CHINA’S CLAWS ON THE UK ECON­OMY

The UK wooed China five years ago, but now many sec­tors of the econ­omy may have to un­ravel those ties

The Daily Telegraph - Business - - Front Page - By Tom Rees, Tim Wal­lace, Melissa Law­ford, Hannah Boland, Rachel Mil­lard, Michael O’Dwyer and Alan Tovey

‘Un­der Os­borne and Cameron, it be­came, let’s go for trade and not get bogged down in com­plex ar­gu­ments about val­ues’

‘No econ­omy in the world is as open to Chi­nese in­vest­ment as the UK,” de­clared Ge­orge Os­borne on a visit in 2015. Few Western na­tions would make such a claim to­day, but the then-chan­cel­lor was on an un­apolo­getic charm of­fen­sive, bat­ting away ques­tions over hu­man rights vi­o­la­tions while claim­ing China stood up for free trade. He even touted the ex­pand­ing global pres­ence of tech ti­tan Huawei as an ex­am­ple of how the rul­ing Com­mu­nist party had em­braced free mar­ket cap­i­tal­ism.

“There is al­ways more we could be do­ing with China be­cause I see China as an op­por­tu­nity not a threat,” he said on one of his vis­its. China was the fu­ture and Britain wanted to be front of the queue to reap the ben­e­fits.

The new “golden era” of UK-China re­la­tions that Os­borne hailed has lost its shine in the years since. Wounds stretching back cen­turies to the Opium Wars have re­opened while the 21st cen­tury is­sues of 5G and tech in­fra­struc­ture se­cu­rity have cre­ated new sources of ten­sion. Kerry Brown, a pro­fes­sor of Chi­nese Stud­ies at King’s Col­lege London, says: “Un­der Os­borne and Cameron, it be­came ‘let’s go for in­vest­ment and trade’ and not get bogged down in com­plex ar­gu­ments about val­ues. We are see­ing now the end of this en­gage­ment pol­icy… China has not been what peo­ple thought it would be.”

Re­la­tions with Bei­jing have hit a low not seen in decades. Chi­nese tech­nol­ogy will be ripped out of Bri­tish in­fra­struc­ture amid fears that Bei­jing is us­ing the likes of Huawei to spy on the West.

Mean­while China has said there will be “con­se­quences” as a re­sult of the UK’s op­po­si­tion to its tight­ened grip on Hong Kong with a new Na­tional Se­cu­rity Law. In 1841, Britain took the city state as part of an agree­ment with China to end the First Opium War be­fore hand­ing it back in 1997 un­der the “one coun­try, two sys­tems” deal.

But that agree­ment has wilted as Bei­jing un­der­mines Hong Kong’s in­de­pen­dence. Mean­while eco­nomic power has shifted hugely in the last 23 years: UK GDP was more than 60pc larger than China’s in 1997 but is a fifth of its size to­day.

It has been a long five years for UK-China re­la­tions since Os­borne’s kow­tow. China’s ties to the UK have deep­ened even as ten­sions have grown. To un­der­stand the con­nec­tions be­tween the two coun­tries, it’s im­por­tant to look at each of the sec­tors that have, un­til now at least, wel­comed Chi­nese in­vest­ment with open arms.

Econ­omy

Britain is a very open coun­try and China is now the UK’s sixth big­gest ex­port mar­ket and fourth big­gest source of im­ports, up from 26th and 15th back in 1999. Sim­i­larly it is a ma­jor player in for­eign di­rect in­vest­ment. In­clud­ing Hong Kong and main­land China, IMF data in­di­cates it is a top 20 in­vestor in the UK while it is the fourth-big­gest re­cip­i­ent of Bri­tish out­bound in­vest­ment.

Bri­tish con­sumers have en­joyed higher liv­ing stan­dards on the back of cheaper goods, with busi­nesses thriv­ing on low-cost sup­plies and an in­creas­ingly wealthy mar­ket to sell into. Syed Ka­mall at the In­sti­tute of Eco­nomic Af­fairs says al­ter­ing our re­la­tions with China is not like an em­bargo against Iran: “there is so much in­ter­de­pen­dency with China” that changes can­not hap­pen quickly.

Coron­avirus has il­lus­trated this in­ter­de­pen­dency clearly, with some Bri­tish man­u­fac­tur­ers sud­denly strug­gling to source sup­plies.

“Even as early as Fe­bru­ary at least one ma­jor equip­ment man­u­fac­turer had to briefly halt pro­duc­tion be­cause of a lack of parts sup­plied from China,” says Yael Selfin, econ­o­mist at KPMG.

“In the same month one of the UK’s big­gest car­mak­ers had to fly com­po­nent parts in suit­cases as the virus had dis­rupted the usual routes.”

Ka­mall down­plays the like­li­hood of this de­pen­dency chang­ing any time soon. Con­sumers could pres­sure com­pa­nies to change their sup­pli­ers, but this would risk price rises. The Gov­ern­ment may also be re­luc­tant to in­ter­vene ex­cept in cases where there is a na­tional se­cu­rity con­cern.

Huawei is one such ex­am­ple; the cost of re­mov­ing its kit is ex­pected to be at least £2bn, not to men­tion the cost to the econ­omy of a slower 5G roll­out.

Man­u­fac­tur­ing

Some Bri­tish com­pa­nies would run into trou­ble if they were no longer able to source from China. The fac­tory sec­tor im­ports £46bn of goods from China an­nu­ally, sec­ond only to Ger­many, and the Asian gi­ant is the fifth-largest ex­port mar­ket, worth about £18.3bn a year.

Re­search by trade as­so­ci­a­tion Make UK found that 65pc of large UK man­u­fac­tur­ing com­pa­nies im­port com­po­nents used in their pro­cesses from China, and 31pc of SMEs.

Tim Fig­ures at Make UK warns that there would al­most cer­tainly be wide­spread dis­rup­tion among Bri­tish man­u­fac­tur­ing, which makes up 10pc of the UK econ­omy, if sup­plies from China were halted.

Com­pa­nies would have to find al­ter­na­tive sources for com­po­nents, which would most likely be more ex­pen­sive, and would prob­a­bly not come from the UK.

“The best guess would be that man­u­fac­tur­ers would not reshore pro­duc­tion of com­po­nents they pre­vi­ously got from China, they’d more likely seek al­ter­na­tive for­eign sup­pli­ers,” Fig­ures says.

“How­ever, that would take time and prob­a­bly come with ex­tra cost, so al­most cer­tainly if the or­der came to stop do­ing busi­ness with China, we’d see a halt to a lot of UK man­u­fac­tur­ing, at least for a while un­til the dis­rup­tion was sorted out.”

Much of Britain’s au­to­mo­tive sec­tor re­lies on China for com­po­nents and find­ing new sources could taken even longer, given that many parts need to be cer­ti­fied for safety. When it comes to spe­cific in­dus­trial com­pa­nies with close links to China, the largest is Bri­tish Steel, which is cur­rently in the process of be­ing bought by Jingye, a deal that is ex­pected to save about 3,000 jobs mainly in Scun­thorpe.

Another key com­pany is Chi­nese au­to­mo­tive group Geely. It owns LEVC, and has pumped hun­dreds of mil­lions into build­ing elec­tric black cabs and vans at a new fac­tory near Coven­try. It has also taken a con­trol­ling stake in Nor­folk-based sports car­maker Lo­tus.

In­ter­na­tional sales are key to both th­ese com­pa­nies, and up­root­ing pro­duc­tion from the UK re­mains highly un­likely in the medium to short term – no mat­ter how strained re­la­tions with Bei­jing be­come.

Prop­erty

Chi­nese in­vestors have be­come a key part of London’s res­i­den­tial mar­ket amid a boom in the years fol­low­ing the fi­nan­cial cri­sis; much of the new-build sec­tor is de­pen­dent on them.

Since 2017, Chi­nese in­vestors have be­come the sin­gle largest for­eign buyer of London prop­erty by num­ber, ac­cord­ing to Knight Frank.

Liam Bai­ley, of Knight Frank, says that in the last 12 months Chi­nese buy­ers ac­counted for 3.6pc of all prime cen­tral London sales. Their role in London’s de­vel­op­ment sec­tor is even big­ger. Ge­org Ch­miel, of Juwai IQI, an on­line mar­ket­place for over­seas prop­er­ties, says that in some pro­jects Chi­nese in­vestors ac­count for a third of to­tal sales.

Chi­nese de­vel­op­ers have moved into Britain, too. Play­ers with ma­jor pro­jects in­clude R&F Prop­er­ties, CC Land and Coun­try Gar­den.

Jonathan Be­narr, of buy­ing ser­vice Quintessen­tially Es­tates, says that Chi­nese in­vest­ment is con­cen­trated “al­most un­equiv­o­cally” in new build.

If Chi­nese buy­ers were to leave, “London’s real es­tate mar­ket would be ab­so­lutely an­ni­hi­lated”, Be­narr says. “Pro­jects would get moth­balled – and that’s just where it would start.”

Re­gional cities such as Manch­ester and Birm­ing­ham, where some Chi­nese in­vestors have chased yields and cap­i­tal ap­pre­ci­a­tion, would also be hit.

Chi­nese in­vestors typ­i­cally pur­chase off plan – ei­ther to sell on com­ple­tion or to let out. As a re­sult many de­vel­op­ers mar­ket pro­jects in China to help fund build­ing back in the UK. Any fall in demand in China would thus have a knock-on ef­fect on the sup­ply of new homes in Britain, says Be­narr. But there is a flip side. Any drop in Chi­nese in­vestors would al­most cer­tainly co­in­cide with a surge of Hong Kong re­lo­ca­tors. The For­eign Of­fice es­ti­mates that 200,000 of the three mil­lion res­i­dents el­i­gi­ble for Bri­tish Na­tional Over­seas pass­ports are likely to move.

Fi­nance

One of Os­borne’s pledges as Chan­cel­lor was to make London “China’s bridge into Western fi­nan­cial mar­kets”. This push helped London be­come the world’s largest ren­minbi hub out­side China.

Trades of nearly 3 tril­lion RMB (£337bn) were cleared in the City be­tween Septem­ber and Novem­ber last year, ac­cord­ing to the City of London Cor­po­ra­tion. Be­yond that, how­ever, the im­me­di­ate im­pact of any break­down in ties with China would be lim­ited, as the coun­try ac­counts for less than 2pc of the UK’s fi­nan­cial ser­vices ex­ports.

The sec­tor is a rare net ex­porter to China. It gen­er­ated £359m of sales and im­ported just £57m in 2018, ac­cord­ing to the most re­cent ONS fig­ures. The real cost of diplo­matic dis­cord could be op­por­tu­nity: the City has long re­garded China as a ma­jor fron­tier for ex­pan­sion. The likes of Pru­den­tial have cal­cu­lated that even a small slice of China’s sav­ings and in­sur­ance mar­kets could tur­bocharge rev­enues.

UK-listed banks such as HSBC and Stan­dard Char­tered are big play­ers in China and the wider re­gion. But they now risk be­ing tar­geted by a state-led cam­paign to boy­cott Bri­tish firms, which could in turn hurt share­hold­ers’ in­vest­ments. Chi­nese state me­dia warned this week that Bei­jing may have “to strike at Bri­tish com­pa­nies like HSBC” if po­lit­i­cal hos­til­i­ties con­tinue. Back­ing com­pa­nies in tech and fi­nance hubs such as Shen­zhen and Shang­hai of­fers UK in­vestors the chance of at­trac­tive re­turns.

That op­por­tu­nity could also be lost if China re­verses its mar­ket lib­er­al­i­sa­tion and makes ac­cess more dif­fi­cult. The Shang­hai London Stock Con­nect pro­gramme gives Shang­hailisted com­pa­nies the op­tion to raise funds in London and vice versa.

The ini­tia­tive is stut­ter­ing against the back­drop of po­lit­i­cal ten­sions and only two Chi­nese com­pa­nies have used it so far. As Hong Kong moves fur­ther into Bei­jing’s grip, the Com­mu­nist Party could also come to ex­ert stronger in­flu­ence on com­pa­nies in­vest­ing in the city, which has be­come a lead­ing in­ter­na­tional fi­nance hub and home to of­fices for a host of UK le­gal and fi­nan­cial firms.

In­fra­struc­ture

China gained a foothold in the UK’s nu­clear power in­dus­try via its part­ner­ship with France’s state-owned com­pany EDF. China Gen­eral Nu­clear and EDF are build­ing the £20bn Hink­ley Point C power sta­tion in Som­er­set to­gether, and are also plan­ning to build a sec­ond sta­tion, Sizewell C, in Suf­folk.

As a smaller fi­nan­cial part­ner to EDF on those sites, its in­flu­ence is capped. But China also hopes to build its own HPR 1000 re­ac­tors at a third site, Brad­well in Es­sex, giv­ing it far greater con­trol over the UK’s power sup­plies.

Ap­proval for its tech­nol­ogy at Brad­well by the UK’s in­spec­tion regime would also help China as it tries to ex­port the tech­nol­ogy. Nu­clear ac­counts for about 20pc of UK power sup­ply, al­though there is fierce de­bate about whether it should re­main at that level. China’s in­volve­ment in UK in­fra­struc­ture does not end there. The China In­vest­ment Cor­po­ra­tion sov­er­eign wealth fund owns 8.7pc of Thames Water, London’s water sup­plier with about 15m cus­tomers, which it bought in 2012.

The same year the CIC snapped up a 10pc stake in Heathrow Air­port, while in 2016 it was part of a con­sor­tium that bought 61pc of Cadent Gas, which sup­plies around 11m homes and busi­nesses, from Na­tional Grid.

The con­sor­tium, which in­cludes the Aus­tralian bank Mac­quarie, bought the rest of Cadent last year. John Pet­ti­grew, Na­tional Grid’s chief ex­ec­u­tive said in 2016 that CIC was “well known in the UK in­fra­struc­ture mar­ket to­day”, adding: “There are ab­so­lutely no con­cerns.”

Gas and water net­works are con­sid­ered solid in­fra­struc­ture in­vest­ments and should eas­ily at­tract other buy­ers if China wanted to exit. But find­ing another com­pany will­ing to bankroll nu­clear power plants is far from cer­tain.

Ja­panese and South Korean in­vestors have both backed away from their in­ter­est in UK nu­clear in re­cent years, al­though a new fund­ing model be­ing ex­plored by the Gov­ern­ment could yet re­vive talks.

Tech­nol­ogy

‘Mean­while eco­nomic power has shifted hugely: UK GDP was more than 60pc larger than China’s in 1997 but is a fifth to­day’

It is China’s role in Britain’s tech­nol­ogy sec­tor that has raised the most con­cerns. Chi­nese firms have been build­ing up their pres­ence for years, the best-known be­ing Huawei, the telecoms com­pany be­hind a sig­nif­i­cant chunk of the kit for Britain’s mo­bile and broad­band net­works.

Vi­ral video app TikTok has also made a push into the UK, and was this year hunt­ing for a 30,000 sq ft of­fice in London to more than tre­ble its staff num­bers in Britain. Last year, al­most a fifth of the Chi­nese firms op­er­at­ing in the UK were in the tech sec­tor.

Ge­orge Mag­nus, re­search as­so­ciate at Ox­ford’s China Cen­tre, says it is hardly sur­pris­ing the UK has been seen as a key des­ti­na­tion for Chi­nese tech in­vest­ment. “It was par­tic­u­larly gen­er­ous in wel­com­ing China and Bei­jing saw lots of ad­van­tages in find­ing start-up tech firms and tap­ping into our R&D ca­pa­bil­ity.”

This looks set to change. Con­cerns over Chi­nese cy­ber-es­pi­onage have been on the rise. Washington is pil­ing on the pres­sure for Britain to sever ties, re­sult­ing in the de­ci­sion to strip Huawei from mo­bile in­fra­struc­ture.

Other re­la­tion­ships may prove even trick­ier to un­tan­gle. Some, in­clud­ing semi­con­duc­tor com­pany Imag­i­na­tion Tech­nolo­gies, are owned by Chi­ne­se­backed in­vestors. Try­ing to undo this could mean forc­ing through a sale, some­thing that few are keen to press.

More broadly, many Bri­tish firms have sup­ply agree­ments with China. Di­a­log Semi­con­duc­tor told The Daily

Tele­graph last year that the elec­tron­ics in­dus­try would have no choice but to side with China against the US if the trade war es­ca­lated. If Britain blocked those re­la­tion­ships or in­tro­duced wider ex­port li­cence re­stric­tions, it could prompt many com­pa­nies to re­lo­cate and hike costs for those re­main­ing in the UK.

Five years on from Os­borne’s claim about Britain wel­com­ing Chi­nese in­vest­ment, the mood mu­sic has changed. But re­vers­ing the tide in any mean­ing­ful sense may prove dif­fi­cult.

‘If the or­der came to stop do­ing busi­ness with China, we’d see a halt to a lot of UK pro­duc­tion’

Boris John­son en­coun­ters a Chi­nese ‘lion’ in cel­e­bra­tion of the Chi­nese New Year. The wel­com­ing pol­icy of his pre­de­ces­sors has come un­der in­creas­ing stress

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