China,Economy | May 26, 2017 Written by Hinrich Voss. Chinese direct investments into the European Union have continuously grown since the financial crisis in 2008. This is partially explained by Chinese factors: the Chinese government’ ‘go global’ policy, the increasing global competitiveness of Chinese firms and rising demands in the domestic market have propelled China to be one of the three source countries for outward foreign direct investments (FDI). A share of that FDI flow, and that is the other side of the coin, is bound to be channelled to the European Union. Brexit has the potential to put a spanner into Chinese investments into Europe. To what extent Brexit will divert Chinese FDI flows and where to is not yet clear. To assist with any analysis of Chinese investment, I am considering here the reasons behind Chinese past investments in the European Union and how Brexit has affected these motivations. The rationale for Chinese acquisitions of European firms The reasons for Chinese acquisitions in Europe have been well documented. Chinese firms are attracted to European firms because they seek to benefit from the advanced technologies and R&D infrastructure which can increase the Chinese firms’ competitiveness in their domestic market; to profit from established brand names that have a history that sells well in China and overseas; gain access to distribution channels to the world’s largest market – the European Union; be in line with Chinese government policies and priorities as we have seen with investments in the football sector; and, in certain instances, circumvent trade barriers the European Union has or threatens to have. The selection of acquisition targets has typically followed one, or more, of the above motives starting from one of the first Chinese acquisitions in Europe, MG Rover more than ten years ago, to the reported purchase of the iconic Swedish photo camera maker Hasselblad earlier this year. In the UK, household names like House of Fraser, Pizza Express, and Weetabix are now all in Chinese hands. Brexit has not yet changed the economic fundamentals Since Brexit, the economic fundamentals have not changed across the European Union. At the macro-level, the available data does not show any substantial gains or losses for any European economy. The reason for this is that the Brexit negotiations have not started yet and therefore the impact of potential trade barriers and relocating industries are yet to materialise. When the negotiations commence on 19 June 2017 we will slowly understand what directions they might take and how they will impact particular sectors. Unaffected by the negotiations are, however, the above-mentioned core motivations for Chinese investments. Chinese firms will continue to identify European companies that exude status, prestige, and glamour or operate at a technological frontier that is of interest to China. Those companies will remain an acquisition target. Europe will also remain a large and wealthy economy with an attractive single market. While the first two points will be true across Europe, a potentially isolated British market will make it less attractive for market-seeking Chinese firms. But Brexit can actually increase the attractiveness of British targets if these companies find themselves shut out from the European markets and in need of a foreign partner in order to explore the possibilities China and other foreign markets have to offer. The impact of Brexit to date British companies have already become cheaper relative to those in the Eurozone. Since the day of the Brexit referendum, the British sterling has dropped from 9.43 Chinese Renminbi to 8.97 in May 2017; with the nadir at 8.22 in October 2016. The Euro, on the other hand, has gained in value by more than five percent. This simple arithmetic and the potential need for a foreign partner suggests that British acquisition targets should become more interesting for opportunistic Chinese firms. Opportunistic acquisitions are likely to have a smaller and less lasting positive impact on the host economy than strategic ones. When we consider how Chinese acquisitions have developed since Brexit and compare this to the twelve months pre-referendum period, a different picture emerges. In the period up to the referendum, Chinese firms concluded 155 acquisitions across Europe. Germany (36), the UK (31), France (22), and Italy (19) were the most attractive markets. These four nations are traditionally the most attractive to Chinese companies because they match their core motivations best and present themselves to be open to Chinese companies. In the eleven months since the referendum, only 98 acquisitions have been finalised of which 32 took place in Germany, followed by the UK (13), Italy and France (12 each). Across Europe acquisitions thus fell by about one-third – in the UK by nearly two-thirds. After the previous years of increasing Chinese acquisitions, this is a considerable drop in activities. The British performance is hereby most noteworthy as it contradicts the narrative that the UK will remain attractive to foreign investors. Indeed, there is little evidence that would suggest that Chinese firms have so far taken advantage of the devaluation of the Sterling. The signs that we are heading for a hard Brexit have pushed the Sterling repeatedly down in recent months. Chinese firms might therefore just be hedging their bets and wait to see if they can strike a better deal. The data also reveals that they have become more cautious about the prospects of the European economies in general. The post-Brexit future Europe and the UK are at crossroads for Chinese FDI. At the moment, signs are suggesting that the UK is more likely than the rest of Europe to witness falling interest by strategic, long-term Chinese investors. While Chinese firms will continue to acquire assets like brands and technology in the UK, they are likely to do so with the intention of developing these assets overseas rather than in the UK. Initially, this would be recorded as a positive development in the inward FDI statistics, but the long-term positive impact associated with FDI is likely to be small. Europe, on the other hand, offers brands and technologies in addition to a greater market, the 16+1 government-to-government meetings (backed by the recent ‘China-Central Eastern Europe Fund’), and is closer to the Belt and Road initiative. Chinese firms, who typically have so far not established significant sales networks across Europe, will thus find this region attractive and expect governmental support. The alignment of host and home government interests with business interests will drive Chinese direct investments to Europe. Hinrich Voss is a Associate Professor in International Business at the Centre for International Business University of Leeds (CIBUL). He tweets at @VossHinrich. Image credit: CC by Foreign and Commonwealth Office/Flickr. Do Climate Mitigation Policies in India lead to Reduced Electricity Poverty? South Asia & The Challenge of Integration: Is SAARC still relevant?