Analyzing the Merit in China’s Objections to the Revised FDI Policy: Should India be Concerned?
With the objective to curb “opportunistic takeovers/acquisitions” of Indian entities on account of Covid-19 Pandemic, the extant FDI Policy, 2017 (“Revised Policy”) of India was recently amended. The Revised Policy now requires mandatory prior government approval for Foreign Direct Investment (“FDI”) from the countries that share land border with India. Additionally, investments that result in the transfer of beneficial ownership to investors from these countries are also covered within its ambit.[i] It is pertinent to note that investments from Pakistan and Bangladesh had already been subject to government approval route. Further, aggregate investments from the rest of the neighboring countries like Myanmar, Nepal, Bhutan and Afghanistan is not very significant as compared to China.[ii] Therefore, the Revised Policy is said to be effectively aimed at monitoring Chinese Investments.[iii]
A closer look at the revised policy would reveal the lack of clarity in the scope of its application to existing investments. The restriction introduced applies to all sectors, and does not distinguish between majority/control investments and passive investments. Moreover, there is no indication of whether these measures are temporary.[iv] This lack of specificity in the policy has created an atmosphere of uncertainty for investors as well as for those domestic sectors heavily reliant on Chinese investments.[v] Interestingly, similar measures have also been taken by countries like Japan and Australia to protect domestic industries of critical importance. However, India remains the only jurisdiction where the applicability of FDI restrictions is confined to neighboring countries, effectively China.[vi] Irrespective of the political and economic apprehension that countries across the globe have against China, the measure seems to be discriminatory and has the potential to affect the bilateral relations between the two countries. This is evident from a statement released by the Chinese Embassy, claiming that the concerned amendment targets specific countries and is in derogation with the principle of non- discrimination as per India’s commitments under the World Trade Organization (‘WTO’) .[vii]Additionally, it has also alleged that the move goes against the general trend of liberalization of international trade and investment.[viii] The objections from China have raised two important questions, which we have attempted to answer:
(i) Whether the allegations have any legal basis under WTO and bilateral investment treaties (“BIT”); and
(ii) How would this measure affect India’s investment relations with China in the future?
WTO’s Tryst with FDI
Currently, the WTO regime does not have a multilateral agreement that comprehensively deals with foreign investment. However, there are two major multilateral agreements that indirectly addresses it. The first is the Agreement on Trade Related Investment Measures (“TRIMS”) which is based on the existing General Agreement on Tariffs and Trade, 1994 (“GATT”) discipline on trade in goods.[ix] The focus of TRIMS is only on those investment measures that infringe the provisions of Article III (national treatment of imported products) or Article XI (prohibition of quantitative restrictions on imports or exports) of GATT.[x] For example a local content requirement in foreign investment is inconsistent with TRIMS because it discriminates against imported goods in favor of exported products, clearly in derogation of the principle of national treatment. Here, the Revised Policy changes only the route of approval for foreign investments from neighbouring countries, and does not impose any conditions that would contradict GATT. Therefore, since the Revised Policy is purely concerned with regulation of foreign investment and is not aimed at restricting or distorting trade and for these reasons, it may not qualify as a prohibited measure under TRIMS.
Nevertheless, a claim of violation of the Most Favored Nation (“MFN”) under the General Agreement on Trade in Services (“GATS”) may be brought against India. The GATS is the second agreement that indirectly deals with the issue of FDI under the WTO as one of the modes of supply of services under Article II(c). The MFN requirement under Article II is applicable across all sectors unless specifically exempted. This obligation broadly translates into the requirement that a Member cannot give a less favorable treatment to service suppliers of one member vis-à-vis another Member. As per the Appellate Body’s ruling in Argentina-Financial Services, under Article II.1, any difference in treatment against one country shall be considered less favorable if it modifies the conditions of competition in favour of service suppliers of another country.[xi]Besides audiovisual, banking, telecomm and shipping services, India has not provided for any other exemption to the MFN requirement under Article II.2.[xii] Therefore, with respect to the rest of the sectors, China may have a case against India. However, the success of a claim under MFN would depend on how far a change in approval route affects conditions of competition to the detriment of Chinese investors, which still remains a question of fact.
Significantly, the threat of predatory takeovers during Covid-19 remains the same from foreign investors across all other countries. However, as discussed above, the revised policy does not seem neutral in its application. Therefore, India needs to have special reasons for singling out investments from neighbouring countries to justify the given policy under any one of the general exceptions enumerated under Article XVI of GATS. Commentators[xiii] have also discussed the possibility of India taking recourse to the Security exception under Article XVI bis. Until recently[xiv], this provision was considered largely self-judging in nature, but in a recent Panel ruling in Russia—Measures Concerning Traffic in Transit case, it was held that a Member does not have unfettered discretion while determining what would constitute an essential security interest. It held that an objective review by the Panel is required to determine whether the situation actually falls in any one of the category enumerated in Article XVI bis.[xv] The next question for consideration would be whether the threat of predatory takeovers could be considered as “a war or emergency in international relations” as per subparagraph (iii) of Article XVI bis (b). As per the Panel, an emergency in international relations appear to generally refer to a situation of armed conflict or latest armed conflict or of general instability engulfing the state.[xvi] Further, it stated that mere political or economic differences would not amount to an emergency in international relations.[xvii] On account of the pandemic, sensitive sectors of all nations are under the threat of predatory takeovers from investors all around globe. Therefore, even though there is a possibility for arguing that it has caused a situation of general instability, more substantial grounds would be needed to prove how the threat from China was more imminent from the rest of the countries and how it does not amount to a mere political and economic difference.
Irrespective of the legality of the measure in question, the probability of China raising a dispute in WTO is very less. One of the major factors is the inadequacy of the WTO multilateral agreements in expansively addressing various rules governing investor-state relations. Therefore, it is more prudent for countries to look for commonly agreed solutions beyond the realm of a WTO dispute settlement. One also has to consider the fact that presently the Appellate Body of the WTO dispute settlement system is defunct.[xviii] Further, investment related disputes are usually addressed between countries under their respective bilateral investment arrangements which are more comprehensive than the WTO multilateral agreements as will be analyzed below.
Analysis of the Revised Policy under the India-China BIT Regime
The India-China BIT of 2006[xix] was unilaterally terminated by India in 2018. Article 16 of the BIT provided that it would continue for 15 years post-termination. This extension is applicable only for investments made before the termination of the BIT (‘existing Chinese investments’). Prima facie, the Revised Policy applies only to future investments. However, given the vagueness in its language, there is some scope of indirect application on existing Chinese investments as well.[xx] This may expose India to legal challenges under the BIT.
The India-China BIT of 2006 had adequate protection for investors because of the presence of the MFN, National treatment (“NT”), and fair and equitable treatment clauses (“FET”). If the Revised Policy is extended to cover existing Chinese investments as well, then India could face multiple investment disputes alleging violation of these terms. For instance, an existing Chinese investor may invoke the MFN Clause if the Revised Policy restricts the investors from enjoying their contractual rights such as put and call options. Additionally, a claim of violation of the FET Clause, which includes claims based on legitimate expectations, proportionality, non-arbitrariness and non-discrimination may also be made against India.[xxi] In Hydro Energy v. Spain, the ICSID tribunal described the elements of proportionality, which is part of both reasonableness standard and the FET clause as:
‘A measure must be suitable to achieve a legitimate policy objective, necessary for that objective, and not excessive considering the relative weight of each interest involved, and a balancing or weighing exercise so as to ensure that the effects of the intended measure remain proportionate with regard to the affected rights and interests.’[xxii]
India’s Revised Policy is not accompanied by any explanation of why the measure is necessary only against a few nations. It also does not contain any percentage threshold. Further, it applies widely across all sectors and does not clarify if it is temporary. Thus, the Revised Policy is capable of being interpreted as disproportionate, unreasonable and discriminatory in nature. Many existing Chinese investors may argue that they invested in India because of a liberalized FDI Policy, and hence, claim breach of their legitimate expectation. Against these claims, India has recourse to the ‘Essential Security Interest’ (‘ESI’) defence available in the BIT, which could include measures in response to the economic impact of the pandemic. To avail this defense, the requirement of essentiality of the security interest[xxiii], coupled with conditions of reasonability and non-discrimination, which are given in the text of the clause itself, have to be fulfilled. As per the Devas v. India award[xxiv], states have a “wide measure of deference” in determining what constitutes ESI. Thus, India may be able to prove that the Revised Policy is meant to protect the essential security interest of the state which has been threatened by the economic hardships resulting from the pandemic. However, elements of reasonability and non-discrimination are unlikely to be fulfilled in the present situation given the ambiguous and broad application of the Revised Policy against selective nations. In such a situation, Customary International Law principles of necessity, force majeure and distress may be used as general defenses, but they too have a high threshold.[xxv]
Conversely, the Revised Policy is nearly incapable of being challenged under the Model BIT of India, which was developed in 2016 and which is relatively state friendly. For instance, the Model BIT has removed the FET and the NT clauses and has restricted the scope of the NET clause. Recently, it has been reported that China is keen on increasing its investment and developing a new BIT with India. This sudden change in FDI Rules, which was not received well by China, may impact India-China investment relations. As China has transitioned from a restrictive to a liberalized investment policy, now all Chinese BITs have investor friendly clauses like MFN, NT and FET.[xxvi] These factors could make it difficult for India to convince China for adopting the terms of the Model BIT of India. Therefore, any implication on investment relations between the two countries could be harmful to Indian corporates and investors as well.
Conclusion
The onset of the Covid-19 pandemic has severely impacted economic conditions of many nations, as a result, the general trend of liberalization of trade and investment is bound to suffer. Therefore, countries like India are within their sovereign right to enact measures which are necessary to upend the economic crisis that the pandemic poses to their respective domestic industries. Both WTO and International Investment law have provided safeguards to states employing extraordinary measures. However, despite its timely enactment, the revised FDI policy has its flaws when viewed from the prism of international trade and investment law principles. India would certainly face the risk of a legal action from China, if the rule continues to be non-neutral and ambiguous in its application. As discussed, investment disputes are unlikely unless the amendment is made applicable in some manner to existing Chinese investments as well. Nonetheless, this move may prove to be a hurdle in smooth negotiation of a new India-China BIT. Given these circumstances, it is important that requisite clarifications and guidelines are provided regarding the fate of existing as well as future investors.
[i]Foreign Exchange Management (Non-debt Instruments) Amendment Rules, 2020.
[ii]Abhishek Saxena, ‘Government Of India Amends Foreign Direct Investment Policy To Regulate Chinese Investments Into India’ (Mondaq, April 23, 2020) <https://www.mondaq.com/india/financing/923078/covid-19-impact-government-of-india-amends-foreign-direct-investment-policy-to-regulate-chinese-investments-into-india> accessed 9 May 2020.
[iii]Prabha Raghavan, ‘Explained: Why India tightened FDI rules, and why it’s China that’s upset’, (The Indian Express, 23 April, 2020) <https://indianexpress.com/article/explained/why-india-tightened-fdi-rules-and-why-its-china-thats-upset-6374693/> accessed 10 May 2020.
[iv] Kartick Maheshwari & Atul Pandey, Key Change Prior Approval for all Chinese FDI investments’ (Khaitan& Co Ergo, 18 April, 2020) <https://www.khaitanco.com/thought-leaderships/Key-Change-Prior-Approval-for-all-Chinese-FDI-investments> accessed 3 May 2020.
[v] Asit Ranjan Mishra, ‘FDI Policy change may dry up access to Chinese investments in post-covid world’ LiveMint (19 April 2020) < https://www.livemint.com/news/india/fdi-policy-change-may-dry-up-access-to-chinese-investments-in-post-covid-world-11587318548263.html> accessed 3 May 2020.
[vi] Pranav Atit & Armaan Srinivasan, ‘The Covid-19 FDI Amendment-India not alone’ (AZB & Partners, 29 April, 2020) <https://www.azbpartners.com/bank/the-covid-19-fdi-amendment-india-not-alone/> accessed 3 May, 2020
[vii] Subhayan Chakraborty, China slams India’s move to scrutinise FDI, calls it discriminatory’ (Business Standard, 20 April 2020) <https://www.business-standard.com/article/economy-policy/china-slams-india-s-move-to-scrutinise-fdi-calls-it-discriminatory-120042000694_1.html>accessed 10 May 2020.
[viii] Ibid
[ix] Technical Information on the Agreement on Trade Related Investment Measures (World Trade Organization Website) <https://www.wto.org/english/tratop_e/invest_e/invest_info_e.htm#fnt-1> accessed 10 May 2020.
[x]Agreement on Trade-Related Investment Measures (15 April 1994) LT/UR/A-1A/13 art. 2.1 <http://docsonline.wto.org> accessed 10 May 2020.
[xi] Argentina – Financial Services- Report of the Appellate Body, WT/DS453/AB/R paras. 6.105-6.106.
[xii]Under Annex of Article II, each member has the right to enter exemptions to their MFN obligation. The same can be accessed from WTO’s website at <https://www.wto.org/english/tratop_e/serv_e/serv_commitments_e.htm>
[xiii]Ameya Pratap Singh and Urvi Tembey, ‘The Logic Behind India’s New Investment Policy’ (The Diplomat, A22 April 2020) <https://thediplomat.com/2020/04/the-logic-behind-indias-new-investment-policy/>
[xiv]Arindrajit Basu, ‘Will the WTO Finally Tackle the ‘Trump’ Card of National Security?’ ( The Wire, 8 May, 2020) <https://thewire.in/trade/will-the-wto-finally-tackle-the-trump-card-of-national-security> accessed 10 May 2020.
[xv]Russia – Measures Concerning Traffic in Transit – Report of the Panel, WT/DS512/R, paras7.102-7.103.
[xvi] Ibid, paras. 7.76 – 7.77.
[xvii]Ibid, para. 7.75.
[xviii]Amiti Sen, ‘India ready to fight China at WTO, but won’t budge on FDI restrictions’ (Hindu Business Line, 21 April 2020) <https://www.thehindubusinessline.com/economy/policy/india-ready-to-fight-china-at-wto-but-wont-budge-on-fdi-restrictions/article31395835.ece> accessed 10 May 2020.
[xix] Agreement between The Government of The Republic of India And The Government of The People’s Republic of China for the Promotion and Protection of Investments, <https://investmentpolicy.unctad.org/international-investment-agreements/treaty-files/742/download>accessed 4 May 2020.
[xx]Smriti Kalra, ‘India’s FDI Policy Distances Itself from Neighbours: Can China bring an MFN Claim?’ (IndiaCorpLaw, 23April 2020) <https://indiacorplaw.in/2020/04/indias-fdi-policy-distances-itself-from-neighbours-can-china-bring-an-mfn-claim.html> accesses 3 May 2020.
[xxi]Oliver Hailes, ‘Epidemic Sovereignty? Contesting investment treaty claims arising from coronavirus measures (EJIL:Talk!, 27 March 2020) <https://www.ejiltalk.org/epidemic-sovereignty-contesting-investment-treaty-claims-arising-from-coronavirus-measures/> accessed 10 March 2020.
[xxii]Hydro Energy 1 S.àr.l. and Hydroxana Sweden AB v. Kingdom of Spain Case No.ARB/15/42 (ICSID), para574.
[xxiii]CC/Devas (Mauritius) Lt. &Ors. v. The Republic of India Case No. 2013-09 (PCA), para 243.
[xxiv]Ibid, para244.
[xxvi]Wei Shen, ‘Evolution of Non-discriminatory Standards in China’s BITs in the Context of EU-China BIT Negotiations’ (2018) 17(3) Chinese Journal of International Law 799, 820.