The hidden risks of opening up trade with China

China’s enormous size and growing stature in global affairs make it a tempting partner for a free trade deal, but it comes with strings attached
Prime Minister Justin Trudeau is greeted by Chinese President Xi Jinping as they take part in a bi-lateral meeting at the G20 Summit in Antalya, Turkey on Monday, November 16, 2015. (Sean Kilpatrick/CP)


Justin Trudeau and Xi Jinping
Prime Minister Justin Trudeau is greeted by Chinese President Xi Jinping as they take part in a bi-lateral meeting at the G20 Summit in Antalya, Turkey on Monday, November 16, 2015. (Sean Kilpatrick/CP)

In 2014, a Chinese conglomerate called DongDu International Group (DDI) became enamoured with Nova Scotia. The multi-billiondollar firm purchased more than 1,300 hectares of undeveloped land on the coast and started touting ambitious, if eclectic, plans. Promotional videos discussed the possibility of developing a film production centre, bringing in cruise ships, and building upscale homes, offices and research facilities. In one video, DDI’s chairman says the area could become a “dream homeland for Chinese young people.”

In June, a delegation that included Halifax’s mayor visited DDI in Shanghai, “thus constantly promoting the friendly relations and cooperation” between the two sides, according to a news release from DDI. Three months later, DDI has apparently grown cautious. “We are currently undergoing a strategic review of our businesses in North America, including Nova Scotia,” Ken Creighton, DDI’s regional vice-president for North America, wrote in an email. Creighton declined to comment further.

Such a reassessment is not an isolated event. In recent years, Chinese companies have embarked on a global acquisition spree for everything from sports teams to entertainment companies to trophy assets in commercial real estate. Concerned about the soundness of some of these purchases and the amount of debt companies are piling on, China implemented new rules governing foreign deals in August. These include restrictions on investments in the entertainment, real estate and hospitality sectors, and banned acquisitions in the gambling and sex industries (technology, resources, and agricultural purchases are encouraged).

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It’s just one reminder about the challenges of doing business with China: the government still maintains a tight grip on its corporations, and Beijing’s wishes come first. But Canada hasn’t seen much drying up of investment; despite the headlines surrounding Chinese businesses in Canada, foreign direct investment from the Asian giant is still relatively low. According to Statistics Canada, China invested $21 billion here last year, less than the Netherlands, the U.K. and even Luxembourg. The reality is that business between Canada and China is only getting started. The federal Liberal government is trying to forge deeper economic ties with China, notably through exploratory talks on a free-trade agreement. Such a deal (which could take up to a decade to complete) would be historic for both sides. For Canada, it would mark the biggest bilateral deal in decades, while China would score its first trade pact with a G7 country. Politically, any progress on talks could be a win for Prime Minister Justin Trudeau. Tentative negotiations under Stephen Harper, after all, collapsed in 2012.

But it’s also a minefield. The Trudeau government will have to contend with the question of opening up Canada’s resources sector to Chinese state-owned enterprises, and how to handle acquisitions of sensitive technology. If past trade deals are any sign, China will want to import its own workers for major infrastructure projects here. And the more tied Canada becomes to China, the more Beijing can use its heft to achieve political goals. Meanwhile, observers say China has become even more repressive internally under leader Xi Jinping. Given these challenges, it’s no wonder that, when John McCallum was appointed ambassador to China earlier this year, he pledged to return home every six to eight weeks to talk to the public through the media about why relations “are so important for our future as a country.” In an email to Maclean’s, McCallum said the key for Canada “is determining not only the scale of the opportunity but assessing the risks in moving forward.”

Striking a balance with China—an important economic partner, but also a potential rival on other fronts—is unquestionably a fraught process, and veteran China watchers are concerned the Liberal government hasn’t shown sufficient backbone. “The Trudeau government is only just learning that China needs to be treated with extreme caution as an investment partner,” says Michael Byers, a political scientist at the University of British Columbia (UBC). David Mulroney, a former ambassador to China, is even more blunt in assessing the government’s ability to find the right balance with China. “Nothing I’ve seen has encouraged me to be optimistic,” he says.

Why Canada would want to pursue more trade with China is obvious: the country is too big to ignore. Its growing economy (slated to surpass the U.S. as the world’s largest in a decade or so) and burgeoning middle class provide ample opportunity for Canadian companies to expand abroad and build a new export market, particularly in the agricultural and services sectors. Canada is more determined than ever to diversify its trade relationships in light of U.S. President Donald Trump’s protectionist bent and ongoing NAFTA renegotiations.

Although China is Canada’s second largest trading partner, exports to the country are still a fraction of the volume that goes to the U.S. Last year, the U.S. accounted for 75 per cent of Canada’s merchandise exports. Both Canada and China see this as an opportunity for growth. “It doesn’t hurt that, politically, we are liked in China,” says Eva Busza, vice-president of research and programs at the Asia Pacific Foundation of Canada.

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Still, some are puzzled about China’s desire to pursue a free-trade agreement with Canada. Barriers to trade and investment in Canada are already low, and Chinese companies enjoy fairly wide latitude to operate here—especially compared to how closed China’s economy still is to outsiders. We’re also not terribly important to the country’s economy, argues Charles Burton, a political science professor at Brock University. “Our market is a miniscule factor in China’s overall global rise,” he says. “We don’t have something they cannot obtain anywhere else.”

For China, a free-trade agreement is about more than economics. “They see this more in terms of prestige,” says Guy Saint-Jacques, Canada’s ambassador to China until last year. “They want to use this as a springboard for eventual negotiations with the Americans.” Mulroney sees a more worrying strategic angle at play. “At least some of the Chinese strategy is splitting Canada off from the United States, and isolating the United States from its closest allies,” he says. “If they can begin to win over countries that are traditionally very close to the U.S., then they can somehow challenge or weaken it.”

Until recently, China’s big interest in Canada concerned the energy sector. Between 2009 and 2012, Chinese firms invested billions into the sector, culminating with the state-owned oil firm CNOOC’s $15.1-billion purchase of Nexen. Controversy around the deal prompted the Conservative government to implement restrictions on state-owned enterprises acquiring majority stakes in Canadian companies. If the idea was to discourage Chinese state-owned enterprises (SOEs) from buying more energy companies, it proved redundant when oil prices crashed in 2014. “The Chinese bought at the high, and now they’re not getting a return,” says Wenran Jiang, a senior fellow at the Institute of Asian Research at UBC.

Even so, Chinese SOEs have stayed put in the oil sands as other foreign companies are shedding assets, and the federal government is courting Chinese investment again. Minister of Natural Resources Jim Carr visited China on a trade mission in June, in part to send a message that Canada welcomes Chinese investment, including in the oil sands. “Chinese investors are no different than investors from anywhere else,” he told reporters on a conference call later.

MORE: Canada’s regulatory process will deter Chinese infrastructure investment, says envoy

That’s led some to wonder about the possibility of reversing course and opening up to SOEs again. “Even if it’s not part of a trade agreement, you’re going to see the Chinese wanting those restrictions relaxed,” says Ron MacIntosh, a senior fellow with the China Institute at the University of Alberta. “They tend to interpret this policy as being against China, rather than the state-owned sector.” Critics of the Conservative government’s SOE policy say it was implemented without grounds or sufficient explanation to China, damaging relations. “There’s no need for a limit,” Jiang says. “Our sovereignty is not in danger for giving up some licensing for exploration rights.” What’s important is to gauge how Chinese SOEs have complied with Canadian laws and regulations over the years. “They’re very much in line,” Jiang says.

The country is still bristling over the restrictions. China’s ambassador to Canada, Lu Shaye, wrote a column for the Financial Post in May, seeking to assuage Canadian fears about SOEs. “China’s state-owned enterprises are not evil,” he wrote, “but babysitters who care for our people’s lives.”

But reopening that debate could set Canada on a perilous path, Byers says. Canada could leave itself vulnerable if it ever finds itself in a conflict with China—a remote but not unforeseeable possibility. “Let’s say China decides to play hardball and suspends production at its facilities in Alberta during a time of conflict,” Byers says. “If you give China too much access to the oil sands, you expose yourself to that kind of retaliation.”

The country’s growing interest in acquiring technology companies is also stoking worries. In the past few years, various Chinese companies and funds have made numerous bids for high-tech firms—some with military applications—in the U.S. and Europe. Not all have been successful. U.S. officials blocked a $2.9-billion bid by Chinese investors to buy a controlling stake in a California-based unit of Dutch electronics firm Phillips last year, while another U.S. semiconductor firm rejected a lucrative offer from Chinese investors in favour of a lower bid from an American company because of concerns the deal would not win regulatory approval.

Chinese firms have been less acquisitive in Canada (the Asia Pacific Foundation’s investment monitor records less than $1 billion in tech deals since 2010) but that’s expected to change. The Liberal government, in contrast to some of its international peers, has shown a willingness to approve such deals. This year, Innovation, Science and Economic Development Canada green-lit China-based Hytera Communications’ bid for Norsat International, a maker of satellite technology whose customers include the U.S. military, without a full security review. The Liberals also reversed a decision by the previous government, allowing a maker of laser technology in Montreal called ITF Technologies to be purchased by a Hong Kong-based firm. The government defended the moves, arguing there are no security concerns that warrant blocking the deals.

The decisions are mystifying for some. “It was a shocking lapse in my view,” Mulroney says. “It shows they’re either radically misreading Canadian public opinion or they’re so in the thrall of China that they don’t really care.” A recent survey conducted by the Asia Pacific Foundation shows a slim majority of Canadians (55 per cent) support the pursuit of a free-trade agreement and that 64 per cent are concerned Canada will become more susceptible to economic and political pressure from Beijing. Given the concerns, it would have made sense for the Liberals to “have gone out of their way to assure Canadians that they’re not asleep at the switch when it comes to security,” Mulroney says.

Saint-Jacques, however, says politics played a role in the Conservative government’s initial rejection of the ITF Technologies deal. The takeover offer came in the wake of revelations that Chinese hackers broke into computers at the National Research Council in 2014. “The government was so mad that they would have refused any investment proposal that had a little technology associated with it,” Saint-Jacques says. Further, he sees the Liberals making progress on telling China what will and will not be tolerated. In June, China signed an agreement with Canada saying it will no longer conduct state-sponsored industrial and economic espionage (the agreement does not cover government or military spying).

Still, the threat of Chinese government influence is real. Earlier this year, in Australia, a Chinese billionaire reportedly threatened to withdraw an AUD$400,000 donation to the opposition Labor party after an Australian official took a hard line against the Chinese military’s activities in the South China Sea. A Labor senator then contradicted the party’s policy by telling Chinese media that Australia shouldn’t interfere with China’s ambitions in the region.

Australia’s own free-trade negotiations with China (the pact went into effect at the end of 2015) provide Canada with an idea of what to expect. One of the most contentious issues during the talks concerned labour: the two countries signed a memorandum of understanding allowing Chinese companies registered in Australia to bring in workers for infrastructure projects that exceed AUD$150 million—without trying to hire locally first. Unions and opposition politicians decried the deal, arguing it shuts citizens out of job opportunities, while supporters contend free trade will boost economic activity overall.

It’s likely China will push for the same arrangement with Canada, and such a labour deal could complicate already contentious infrastructure projects. Take, for example, a Chinese company that wants to build a pipeline to the B.C. coast to export oil to China. Pipelines are already hotly contested; one using foreign labour would run into even more opposition, and become politically risky for any government to back.

Observers also fear that the greater the economic ties with China, the less leverage Canada will have when it comes to pushing the country on, say, human rights reforms. When Chinese dissident Liu Xiaobo was awarded a Nobel Peace Prize in 2010, China responded by squeezing Norway for years (Norway hosts the ceremony, and its parliament appoints the selection panel).

Byers suggests a better approach would be for Canada to negotiate sector-specific agreements rather than a single, package deal. “That way we’re engaged in an ongoing negotiation,” he says. “If we have things that China wants, we’re not signing them away on a permanent basis but holding them forward as a series of carrots.”

A free-trade agreement really provides one opportunity to get things right. “I’ve always argued you get one kick at the can,” Saint-Jacques says. The next few years, then, will prove crucial for shaping Canada-China relations—regardless of how Ottawa proceeds.