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Compliance between social credits and growing regulation

By Rainer Burkardt and Dominik Nowak
Rainer Burkardt is the founder of the law firm Burkardt & Partner, Dominik Nowak is the managing director of Martin Mantz Compliance Solutions – both based in Shanghai.

The term “compliance” only originally described adherence to applicable laws, administrative regulations and voluntary codes. Compliance originates from the Anglo-American legal sphere, where companies have been required since the 1930s to take measures to prevent legal violations in their own operations on the basis of so-called “regulated self-regulation”.

Compared to developments in Western countries, compliance arrived relatively late in China. If the importance of compliance is measured, among other things, by the number of newly enacted and revised laws, the following overview clearly shows that the significance of compliance increased sharply in China over the past eight years: from 2013 to 2021, legislative processes increased sixfold!

In addition, the Chinese government has identified “compliance” as a useful tool against nepotism and corruption in business and politics. Since then, even the famous networks (关系 “Guanxi”), consisting of connections to other companies, authorities and social representatives, can no longer solve every problem or provide advantages.

Xi Jinping’s extensive anti-corruption campaign reinforced this development. Public officials now adhere more strictly to the legislative framework – and even refuse to exercise the leeway granted by law. Authorities also rely on digital systems that monitor compliance processes and make possible influences in the decision-making process more easily visible.

The government’s anti-corruption campaign also resulted in changes to the law, according to which the catalog of penalties has been tightened and local and foreign-invested companies may and should be audited and monitored more closely. In this context, the Chinese government also advocated the implementation of compliance structures and issued corresponding legal obligations.

The social credit system, including the corporate social credit system, is one of the cornerstones of this development. Planned since 2014, it has been active since the beginning of 2021, linking government data to rate individuals, companies and other organizations. This involves integrating local, provincial and national data and records into central databases, which are then used to create a rating or assign credit points that can be accessed online and by the public.

However, a complete analysis has not (yet) taken place. However, there was an amendment at the beginning of 2022, according to which companies are to be classified in dynamic risk classes ABCD in the foreseeable future to facilitate classification and enable faster action.

In addition, as in German law, general civil, administrative and criminal compliance obligations apply, under which executives, directors and legal representatives of companies can be held liable for any violations. Furthermore, China has numerous special provisions under which members of management and other responsible parties can be held personally liable.

The specific legal liability bases are found in various laws and administrative regulations, such as the PRC Export Control Law of December 1, 2020, the PRC Workplace Safety Law of September 1, 2021, the Anti-Monopoly Law amended in August 2022, or new laws in the field of data protection and data and cybersecurity. Here, in addition to more than 290 laws and thousands of national, regional and local administrative regulations, numerous voluntary, as well as mandatory industry standards fall within compliance requirements.

Better score for strong compliance mechanisms

However, compliance no longer requires only adherence to rules, but also the introduction of compliance management systems (CMS) and other measures to ensure regulatory compliance within companies, including software solutions or whistleblower systems.

The growing complexity of the legal framework means that companies need comprehensive documentation and constant updates of the relevant laws, administrative regulations and mandatory industry standards. The first digital compliance solutions, such as web-based compliance management software, support foreign-invested companies in China in reviewing relevant legal regulations, providing audit-proof documentation, and transparently delegating tasks to specific employees, helping companies in maintaining an overview and also ensuring compliance in exchanges with authorities.

In addition, electronic whistleblowing systems can help avoid or reduce direct reports of legal violations to authorities and give management the opportunity to take necessary corrective measures on time. Local ombudsmen can receive tips via the electronic whistleblowing system and communicate with the whistleblower in the local language, taking into account local cultural characteristics, and carry out a fact-finding process in accordance with local law before conducting a legal tip assessment.

The introduction of a CMS and the formulation of internal corporate standards, the early detection of violations or the verifiable addressing of grievances within the company usually improve the company’s rating and regularly result in more lenient sanctions.

Rainer Burkardt is the founder and managing director of the Chinese law firm Burkardt & Partner in Shanghai. He has worked on foreign law issues in China for over 25 years and most recently served as an arbitrator at the Shanghai International Economic and Trade Arbitration Commission.

As managing director of Martin Mantz Compliance Solutions in the People’s Republic of China, Dominik Nowak assists international projects related to digital compliance organization and is a contact for companies.

This article is published as part of the Global China Conversations event series of the Kiel Institute for the World Economy (IfW). This Thursday (17.10.2022, 11:00 a.m.), the online event is titled “Compliance in China under the Social Credit System and Growing Regulation: What are the Challenges Companies face?” China.Table is a media partner of the event series.

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