark registrations. There is a similar alarming development in patent law. With “junk patents” foreign technologies, which are elsewhere already known and protected, are deliberately registered and used by competitors in China as industrial designs.

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Market access barriers in the digital space Since 2014 the Chinese government has introduced laws, draft laws, and directives which deal with the issue of cybersecurity. From the perspective of the German industry, some of the new provisions demonstrate protectionist tendencies. They are often vaguely worded and in practice could lead to a discrimination of foreign suppliers, especially in the area of IT. For example, the data localisation enforced by the state in China’s new cybersecurity law obstructs the trade with internet services, digital services, and production. The cross-border data transfer is increasingly of major importance for German industry, particularly in the creation and development of Industry 4.0.

Demands of German industry

In deciding on the content of the BIT with China, the European Commission should pay attention to the following points: it is of particular importance that the BIT should contain regulations on the protection of investors, the expansion of access to the Chinese markets, and to dealings with state investors.

3.1 Investment Protection Any investment agreement between the EU and China should at the very least guarantee the level of protection of the German BIT. The agreement should contain not only regulations on investment protection (post-establishment) but also on market access conditions (pre-establishment). The BIT must contain clear material standards of protection along with effective rules for the conduct of investor-state dispute settlement (ISDS) procedures. In both areas the rules must conform to a modern, reformed standard.

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

Substantive Investment Protection Provisions The definitions of investment, investors, indirect expropriation, and fair and equitable treatment must be formulated more precisely compared with the existing German BIT. The definition of an investment or an investor should be phrased broadly enough to encompass all existing investments and those to be undertaken in the future. The definition of the investor should refer to the capital invested (asset based) and not exclude any portfolio investment. Both natural and legal persons should be covered by the protection. The wording should circumvent abuse (such as through letterbox companies or “treaty shopping”) but must not prevent justified complaints. The guarantee of just and equitable treatment should be precisely worded in order to guarantee legal security for states and investors. Wording by means of a list should not be fundamentally rejected but the list must cover all necessary cases and contain the possibility of being expanded. However, the list should not make it possible for states to protect targeted discriminations from the factual situations listed there. The BIT should demand that government action is always proportionate. The definition of indirect expropriation should be as concrete as possible in a BIT. It must safeguard the legislative scope of the state (regulatory authority or the “right to regulate”) but must not block justified complaints. The BIT should guarantee the European investor protection against discrimination. That includes a guarantee of national treatment as well as the most-favoured nation (MFN) principle vis-à-vis foreigners from non-EU countries in China. General exemptions from the prohibition of discrimination – such as to protect the regulatory authority of the state – must be worded so that they do not create a gateway for dismissing justified complaints.

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

A BIT between the EU and China must also contain an umbrella clause. This is intended as a means of urging the contracting partners to comply with obligations and undertakings that were voluntarily entered upon. The right to regulate of the contracting parties EU and China must not be called into question by the BIT. The protection of health, the environment, and security must be guaranteed. The BIT must correspond to a modern and reformed standard of international investment protection, such as was formulated in CETA or in the Investment Policy Framework for Sustainable Development (IPFSD) of UNCTAD. Clauses on the common good such as are already included in CETA must, however, be worded precisely enough to guarantee effective investment protection.

Investor-State Dispute Settlement (ISDS) In the case of disputes, access to the investor-state dispute settlement procedure must be open to all business sectors without previous full exhaustion of the national redress procedures. Arbitration procedures must be transparent to a high degree. A benchmark for the content of the transparency provisions in a BIT between the EU and China could be the transparency standards of the UNCITRAL.23 In all cases, the protection of business secrets must be guaranteed. A BIT between the EU and China must provide for the early dismissal of “frivolous claims”. A key step in this direction is the “loser pays” principle. However, this must not be interpreted too strictly so that small companies in particular are not deterred from initiating ISDS proceedings. A court of arbitration must be allowed a margin of discretion in order to be able to divide up the costs between the parties in certain cases. A preliminary examination of the cases must be politically neutral. Counselling of the contracting parties should be provided for in order to clarify questions of interpretation. However, it is important that the usual methods of interpretation should be applied. These include the principle of non-retroactivity: an interpretation which an investor was not able to adapt to at the time of the investment decision must on principle not apply retrospectively. The agreements on interpretation must restrict themselves to future investments. In addition, such counselling must not be used in order to circumvent the rules and to alter the terms of a contract. An investment agreement must place high demands on the qualification and independence of the arbitrators. There must be an adequate selection of arbitrators for investors to choose from. The devising of a list must allow the parties and investors enough choices given the complexity and the variety of possible disputes. It is important – as is usual in ISDS proceedings – that the investors initiating the complaint should also be able to choose one of the arbitrators. The agreement should also provide for the possibility of setting up an appeals procedure. However, narrow boundaries must be fixed for such a procedure in determining what criteria must be met for permitting an appeal. Appeals against arbitration rulings must be the exception and not the rule. Appeal proceedings can increase the time and cost for a final ruling. In addition, an appeal body would enjoy great political authority vis-à-vis the contracting parties. The BDI is open to the proposal of investment court with permanent judges as in the trade treaties of the EU with CETA, Vietnam, and in the EU’s negotiating proposal for an investment protection chapter in TTIP. However, a multilateral solution should be sought here in order to avoid the creation of double structures.

BDI Position paper on the signing of the “UN Convention on Transparency in Investor-State Dispute Settlement Procedures on the basis of Treaties” (“Mauritius Convention”) by the Federal Government, 15.4.2015, <http://www.bdi.eu/images_content/GlobalisierungMaerkteUndHandel/BDI-Bewertung_Mauritius_Konvention.pdf>. 23

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

3.2 Market Access The BIT should create equal rights to market access for German enterprises in China as for Chinese enterprises in the EU. German subsidiaries and holdings in China must throughout be treated like local companies; they must be able to avail themselves of entrepreneurial freedom of action in China. Reciprocally this must also apply to Chinese enterprises in Germany. The BIT should stipulate a clear reduction in the nationwide negative list in China. The text of the treaty should ensure as a principle that FDI in areas which are not covered by a negative list does not require any permit but must merely be registered. The Chinese government could then only issue investment prohibitions, restrictions and conditions for those branches clearly laid down in the BIT. It is true that the Chinese government introduced such a negative list system nationwide in October 2016. However, no actual negative list as such was published: instead the CGFII acts as a negative list for the time being. As a result there has therefore been no change in the extent of investment prohibitions or restrictions. Experience shows that the extensive CGFII should be completely replaced by a uniform negative list that applies nationwide and is, above all, reduced. The list should enumerate those business sectors in China in which FDI is forbidden or restricted or in which foreign investors do not enjoy national treatment. This negative list should be as brief and as clear-cut as possible; otherwise there will be no substantial market opening even with a negative list system. To this end, the negative list should be clearly designated as an interim solution until complete market opening. In practice, certain investment conditions often lead to an involuntary transfer of technology. The BDI therefore demands that it is no longer mandatory for foreign investors to enter into joint ventures with Chinese companies. In particular, the allocation of a Chinese partner by the government runs counter to equal treatment and prevents open competition. Enforced technology transfer must be dispensed with in investment approvals. In the course of joint ventures, but also in order to be able to participate in public procurement, foreign companies often have to adhere to certain localisation rules. In the BIT it should be guaranteed that the local branches of foreign companies are extended the same treatment as domestic enterprises in public tender invitations. Moreover, administrative and investigative processes in public procurement should be framed transparently. The goal must be equal and fair access to tender procedures for companies â&#x20AC;&#x201C; irrespective of their origin. A comprehensive agreement should also guarantee the protection of intellectual property for investors. Internationally recognised standards for the implementation of intellectual property rights should also apply in China. Against the background of increasing digitisation, the agreement should also fundamentally guarantee the crossborder access, transfer, and storage of data. The global chain of value creation cannot be effectively controlled without the simple and time-effective transfer of data. State-enforced data localisation, as envisaged in Chinaâ&#x20AC;&#x2122;s new cybersecurity law, consequently has the effect of curtailing readiness to invest.

3.3 Dealings with State-Owned Enterprises A BIT should restrict the opportunities of the Chinese government for procuring economic advantages for stateowned enterprises by means of subsidies, laws, or other political means. The BIT should prevent state-owned enterprises from acting in a discriminatory fashion against competitors when they assume state tasks (e.g. issuing licences). The prescribed level of transparency for state-owned Chinese enterprises should be raised and brought into line with that of the EU (e.g. accounting or personal connections with the government).

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

3.4 Investment Screening and State Intervention in Strategic Sectors Furthermore, German law today already offers means of dealing with possibly harmful investments. The BDI rejects the tightening up of the existing intervention rights of the state provided by the German foreign trade law in the case of investment from non-EU countries. The existing rights are sufficient and also allow scope for stricter application. The BDI advocates open borders for FDI, for example in its 2013 position paper â&#x20AC;&#x153;Foreign Direct Investment in Germany. Demanding Freedom to Invest and Creating Public Acceptanceâ&#x20AC;?. With regard to dealing with investment by non-EU state-owned enterprises, the BDI is in favour of placing high demands on transparency and of promoting the acceptance of activities by foreign enterprises in Germany. In 2009 the BDI took up a clear position rejecting the introduction of the right of the Federal Government to prohibit non-EU investment in Germany (13th amendment to the foreign trade law). A BIT between the EU and China should contain a general framework of provisions for state monitoring of FDI. An overly broad definition of the concept of national order and security in the respective national legislation which leaves investors in a state of uncertainty regarding admissibility should be avoided in order to minimise the restriction of freedom to invest as a result of state monitoring procedures. The rights of the state to screen or forbid investments from outside the EU under the German foreign trade law are adequate; at the present time a stricter version at national or European level is unnecessary. A BIT must have the goal of creating similarly restricted conditions for intervention in China. Official notification obligations in the course of acquisitions must be comprehensively subject to a bilaterally harmonised regulatory framework. Ideally the authorities would receive a joint set of data. Against the background of increasingly explicit industrial policy strategies of third countries and the emergence of state-owned or semi-public enterprises and funds, the BDI proposes an EU-wide monitoring process to track the development of investment activities (flows, investor conduct) by such investors which should not automatically lead to political measures which would inappropriately restrict private property rights.

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

Further Information from the BDI Concerning Bilateral Investment Treaties 

The BDI position paper Expanding the Scope of Foreign Investment Screenings of non-EU Investors is concerned with state control and intervention rights in the case of takeovers of German enterprises by foreign investors.

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The BDI position paper Ausländische Direktinvestitionen in Deutschland. Investitionsfreiheit fördern und öffentliche Akzeptanz schaffen (German) advocates freedom of investment in Germany.

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The BDI study Mehr Schutz vor ausländischen Investoren? Wirtschaftliche und EU-rechtliche Aspekte der geplanten Beschränkung ausländischer Beteiligungen an deutschen Unternehmen was composed by the BDI and the law firm of Freshfields Bruckhaus Deringer in 2008 on the occasion of the tightening up of the Foreign Trade Law.

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In the paper Investitionsschutzabkommen und Investor-Staat-Schiedsverfahren: Mythen, Fakten, Argumente (German) the BDI examines in particular the most frequent items of criticism and investor complaints in the discussion of recent months. The updated version of the paper and translated into English (published September 2015) is entitled “International Investment Agreements and Investor-State Dispute Settlement: Fears, Facts, Fault lines”.

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A statement of the BDI position on the occasion of the UN Convention on Transparency in ISDS Procedures being signed by the Federal German government (“Mauritius Convention”) is to be found in the paper Transparenz in Investor-Staat-Schiedsverfahren (German).

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The BDI assessment of the Investment Chapter im Freihandelsabkommen zwischen der EU und Vietnam (German), the first investment protection agreement which provides for a permanent court dealing with investment.

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BDI Foreign Economic Report 1|2016 with focus on bilateral investment treaties and investor-state dispute settlement procedures.

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The BDI position paper Investitionsschutz in TPP (German) evaluates the content of the investment protection chapter in the Trans-Pacific Partnership agreement (TPP) which was concluded in October 2015.

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In the BDI position paper Investment Protection in TTIP. Negotiation Proposal by the EU-Commission on a Reformed Investment Chapter in TTIP the BDI assesses the draft of the European Commission which was conveyed to the negotiating partner USA in November 2015.

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In the position papers Protecting European Investment Abroad and The ‚I‘ in TTIP the BDI outlined reform recommendations for the content of future investment protection agreements.

Requirements of a Bilateral Investment Treaty Between the EU and China November 2017

Impressum Bundesverband der Deutschen Industrie e.V. (BDI) Breite StraĂ&#x;e 29, 10178 Berlin www.bdi.eu T: +49 30 2028-0

BDI departments responsible External Economic Policy Department International Markets Department

Editors Dr. Stormy-Annika Mildner T: +49 30 2028-1562 s.mildner@bdi.eu Friedolin Strack T: +49 30 2018-1423 f.strack@bdi.eu Dr. Christoph Sprich T: +49 30 2028-1525 c.sprich@bdi.eu Ferdinand Schaff T: +49 30 2018-1409 f.schaff@apa.bdi.eu Patricia Schetelig T: +49 30 2018-1532 p.schetelig@bdi.eu

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