G7 summit in Japan could trigger new protectionism phase

In focus - G7 in Japan: outbound investment protectionism on the menu

• As the G7 gathers in Japan this weekend, the US is championing outbound investment curbs on potentially sensitive technologies or the outsourcing of critical production as the next step to de-risk supply chains and reduce dependence on China. Presently, China itself, Japan and South Korea are the only economies with some restrictions in place, but they are very limited in reach and scope.
• The US is likely to go ahead first through the passage of a bill in Congress, potentially as early as September or October; other countries will likely follow suit. However, full implementation of outbound investment restrictions will take time given potential loopholes.
• Two-way investment flows between China and the West are relatively moderate in size and have been declining over the past few years as the private sector has been keen to reduce its involvement amid growing geopolitical tensions. Total FDI flows to China peaked in 2016 at USD27bn for the G7 economies and have since fallen to close to USD3bn, largely led by the US, whose net flows to China turned negative in 2021.
• However, the economic implications of a further decoupling between the West and China could be far-reaching. The long-term damage to the Chinese economy could be far from negligible, even if the restrictions apply to only a handful of sectors. Though Chinese industry has increased its self-reliance, the ecosystem is still benefiting from Western-brought technology and know-how, especially in ICT, pharmaceuticals and biotechnology. China could retaliate by curtailing the supply of critical raw materials in which it has a dominant position, which could severely disrupt global supply chains. But this is unlikely as it already applies some forms of outbound investment restrictions and is still looking towards economic pragmatism (e.g. China has eased some import restrictions on some Australian imports following a multi-year bilateral dispute).