European companies are being forced to “reduce, localise and silo” operations in China as the country loses its attractiveness as an investment destination, executives said in a bleak report on operating conditions in the world’s second-largest economy.
The assessment from the European Union Chamber of Commerce in China is by far its most pessimistic since its founding in 2000, executives said, citing President Xi Jinping’s regulatory crackdowns on previously booming industries and his administration’s enforcement of draconian lockdowns and travel restrictions to crush Covid-19 outbreaks.
“Ideology trumps the economy,” said Jörg Wuttke, chamber president. “Predictability has been challenged by frequent and erratic policy shifts, particularly when it comes to Covid. [Zero-Covid] is a real burden for the economy.”
In what Wuttke described as the chamber’s “most dark [position] paper ever”, the organisation warned that “European firms’ engagement [in China] can no longer be taken for granted”. It added that China was quickly losing “its allure as an investment destination” and that China and the EU were “drifting further and further apart”.
The warning was issued as the EU reassesses its economic and political relationship with China. Brussels and Beijing have hit an impasse on a proposed trade agreement after exchanging sanctions over China’s mass detention of Uyghur Muslims in Xinjiang. EU representative Josep Borrell described the sides’ annual summit in April as a “dialogue of the deaf”.
Brussels is preparing to adopt a series of tools to retaliate against trade partners that block market access to European companies. These measures are expected to be applied to China.
“Discussions once centred primarily on investment opportunities . . . are now focused on building supply-chain resilience, the challenges of doing business, managing the risk of reputational damage and the importance of global compliance,” the European chamber said.
Xi’s zero-Covid policy has made it all but impossible to visit the country, halting travel by executives based at headquarters and leading to an exodus of foreign staff frustrated with conditions in China. Since the beginning of the coronavirus pandemic, no new EU businesses have moved into the Chinese market, according to the chamber.
Wuttke noted that his last trip out of China was in February 2020, but said he hoped to visit his native Germany at the end of the year. “It is high time,” he said. “I haven’t seen my [older] kids in Germany in two and a half years.”
Rapidly changing protocols over importing goods — including the disinfection and sometimes confiscation of parcels — have also disrupted companies’ supply chains, while severe lockdowns imposed across the country have weakened consumer demand.
“China is not the stable sourcing destination that it used to be,” Wuttke said. “It was a rock, [but] the Shanghai lockdown [in April and May] was a shock for our companies and for the global economy.”
Beyond pandemic-related challenges, the chamber described a growing political gap, with companies coming under “increasing scrutiny” at home for their practices in China.
The Uyghur Forced Labor Prevention Act, passed this year in the US, as well as two forthcoming EU regulations on forced labour and corporate due diligence, “pose a compliance challenge for European businesses operating in China . . . due to the inability to carry out independent third-party audits of supply chains in Xinjiang”, the chamber said.
Fears over further Covid supply chain disruptions, and to a lesser extent the prospect of a Chinese invasion of Taiwan, have led companies to diversify their suppliers and redirect investments.
Businesses are evaluating “reshoring, nearshoring or ‘friendshoring’”, the chamber said, referring to the practices of bringing production home, closer to consumers or to allied countries.
The Russian invasion of Ukraine and subsequent sanctions have also made EU companies in China worry about their investments in the event of a Chinese invasion of Taiwan. In a survey by the European chamber in April, a third of respondents said that the war in Ukraine made China a less attractive investment destination.