Foreign investment guidelines have created a new round of confusion and bewilderment in Beijing, writes John Garnaut.

I

n February 2008 the Chinese Government-owned aluminium giant Chinalco derailed BHP Billiton's plans for a full takeover of Rio Tinto by snatching 12 per cent of its London shares.
The world's biggest miner immediately began a mammoth but discreet media and government relations campaign against the Chinese investment, including private talks between its chairman, Don Argus, and the Prime Minister, Kevin Rudd, at the Lodge in Canberra.
Rudd; the Treasurer, Wayne Swan; the Resources Minister, Martin Ferguson, and their advisers were particularly targeted.
"Emails from BHP were circulating at the highest levels, copied in to ministers' offices, about all the 'China Inc' stuff," said Stephen Joske, a former Treasury official who left Canberra in July last year.
The BHP campaign was ratcheted up after Chinalco again stunned the market in February by signing an additional $US19 billion investment deal with Rio.
That second deal died a natural if acrimonious death when Rio walked away from it in favour of an iron ore tie-up with its rival BHP Billiton.
"It was Rio's decision to walk away, not the Government's," emphasised a source close to BHP. "FIRB [Foreign Investment Review Board] or the Government never even ruled."
In the dying days Canberra had told the Chinese ambassador, Zhang Juncai, that the Chinalco bid would be approved. But that was based on a radically pared down version of the deal as briefed by Rio, which Chinalco had never agreed to.
If Chinalco executives were stunned and wounded by the way their deal fell apart, they were also a little awestruck by the quiet backroom efficacy of BHP.
''I admire BHP's strategic discipline and the way it plays the game," said Chinalco's key acquisition strategist, Wang Wenfu, who spearheaded the Rio Tinto bids. "But I did think it was unusual to not make a single submission to the Senate inquiry on foreign investments when it was busy supplying ministers with dossiers on that very topic behind the scenes.''
Since then a long list of Chinese investments in Australia have been delayed, discouraged or rejected by the Australian Government.
In recent weeks it has rejected two Chinese bids and instructed a number of other companies to resubmit their applications.
In May, China Nonferrous Metals Mining Group applied to the FIRB for a $500 million bid for control of the rare earths miner Lynas. The application went back and forth until the regulator was satisfied that a marketing mechanism had been devised that would not exacerbate China's stranglehold on the rare earths market.
But on the morning of September 23, China Nonferrous received a message from the investment regulator saying that "we are inclined to approve this transaction and we can approve it tomorrow, with just two minor amendments", a source privy to the conversation said.
The amendments were to reduce the Chinese shareholding from 51 per cent and reduce the number of Chinese nominees on the board to a minority.
The Chinese company was told that the review board wanted to send a message to China's economic planning agency, the National Development & Reform Commission, that it had to comply with Swan's investment guidelines.
The problem was that China Nonferrous thought it already had complied. It immediately walked away from the deal.
"They grossly misjudged the sovereign insult and failed to see that China Nonferrous would make a decision not to use up their political capital trying to get a lesser deal and save it for another transaction," said a source close to the deal. "It is very, very difficult to do transactions when the policy sands keep shifting beneath us."
The review board had intended to announce the Lynas deal's approval on the following day, September 24. That would have coincided with the board's chairman, Patrick Colmer, laying down tough new guidelines that appear to restrict foreign government-owned investors to 50 per cent of greenfield resource projects and to less than 15 per cent of major ones.
These guidelines were intended to add certainty to the process. Instead, they have created a new round of confusion and bewilderment in Beijing.
Observers and participants in the deal wondered whether the $US3 billion bid by Yanzhou Coal for Felix Resources - also stalled at the review board - would now be ruled off limits.
"The 15 per cent test has caused absolute confusion here," said a source close to that deal in Beijing, adding that he thought the deal would still go through.
Those who frequently dealt with the board told BusinessDay that the system has been enveloped in additional rolls of red tape since Colmer's comments.
"A response from FIRB is now beginning to look like an ACCC market inquiry analysis Q&A," the lawyer said.
Indeed, a whole industry of lawyers, lobbyists and retired politicians is springing up to earn fees by promising China that they can divine the mysteries of Australia's foreign investment laws. Many contacted by BusinessDay are critical of the review board and others are critical of the Australian media. But they are all fearful of speaking publicly, lest they offend the agency they are paid to deal with.
The mining magnate Clive Palmer, who has close business dealings with China, caused fireworks recently by calling the review board a "racist body". Privately, some Chinese executives are equally scathing. One leading Chinese investor recently privately complained about Canberra's "xenophobia" in promising to send his capital elsewhere.
Chinese officials have tended to be more restrained, perhaps given that it is notoriously difficult for foreign companies to enter the Chinese mining industry.
But Australia's investment restrictions seem popular at home, with 50 per cent of respondents to this week's Lowy Institute survey saying the Government was still letting in too much Chinese investment.
But Joske, the former official, said the public opinion problem was of the Government's own making.
"There wasn't strong public resistance to Chinese investment in Australia a few years ago," he said.
"But indecision from the Government and negative signals created a vacuum in which concerns grew. As soon as FIRB started to define what the national interest is they bound their hands without really resolving the issue; now FIRB is being used to fan public opinion and concerns about state-owned enterprises."
Some reports have hinted that BHP Billiton succeeded in framing the thinking of senior Government advisers, including in the office of Ferguson, who is planning to visit China this month.
But Joske's comments are the first insider's confirmation of problems with the investment policy process, the extent of BHP's influence and the strategic economic questions at stake. Joske, who had been a macro economy adviser to the then treasurer Peter Costello, a Treasury representative in Beijing and also the lead China economy analyst at the Office of National Assessments, was privy to the Government's investment decision-making processes following Chinalco's initial tilt at Rio Tinto.
He said he was "shocked" at Treasury's failure to brief its boss, Swan, on the usual pros and cons of foreign investment
"I suspect Treasury did what they thought the minister wanted," he said. "Costello hated lobbyists but Swan seems to have let some of them get a foot in the door."
Swan has repeatedly said Australia welcomes investment from all sources, including China subject to the national interest. He declined to comment for this story.
Joske said the investment policy setting was getting worse because of a lack of leadership.
"There is no strategic framework with China," he said. "I don't know what caused it but it's a fact. Because of this vacuum you get crap policy."
And the result, he said, is that the review board ''has been allowed to depart from the spirit of the open economy and to effectively dominate the entire economic relationship".
Joske said Chinese state-owned companies did act differently to non-state companies, but not in ways that the Australian Government understood.
"The issue of Chinese Government control of state-owned enterprises is very complicated and very hard to grasp" he said. "This gets back to this mystery as to why the Australian Government has chronically under-resourced its economic engagement on China.
"The thing that's inexplicable is this is the overall approach to China: you're setting foundations for Australia's economic future," he said. "The business lobbyists have dropped the ball, the bureaucracy is under-resourced, BHP is doing what it always does and the Opposition is making things worse."