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The Case for a Hard Break With China
Why Economic De-Risking Is Not Enough
By Oren Cass and Gabriela Rodriguez
July 25, 2023
https://www.foreignaffairs.com/china/case-for-hard-break-with-beijing-economic-deriskingNever in human history have nations with such radically different economic and political systems as the United States and China attempted economic integration. Before the modern era, neither the markets nor the technology existed to facilitate such a project. During the Cold War, facing similar differences, Washington and Moscow stayed economically far apart. PepsiCo’s opening of a Soviet bottling plant was front-page news in 1972, and because rubles were not convertible to dollars, the Soviets paid for the bottling equipment with vodka. No wonder that globalization gained steam only after the Berlin Wall fell.
In the early post–Cold War years, U.S. theorists and policymakers ignored the potential risks of integration with an authoritarian peer. Globalization was predicated on liberal economic standards, democratic values, and U.S. cultural norms, all of which were taken for granted by economists and the foreign policy establishment. The United States set the rules for international institutions and multinational corporations, most of which were either American or heavily reliant upon access to U.S. technology and markets. Under these conditions, economic entanglements were regarded as opportunities for Washington to exert leverage and impose its rules. Incursions in, and distortions of, one market by another were Washington’s strategy, not its problem.
When welcomed into the international community in the late 1990s, China was still a developing nation. Its GDP was roughly one-tenth of the United States’ GDP, and in 1999, it was still one of the world’s poorest countries per capita, ranked between Sri Lanka and Guyana. U.S. leaders across the political spectrum were confident that by encouraging China’s integration into the global economy, they could ensure that the country would become a constructive participant in a U.S.-led world order. U.S. President Bill Clinton spoke for many when he declared that China’s accession to the World Trade Organization was about “more than our economic interests; it is clearly in our larger national interest.”
It has not turned out that way. Instead, China has rapidly become—by some measures— the world’s largest economy and a powerful counterweight to U.S. influence. Its state-controlled economy and increasingly authoritarian leadership have subverted U.S. investment, supply chains, and institutions. Beijing’s efforts to use global integration to enhance Chinese power and harm U.S. interests have proliferated. The Chinese government has leveraged market access to force technology transfers from U.S. firms including Westinghouse, General Electric, and Microsoft. It has dominated global markets by flooding them with subsidized goods, including solar panels, and it has forced the National Basketball Association and its players into humiliating silence on Chinese human rights abuses.
The fundamental problem is that the United States’ free-market economy is incompatible with a Chinese state-controlled one. U.S. liberty and democracy are antithetical to the authoritarianism of the Chinese Communist Party. The United States must break from China or else become irrevocably corrupted by it.
TIME TO WALK
Presumably, had U.S. policymakers known in 2000 what they know now about China’s trajectory, they would not have conducted the reckless experiment of tightly coupling the U.S. economy to a larger one controlled by a communist, authoritarian dictatorship. But rather than admit their error, many in Washington seem determined to stay the course under the illusion that they can constructively influence Chinese policy through continual efforts at conciliation, even though Beijing has shown no desire to reciprocate.
U.S. Secretary of the Treasury Janet Yellen said as much in April, envisioning “a growing China that plays by the rules” and fosters “rising demand for U.S. products and services and more dynamic U.S. industries.” In June, she told the House Financial Services Committee that “we gain and China gains from trade and investment that is as open as possible.” National Security Adviser Jake Sullivan made a similar argument in an economic policy speech in April, describing the Biden administration’s strategy as “de-risking and diversifying, not decoupling.” Sullivan says that he wants only a “small yard and high fence” to safeguard a narrow set of critical U.S. military technologies. Commerce, otherwise, should continue to flourish.
This posture misunderstands the challenge posed by the integration of the U.S. and Chinese markets, which is not only, or even primarily, one of national security. Although that challenge is immense, even if China were to disarm tomorrow, credibly forswearing any aspirations beyond its borders, its economic influence would remain deeply corrosive to the U.S.-led system of democratic capitalism. That system relies upon the assumption that economic actors in a free market pursuing their self-interest—namely, profit—will also advance the public interest. If everyone plays by the same rules, government constrains unproductive behavior, and maintains a strong social fabric that supports workers and their families, this kind of market can generate unparalleled prosperity. But if the free market comes into contact with a powerful state-controlled one, in which foreign policymakers have made serving their nation in word and deed the path to greatest profit, too many companies and investors will do just that.
Asking U.S. firms and workers to compete with their China-based counterparts and operate in the Chinese market grants the Chinese Communist Party the power to shape American capital allocations and labor-market conditions from the far side of the Pacific. If U.S. firms seek to maximize their profits, and the greatest profit can be had by kowtowing to the CCP, that is what U.S. business leaders will do. Distortions that Beijing introduces in the Chinese market become distortions in the U.S. market. Washington is left with little choice but to counter with interference of its own. Free trade ceases to be a logical extension of the free market and instead undermines it.
Rather than seek out so-called market failures and craft tailored interventions that might enhance economic efficiency, Washington must turn to the blunt and the bold. The goal should not be to make an integrated Chinese-U.S. market work better but to obstruct and discourage the operation of such a market altogether. Trade in goods can still occur at arm’s length and subject to tariffs that protect U.S. interests. But investment should not flow in either direction. Joint ventures and research partnerships should end. Perhaps someday China will liberalize and a strong economic relationship can develop. But U.S. policymakers should be under no illusion that such reform is coming soon or that further cajoling or tinkering with the U.S.-Chinese relationship will help. Washington must stop trying to repair this marriage and, citing irreconcilable differences, move toward a prompt divorce.
DANGEROUS ENTANGLEMENTS
Both the United States and China have large-scale investments in each other’s economies, which has created serious problems for protecting U.S. interests. U.S. citizens and firms channel capital and technology into China, seeking to advance their financial profits—generally, without consideration of whether it helps or harms the United States. In fact, by doing so, U.S. investors are furthering the goals of an authoritarian government that has shown no compunction manipulating foreign investors and leveraging market access to advance its national interests. The most recent instance of this came in July when, at Beijing’s behest, Tesla signed a letter pledging to curtail its competition on price with rival Chinese manufacturers and enhance “core socialist values” in China.
In the other direction, Chinese investments in the United States are almost always implicitly or explicitly controlled by the CCP. “Part of China’s economic strategy relies on acquiring foreign companies and their technology and data through government-supported acquisitions,” warned Ambassador Robert Lighthizer in his congressional testimony in May. “As a result, when Chinese firms acquire American assets, they frequently are not making profit-motivated business decisions. Instead, they are acting to advance China’s national interest.” Yet Washington has done little to constrain how that foreign control is used. On its own, the U.S. model of private actors choosing freely has clear advantages. In contact with the Chinese model, however, it is deeply vulnerable.
U.S. law is not designed to address the problems caused by economic integration with a state-controlled market. Only specified entities, technologies, and transactions are addressed, otherwise leaving commerce free and investment unconstrained. This is the Biden administration’s “small yard and high fence,” which facilitates further entanglement of financial flows and ownership and thus further subversion of the American market. Even with respect to national security, limiting interference to narrow exceptions does not address China’s “Military-Civil Fusion” strategy, which, as the U.S. State Department described it in 2020, aims at “acquiring the intellectual property, key research, and technological advancements of the world’s citizens, researchers, scholars, and private industry in order to advance military aims.”
U.S. law must, then, address the challenge of preventing CCP control over U.S. investors in China and investments in the United States. Washington should prohibit capital flows, technologies transfers, and economic partnerships between the United States and China by default.
To prevent inbound investment, U.S. law should define a class of “Disqualified Foreign Investors.” These should include Chinese nationals who are not permanent U.S. residents, China-based entities, and any other entities that are affiliates of the CCP or subject to CCP control. These investors should be prohibited from conducting transactions, forming corporations or partnerships, participating as limited partners in U.S.-based investment funds, and acquiring real estate. Addressing outbound U.S. investment, the new law should prohibit U.S. citizens and entities from pursuing transactions that entail the acquisition of equity, debt, or real estate in China. Joint ventures between U.S. and China-based entities should be prohibited, preventing them from conducting business in any jurisdiction and transferring advanced technology to the Chinese. Washington should also ensure that the Defense, Treasury, and Commerce Departments harmonize their various export and investment restrictions. China-based firms should be denied access to U.S. capital markets and stock exchanges.
NEITHER FREE NOR FAIR
In principle, trade in manufactured goods could be the least concerning element of the U.S.-Chinese economic relationship: the United States puts things on boats, China puts things on boats, the boats pass one another somewhere in the Pacific and get unloaded on the far side. But that form of trade bears little relationship to the imbalanced and distorted exchange occurring between the two countries today. In 2022, the United States imported $537 billion in goods from China and exported $154 billion.
For Beijing, this trade imbalance is part of a deliberate strategy; the Chinese government mostly refuses to open its country’s markets to U.S. exports and instead trades its own exports for U.S. assets while implementing an aggressive industrial policy to dominate critical supply chains. Demand from U.S. consumers is met from offshore, hollowing out U.S. industry with no commensurate foreign demand emerging for American products.
The existing U.S.-Chinese trade relationship must be changed to end this situation and Washington should invest heavily in creating domestic capacity. A sharp reduction in imports from China will have real costs, especially in the short term as the United States redevelops its own industrial muscles, but those costs tend to be wildly overstated. Tariffs imposed by the Trump administration on broad categories of Chinese goods caused dramatic declines in U.S. imports from China in those categories but had little to no perceptible effect on domestic prices. U.S. manufacturing may have a lot of catching up to do, but production moving out of China can go many places—indeed, the break from China presents the United States with a significant opportunity to support the economic development of Asian and Latin American allies.
Currently, China enjoys “most favored nation” status and therefore receives the same trade terms that the United States offers to all World Trade Organization members. Revoking this status would impose high tariffs on nearly all categories of Chinese imports. Washington should then identify situations where Chinese imports dominate a market and impose rising tariffs on those products until market share of Chinese imports falls to an acceptable level.
Domestically, the United States must embrace a robust industrial policy. In their own pursuit of profit, private investors and multinational corporations give little consideration to the health of the U.S. manufacturing base and industry—a reality vital to the CCP’s strategy. The federal government must step in to alter this equation. Washington will need new institutions, including a cabinet-level National Development Council and a development bank that can cooperate to reshore manufacturing and strengthen the defense industrial base with financial and technical assistance. U.S. law should then stimulate demand for domestic production by requiring goods sold in the United States to contain a certain proportion of U.S.-produced components manufactured by U.S. workers. The free market should determine how best to fulfill that demand through investment and innovation.
CALLING OUT BEIJING’S ABETTORS
Action must also be taken to safeguard institutions vital to U.S. democracy—not only formal centers of learning and discourse but also the broader public square. The U.S. culture of free speech and inquiry is built upon an assumption that no one in the system will possess the power to coerce or manipulate individual citizens, and the one that does, the government, will be constrained by law and custom from doing so. China alters that calculus. An open society cannot tolerate the imposition of authoritarian incentives and penalties from afar and must be insulated from them.
China has long targeted U.S. universities, think tanks, and research institutes to extract economic gain and advance its own ideological agenda. These organizations, whether operated by government, within academia, or as tax-exempt nonprofits, rely to some degree on public funding and are expected to operate in the public interest. That means they must accept processes and controls designed to ensure the integrity and security of their work. U.S. law should be changed to prohibit these institutions from entering into any partnerships with China-based and affiliated entities. Any funding flowing from one nation’s institutions to the other’s must be stopped. U.S. universities should be prohibited from collecting more in tuition and fees from any Chinese national than the average amount collected from American citizens and permanent residents enrolled in the same program of study.
China also uses the powerful incentive of market access to force American investors into promoting its propaganda. The United States cannot outbid these incentives, nor should it. What Washington can do is lower the economic stakes by foreclosing profits in China. U.S. law should impose cultural export controls that prevent U.S. firms from making profits on the sale of films, musical recordings, broadcasts of sporting events, personalized footwear and apparel lines, and live performances in China. If making money in China is as difficult while complimenting the CCP as while criticizing it, the incentive to curry favor with the Chinese government will vanish.
A hard break remains the best course for the United States.
Washington should also seek to raise the reputational stakes for public figures by calling them as witnesses before the House Select Committee on the Chinese Communist Party to testify about their experiences with the CCP and their operations in China. The CEO of the Walt Disney Company and the commissioner of the National Basketball Association, for instance, would both make excellent witnesses. The financier Stephen Schwarzman has surely learned much that he can share from his experience attempting to launch the “Schwarzman Scholars” program at Tsinghua University. The same is true of former New York mayor and financier Michael Bloomberg, who hosted the Bloomberg New Economy Forum in Beijing.
Ideally, other developed economies would break from China, as well. But collective action is not necessary and a hard break remains the best course for the United States, regardless. For Washington, preserving democratic capitalism must be the nonnegotiable starting point; other policy priorities are secondary to that imperative. A commitment to free markets has meaning only if it is matched with the actions necessary to ensure that the U.S. market remains free. That objective can still be achieved by going it alone and is preferable to not going at all.
The United States should build a broader partnership of allied countries willing to make similar commitments in their own supply chains and on issues including technology transfer and research funding. Participants in such a trading bloc should have preferential access to the U.S. market. Nations declining to join should face worse terms of trade, and nations committing fully to the Chinese sphere should face the same treatment as China.
For policymakers and analysts committed to globalization and conditioned to fear any inefficient overstepping in the market, a hard break from China may seem implausible. But only last year, in response to Russia’s invasion of Ukraine, the United States revoked Russia’s “most favored nation” status and imposed aggressive sanctions designed to separate Russia from the international economic system. This was the hardest of breaks and was supported most strongly by those who are most vocally enthusiastic about global engagement and a rules-based international order. Whether the United States should take action on a similar scale against China is not a question of legality or capacity but of values and will
