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Wednesday, December 30, 2009

China’s Antimonopoly Law—One Year Down Part 5. A De Facto “Dual-Track” Competition Regime?

Posted by Wentong Zheng

In my previous post on this space (see here), I mentioned that SAIC and NDRC, China’s two government agencies charged with enforcing the AML’s abuse-of-dominance provisions, are giving a free pass to abuse-of-dominance conducts by China’s largest state-owned-enterprises (“SOEs”).  As I will discuss below, the two agencies’ inactivity is part of a larger pattern of not enforcing the AML against the largest SOEs.  In this post below I will offer my assessment of what this differential treatment for the largest SOEs means for China’s broader competition regime.

First, some brief backgrounds on China’s SOEs.  Before the 1980s, almost the entire Chinese economy consisted of SOEs.  Due to privatization and the emergence of the private sector in the last three decades, SOEs now account for only a third of the Chinese economy by some rough estimates.  However, the shrinkage of the relative share of SOEs in China’s overall economy masks their sheer sizes and dominance in many sectors.  Since the mid 1990s, China has been implementing a strategy of strengthening control of the largest SOEs while loosening control of or privatizing the smaller ones.  Today, a substantial number of the largest companies in China are SOEs directly controlled by the central government.  These largest SOEs are the dominant players in such sectors as energy, telecommunications, banking, petroleum and petrochemicals, transportation, heavy industry, and infrastructure.

So how does the AML deal with the SOE-dominated sectors?  The answer to that question lies in Article 7 of the AML, which in relevant part states (translation is my own): “In SOE-dominated sectors concerning the health of national economy and national security, and in sectors where state trading is authorized by law, the lawful operations of the undertakings are protected by the state.  The state will supervise and regulate the conducts of these undertakings and the prices of the goods or services provided by them to protect the interests of consumers and promote technology advancement.”  The language of Article 7, however, is remarkably ambiguous.  It pronounces that “lawful” operations of SOEs in SOE-dominated sectors are protected by the state—but “lawful” under what laws?  If the conducts of dominant SOEs have to be lawful under the AML in order to be protected, Article 7 will bring SOE-dominated sectors within its reach.  But if the conducts of dominant SOEs need only be lawful under laws other than the AML in order to be protected, Article 7 will effectively create a blanket exemption for SOE-dominated sectors.  From the text of Article 7 alone, it is just not clear which interpretation is correct.

Whether or not the AML creates a de jure exemption for dominant SOEs, all evidence indicates that the AML is simply not being enforced against such SOEs as a practical matter.  We have already seen an example of the non-enforcement in the abuse-of-dominance area in my previous post.  Similar non-enforcement could be found in other areas, too.  In the area of horizontal agreements, for example, blatant violations by the largest SOEs of the AML’s prohibition of price-fixing and market allocation—violations that would have almost certainly landed the responsible individuals in prison had they occurred in Western countries—are widely reported by the Chinese media but ignored by the antimonopoly enforcement agencies.  The Chinese media reported (see one report here in Chinese) that in April 2009, China’s two largest importers of potassium fertilizers—Sino-Chem and Sino-Agri, both being SOEs—decided at a meeting in Shanghai to jointly “maintain and push up” potassium fertilizers prices that were being pressured downwards by lagging domestic demands.  Another highly publicized attempt at price-fixing was done by none other than CNPC and Sinopec, which were also involved in the abuse-of-dominance conducts discussed in my previous post.  The Chinese media reported (see here for one report in Chinese) that in March 2009, CNPC and Sinopec carried out two joint “price pushing campaigns” to stabilize falling diesel prices in China.  Yet another high-profile horizontal agreement in violation of the AML is the market allocation agreement reached in February 2007 between China’s then landline telecommunications duopoly, China Telecom based in southern provinces and China Netcom based in northern provinces, both among China’s largest SOEs.  Under the agreement (see one report here in Chinese), the two telecommunications giants agreed not to compete for landline business in each other’s base territory.  Although the market allocation agreement was signed before the AML was enacted and China Netcom was later merged into China Unicom in October 2008 in China’s latest round of telecommunications restructuring, after the AML went into effect there has been no report that the agreement has been revoked, nor has there been any report of government investigations into the agreement.

Certainly, the fact that the AML is not being enforced against the largest SOEs in the areas of abuse of dominance and horizontal agreements does not, in and of itself, indicate a special treatment for the largest SOEs.  After all, the two agencies charged with enforcing the AML’s abuse-of-dominance and horizontal agreements provisions—SAIC and NDRC—have not brought enforcement actions under the AML against anybody.  An alternative explanation for the non-enforcement is the relatively short period since the AML went into effect and the slowly building capacity of the enforcement agencies.  This otherwise plausible explanation, however, is cast in doubt by the fact that NDRC once moved swiftly against price-fixing by China’s major instant noodle manufacturers in 2007 even before the AML was adopted (see here for one report in Chinese), when the companies involved in that incident happened to be private or foreign.

There is one area of the AML where evidence of a de facto exemption for the largest SOEs is more definitive, and that area is merger review.  As I pointed out in my earlier post on China’s new merger review regime under the AML (see here), all of the mergers for which MOFCOM has made its merger decisions publicly available involve foreign investors.  The question that is relevant for our purposes here is: Do mergers involving SOEs, particularly the largest SOEs, undergo merger review by MOFCOM under the AML?  The answer to that question is a clear “no” in at least one high-profile SOE merger case.  In a rare admission to the media in May 2009 (see here for a report in Chinese), MOFCOM confirmed that the merger between China Unicom and China Netcom, consummated in October 2008 as part of China’s restructuring of its telecommunications industry, was not notified to MOFCOM for merger review despite that it reached the notification threshold under the AML.  For other mergers involving the largest SOEs, definitive evidence is not available as to whether they underwent merger review by MOFCOM, but anecdotal evidence indicates that they very likely did not.  By my tally, since the AML went into effect in August 2008, there have been fourteen other mergers (excluding the China Unicom and China Netcom merger) (see list here in Chinese) involving China’s largest SOEs that are supervised by the State-Owned Assets Supervision and Administration Commission (“SASAC”).  The press releases issued by SASAC for all of these mergers only mentioned that the mergers were approved by the State Council and did not mention that they were approved by MOFCOM.

In short, more than a year after the AML went into effect, there appears to be emerging a de facto exemption from the AML for the largest SOEs.  But it will be wrong to say that China has entirely ruled out competition in SOE-dominated sectors.  Indeed, in recent years China has taken important, though limited, steps aimed at injecting competition into these sectors.  For example, in certain sectors such as telecommunications and electricity, China has been pushing for more competition for years by breaking up dominant SOEs into smaller ones or creating additional SOEs that compete with one another.  After several rounds of government-initiated restructuring, China’s telecommunications market has evolved from one in which a single SOE—China Telecom—monopolized the entire market to one in which three SOEs—China Telecom, China Unicom, and China Mobile—compete with one another for both landline and mobile businesses (see here for an analysis in English of the latest round of telecommunications restructuring in China).  In the electricity sector, China has broken up the all-powerful integrated electric power monopoly—China National Electricity Corporation—into two electric grid companies and five electric power generation companies. 

In addition to breaking up SOE monopolies, China has also opened up some of the SOE-dominated sectors to private and foreign capital, though only to a limited degree, by relaxing the stringent market entry restrictions in place in those sectors.  An important milestone in this respect is what becomes known in China as “Thirty-Six Articles on Non-Public Economy,” a guidance document issued by the State Council in February 2005 that allowed private capital to enter any sector into which the law does not otherwise forbid entry and any sector into which foreign capital has been allowed entry.  As a result, since 2005 China’s private capital has made forays into sectors long monopolized by SOEs, such as railroads, airlines, and petroleum, with varying degrees of success.

What all of these boil down to is that a de facto “dual-track” competition regime appears to be taking shape in China, with one track relying on the AML to promote competition in private and foreign-invested sectors and the other track relying on government-initiated market liberalization measures to promote competition in SOE-dominated sectors.  It remains to be seen how well this dual-track competition regime will serve China in promoting competition.  In the earliest stage of a country’s transition from a centrally planned economy to a market economy, government-initiated market liberalization measures, rather than antitrust law, would be the only way to open up market competition, as there would not be much competition in the first place to be regulated by antitrust law.  But I suspect that most of China’s industries have gone past that stage.  As market liberalization exposes a bigger and bigger portion of China’s economy to market competition, it will become more and more questionable to continue shielding the remaining SOEs from the reach of antitrust law.  But maybe—and just maybe—China’s de facto dual-track competition regime will become another successful example of its gradualist approach to economic reform, an approach characterized by tolerance of imperfections and even defects along the way to accomplishing the ultimate goal.

Speaking of goals, what makes the implementation of the AML and China’s broader competition regime particularly challenging is the fact that promoting competition is not the only goal of many of China’s economic policies.  In many areas, the goal of promoting competition comes into conflicts with other policy concerns, most notably industrial policy concerns.  In my next post, I will offer some thoughts on the tension between antitrust and industrial policy in China.  Stay tuned.

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