EuropeanAI Newsletter #74: regulation on foreign subsidies + semiconductors

The Council of the European Union and the European Parliament reached a provisional political agreement on the regulation on foreign subsidies distorting the internal market. The agreement paves the way to the adoption of the regulation into effective law, which is subject to final approvals by the Council and the European Parliament.

What is it?

The regulation institutes a regime for oversight of state subsidized investments and economic activities of companies in the EU. These state subsidies may take various forms, such as grants, loans, capital injections, tax incentives, or exclusive rights. All companies operating within the Single Market are captured by this proposal, whether they are state-owned and private, based inside or outside of the EU.

The aim is to screen for and preempt the direct distortative or spillover effects of state aid to those companies, instigated by non-EU countries.

Direct distortive effects may arise when a foreign company finances its activities in the EU using foreign subsidies and this affects its competitive advantage compared to competitors in the Single Market.
Spillover effects refer to the second order impact of foreign subsidies. It can arise when foreign subsidies create an undue competitive advantage for a company abroad that spills over to the company’s operations in the Single Market For example, through capacity expansion, support for bottom line, etc..

Under the proposed regulation on foreign subsidies, companies must notify the European Commission of planned mergers and public procurement bids prior to their implementation should they be above certain thresholds. The Commission reviews the mergers/bids, assesses the existence of foreign state aid and whether it distorts competition.

If the positive effects outweigh the distortive ones, the Commission may approve the merger/bid.
If the distortive effects prevail, the Commission may: (i) impose redress measures on the companies concerned; and (ii) request them to commit to implementing remedial measures.

It may also investigate mergers and bids of lower values, as well as any other economic operations in the EU on its own initiative. Companies, interested parties and EU member states may inform the Commission of suspected distortive foreign aid.

Analysis: Why is it AI-relevant?

According to Eurostat, the US is the largest foreign investment partner to the EU in terms of both stocks and flows. In terms of stocks (i.e. positions), the US accounts for the largest share (~30%) of the foreign direct investment in the EU in 2020 (the latest, for which public statistics is available). In terms of direct investment flows, the US ranks first among the other EU partners, with more than EUR 250 billion of investments. The US was also the largest importer in the EU of goods and services. These data points appear to suggest investment and trade intensity that exposes the US the most to any EU measures targeting foreign aid.

The proposed EU regulation on foreign subsidies includes critical infrastructure and innovative technologies, such as semiconductors and AI, and comes at a time when the EU and the US are attempting to strengthen their cooperation and facilitate investments in trade and technology through the EU-US Trade and Technology Council (TTC; read more here). A key area of overlap between those two efforts will likely be the TTC’s focus on investments in semiconductor manufacturing facilities.

In a joint statement earlier this year, the EU and the US have committed to avoiding “subsidy races” in the sector. Language in the statement suggests that the two parties are aware of subsidization effects of their schemes for promoting home-grown chip manufacturing through the EU Chips Act and the US “CHIPS for America Act” (e.g. Intel’s new factories under construction in Magdeburg, Germany and in Ohio, the US, and Taiwan Semiconductor Manufacturing Co Ltd’s new plant in Arizona).

In order to navigate potential trade tensions, the EU and the US have committed to cooperating on subsidies to chip manufacturing via the World Trade Organization (WTO). However, the EU’s proposed foreign subsidies regulation will operate in parallel to the WTO’s subsidies controls and the TTC’s cooperation arrangements. It appears to serve as a safety vault for the EU in case foreign industrial policies change in unexpected ways. For example, fluctuations in demand or state measures could possibly affect projected policy outcomes and economic fundamentals of a sector (e.g. by resulting in overcapacities, “killer” acquisitions). Which, in turn, may have distortive effects on the EU market (e.g. lessened competition).

Notes in the Margins: The EU’s proposed regulation on foreign subsidies complements its existing framework for screening foreign direct investments (previously covered in this early edition of the newsletter). The former monitors and intervenes with foreign firms’ investment activities on grounds of their potential distortive effects on competition in the Single Market. The latter monitors and could preempt investments in certain sectors on grounds of security and public order. For example, sectors such as defense, energy, other critical infrastructure, critical technologies (such as semiconductors and AI).