chinese industrial policy

In recent years, trade actions by US president Donald Trump have gradually transformed the world’s free trade system into one of managed trade, focusing on outcomes rather than being rule-based. Measures such as tariffs, quotas (to escape tariffs), commitments to buy, and export and investment controls are becoming normal. The narrative has also widened from trade war to industrial policy war — efforts to promote certain high-tech sectors to become globally dominant. So far, the industrial policy war has been remarkable for its negative aspects. Basically, the US has used trade, financial, economic, legal and regulatory tools to weaken national champions supported by China. The motivation for doing so has moved beyond commercial and economic reasons to national security and strategic concerns. In particular, the preferred enabling laws have shifted from the Trade Act of 1974 (in particular, Section 301) or the Trade Expansion Act of 1962 (Section 232), which authorise countervailing duties or tariffs, to the International Emergency Economic Powers Act (IEEPA) of 1977 or the recent Countering America’s Adversaries Through Sanctions Act (CAATSA) of 2017, authorising various forms of sanctions against entities or activities deemed to be contrary to the US national security or foreign policy interests. Framed in this context, US measures against Huawei and possibly others are not amenable to economic solutions. Pressure has been applied on China to change its system sufficiently for the US to stop regarding entities such as Huawei as threats — an unlikely prospect. To complicate matters more, the US Department of State has recently identified other Chinese tech companies including Alibaba, Tencent and Baidu, in addition to Huawei and ZTE, as parts of a “malignant ecosystem”. Recently, it has been argued that the attempt to weaken foreign competitors is not enough — because tariffs alone are unlikely to bring back manufacturing jobs — and that the US and the west must follow China’s example and implement the “positive” side of industrial policy: supporting domestic companies to compete and prevail internationally. However, in today’s context, such support goes well beyond the old style of picking “national champions”, to embrace all-government or all-society efforts. These include not only competitive financing but also favourable legal and regulatory treatment by central and local governments (including land use rights) and mandates to assure demand. The following examples illustrate these points. China has allocated 5G spectrum to its telecom operators at practically no cost. In contrast, Germany has raised €6.5bn in its 5G spectrum auctions, while the US Federal Communication Commission (FCC) has raised $2.7bn so far this year. This cost advantage, coupled with support from cities and municipalities especially regarding land use rights, has helped China’s telecom operators to roll out base stations — estimated to be 172,000 this year alone, more than all the western countries combined. This puts China ahead in implementing and benefiting from 5G technology. This state-sponsored programme has significantly helped Huawei to develop a critical mass of demand for its 5G infrastructure products. As a result, Huawei has been able to offer 20 to 30 per cent discounts on its base stations to win export orders, having shipped 200,000 units to 50 telecom operators in Europe and Asia by August 2019 despite US sanctions. In Artificial Intelligence (AI), where algorithms must be trained and perfected using a huge volume of data, China has a clear advantage. Personal data protection is not a high priority in its race to be globally dominant, as specified in its “Made in China 2025” strategy. In contrast, western AI developers may be constrained by data privacy protection laws such as the EU’s General Data Protection Regulation (GDPR). In embryonic stem cell research and development, China’s scientists face far fewer ethical constraints compared with the US, which bans federal funding for such research. With government mandates and support, many cities in China have increasingly used electric buses. Some, such as Shenzhen and Shanghai, will soon have only electric buses in their fleets. Benefits from such economies of scale have pushed China’s electric vehicle producers to the forefront of international competition. China’s solar panel producers have received similar state support to gain global dominance. In short, modern industrial policies entail significant intrusion by the government in economic and social spheres. China’s social and economic system has created an uneven playing field favouring Chinese companies in competition with their western counterparts, both domestically and internationally. Engaging in a race against China in this space and in this manner means the west risks becoming more like China, rather than the reverse, as Henry Kissinger might have hoped. While China is practising socialism with Chinese characteristics, the west appears to be gradually embracing capitalism with Chinese characteristics! If this pans out, China will have won the ideological war.

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Time and again, this government has made it absolutely clear that it would like see the competitiveness of British industry improved significantly, both in the domestic market and globally, so that the UK can pay its way in the world, post-Brexit.  This central objective is unlikely to change, irrespective of a deal or no-deal outcome on 31st October 2019. It is fair to say that industrial strategies have acquired a bad reputation because all this talk about creating and protecting national champions, and picking winners, has only diverted attention from the most pressing issue for government – how to deal with the problem of lack of competitiveness in the economy. The problem with intervening in the market with public funds is that, the decision to do so is in the hands of elected politicians who are highly susceptible to cronyism – the nexus between the governing elite and the business elite that contrives to put the interests of business first, ahead of the wants, needs and expectations of ordinary citizens.  This is because the twin evils of lobbying and corruption rear their ugly heads every time taxpayers’ money crosses the boundary between the Public Sector and the Private Sector. It is, as the economist Randall Holcombe puts in his book Political Capitalism a “system in which the economic and political elite cooperate for their mutual benefit.”  The political elite tilt the economic playing field in favour of the economic elite, privileging them through subsidies, regulatory protections and targeted tax breaks.  In exchange, the economic elite then help to ensure that the political elite remain in power.  The rest of us pay the bill for this quid pro quo through higher taxes, higher prices, and a less efficient, less dynamic economy. On the other hand, it is right to say that the job of government is to foster an environment which causes the Private Sector to innovate, grow, create jobs and make a profit.  It is not the job of government to create jobs. It is the misinterpretation of this responsibility, on the part of some well-meaning people that has persuaded them to support the idea of an Industrial Strategy, which entails the government intervening in the market with public funds, to stimulate economic activity, boost productivity and export-led growth. However, this means that people in the pay of the State get to choose which industry sector receives the subsidy, and which does not – leaving them exposed to the charge of favouring the privileged few at the expense of the many, and also skewing the market in favour of the same selected few, for decades to come. Additionally, there exists an extremely high risk that public funds committed in this way will not deliver the return on investment as advertised, or worse still, squandered altogether because: (a)  Civil servants in Whitehall who are charged with negotiating the contract details are ill-equipped to deal with the Private Sector, which means that they will be duped into spending taxpayers’ money on poorly conceived projects – only for this to come to light years later, when some Select Committee of the House of Commons produces a report on its findings. (b)    The internal business process used to select recipients for state support is susceptible to manipulation and distortion by parliamentary lobbyists in the pay of those Private Sector players who can afford to spend the most. (c)    It is certain that the final decision on the choice of recipients, which is in the hands of the governing elite will be made, not in the national interest but to serve the interests of career politicians. So, until these fundamental problems are addressed and dealt with, this Boris Johnson-led government should be wary about any sort of an Industrial Strategy.