INSIGHTS: Trade battles and big power competition—more pain for the tech industry

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(Image credit: Bigstock/Freer Law)

A version of this first appeared in our members-only newsletter on May 18, 2019. Freely available on our site now, it soon won’t be. Become a member and read it first.

After a lull, the trade war is back on. From new moves to lock Huawei out of the US to tightening visa regulations for Chinese nationals, from new tariffs to new Trump tweets, both China and the US are ramping up for another battle after the March cease-fire. While many are still crossing their fingers in hopes of a quick resolution, leadership in both countries show no signs of backing down.

Bottom line: China has determined that to become a world power it must also become a leader in the technology industry. AI, chips, advanced manufacturing, and “innovation” are all among China’s highest policy priorities and, indeed, their declared core interests. The ongoing trade war is the most visible part of the increasing friction between the two countries. The Trump White House now agrees with China that the economy and industry are strategic assets that must be protected by policy. Western tech companies, entrepreneurs, and VCs who are hoping for a quick fix need to wake up. This issue is not going away. Deal or no deal, the way the world works is changing, and a struggle over values and global preeminence means politics will shape who you can raise money from, market your product to, and sell your company to for a long time.

A brief timeline: Rather than try to come up with a concise timeline, let me point you to others who have done a great job keeping track of the ongoing trade conflict:

A Chinese retreat: The gusher of Chinese capital in the US is drying up, driven both by a slowing economy at home and stricter rules in the US. According to the Rhodium Group:

  • Foreign direct investment (FDI) from China into the US fell by 84% from 2017 to 2018
  • Net Chinese FDI fell to negative $8 billion as Chinese investors sold off $13 billion worth of US assets
  • VC activity from China hit a new record high of $3.1 billion in 2018, but began to slow down in the second half of the year under increasing restrictions from the US and China’s slowing economy

Data from MergerMarket shows that Chinese purchases of US companies fell by 94.6% from 2016 to 2018.

Enter CFIUS: Silicon Valley VCs love Chinese money; willing to pay top dollar for US-developed tech and brands, it offers a great exit for many early stage investments. But the US government is becoming increasingly skeptical of these deals.

With the introduction of the Foreign Investment Risk Review Modernization Act in August 2018, the oversight powers of the Committee on Foreign Investment in the United States (CFIUS) expanded to include non-controlling investments by foreigners in US companies that have critical and/or emerging technologies.

In control of the review process is the Bureau of Industry and Security (BIS) of the Department of Commerce. As of November 2018, BIS lists 14 categories of technology as “essential to the national security of the United States,” including AI, microprocessors, and biotech.

Since 2012, CFIUS has been used to make it difficult for China to achieve parity in many areas, blocking deals or forcing divestitures of many Chinese investors in the US, including:

  • 2012: Ralls Corporation, owned by Sany Group, had to divest itself from four wind farm projects deemed too close to a US Navy weapons training facility.
  • 2016: A Chinese company was blocked from buying German Aixtron SE, a manufacturer of key material for semiconductor production.
  • 2016: The US blocked a group of Chinese investors from purchasing a controlling stake in Lumileds, Philips’ light-emitting diode components business.
  • 2017: A group of investors including China Venture Capital Fund Corporation, owned by state-backed entities, was blocked from buying Lattice Semiconductor.
  • 2018: Broadcom, a Singapore-based semiconductor maker, was blocked from purchasing Qualcomm. Aimen N. Mir of the Treasury Department stated that they blocked the deal because a “[r]eduction in Qualcomm’s long-term technological competitiveness and influence in standard setting would leave an opening for China to expand its influence on the 5G standard-setting process.”
  • 2019: Chinese medtech company iCarbonX was ordered to divest from PatientsLikeMe, a healthcare startup that claims to be the world’s largest personalized health network
  • 2019: A Chinese gaming company was ordered to divest itself from Grindr, a popular LGTBQ dating app, after completing the purchase in 2018.

It’s not just CFIUS. With a May 15 executive order empowering the US Commerce Department to block foreign telecoms equipment companies on national security grounds, the White House intervened to pave the way for a formal ban on Huawei components, as a well as a possible export ban on critical integrated circuits.

Clash of civilizations?

  • At a security forum in Washington DC on April 29, Kiron Skinner, the director of policy planning at the US State Department, compared the current tension between China and the US as “a fight with a really different civilization and a different ideology and the United States hasn’t had that before.”
  • When asked whether she views this as a “clash of civilizations,” a la Samuel Huntington, Skinner said the current view was “a little different.”

“There is no way in hell China can meet those criteria because of the way they’re governed,” Senator Lindsey Graham, the South Carolina Republican who chairs the Judiciary Committee, said in a hearing of the panel. “The only way China can meet the criteria is to stop being China.”

US Senator Lindsey Graham, speaking of Huawei’s efforts to demonstrate compliance with US security

Don’t forget the China Dream: Beijing really is out to change the world. Introduced by Xi Jinping shortly after taking power in 2012, the Chinese Dream is “the great rejuvenation of the Chinese nation” that includes becoming a “moderately well-off society” by 2021 and a fully developed nation by 2049.

In May 2013, Qiushi, a political theory magazine published by the Central Party School and the Central Committee of the CPC, published an editorial which made the argument that, after hundreds of years of failed experimentation with political models, “[o]nly the path of Socialism with Chinese characteristics found through untold hardships extensively experienced by the Chinese Communist Party, is the correct path in the human world to realize the Chinese Dream.”

Robert Kuhn, author of How China’s Leaders Think: The Inside Story of China’s Reform and What This Means for the Future, claims that the Chinese Dream has four parts:

  • Strong China (economically, politically, diplomatically, scientifically, militarily)
  • Civilized China (equity and fairness, rich culture, high morals)
  • Harmonious China (amity among social classes)
  • Beautiful China (healthy environment, low pollution)

In the introduction to his 2018 translation of Sun Tzu’s Art of War, Christopher McDonald describes the Chinese Dream as:

  • A narrative describing the future world overseen, but not bullied, by a virtuous and non-hegemonic China, including the modification or replacement of current international norms by a more “multipolar” one as well as the replacement of English by Mandarin and the USD by the RMB as international standards
  • Potentially dark, where China can only achieve its goals “in the teeth of bitter opposition from status quo powers” who use everything at their disposal to stymie “China’s peaceful rise”

Kai-fu Lee syndrome: One of the most internationally famous venture capitalists in the China market, Kai-fu Lee has had great success marketing his new book, AI Superpowers: China, Silicon Valley and the New World Order, to Silicon Valley. And for good reason: KFL, as he’s affectionately known by Valley readers I’ve spoken with, does an amazing job summarizing and explaining how China’s tech companies have been able to grow so big, so fast.

KFL then goes beyond his great account of the history to imply that Silicon Valley firms can model themselves on the Chinese giants. This implication is preposterous. Anyone who has spent time trying to understanding China quickly realizes how little the China experience is applicable outside the country. Certainly, there is room for inspiration, but that inspiration can only go so far.

Beyond dollar politics: To many investors, the trade war looks boneheaded. As Steve Hoffman, CEO of Founders Space, told me:

China is America’s largest trading partner, and if tariffs rise too high, we could wind up in a global recession. It’s my belief that it’s in the best interest of the US and China to have strong, mutually beneficial trade policies. There’s no reason we can’t reach an agreement without resorting to extreme tariffs … Most people I know in Silicon Valley sincerely hope that we can set a better course for the future, increase our ties, decrease misunderstandings, and reduce the level of fear and mistrust.

It used to be that business interests had the last word on US China policy. Bill Clinton came into office promising to isolate the country over human rights concerns—but concerted lobbying from businesses eager to enter China’s market helped it retain Most Favored Nation trade status and won Washington’s support for its entry into the WTO.

But governments on both sides of the Pacific are thinking about civilizations, not dollars. Countries that believe they’re in a long fight over world order—or dominance—may not be swayed by short-term arguments.

Tech in the crossfire: I don’t have a crystal ball, but a world with two huge countries in a no-holds barred struggle for control of technology is going to look pretty different. Here are the questions that are keeping me up at night—and that TechNode will be following:

  • How many Huawei’s? “National security” restrictions have extended from military technology to “influence on 5G standards-setting” to building telecoms networks in Europe. As the White House becomes more directly involved in decision-making, how many more sectors will be subject to bans? Will raising money or exiting to China remain viable for US firms?
  • How does China react? Market access in China is already restricted or prohibited in many consumer-facing digital services, and China is still hoping to end the trade war with a deal. If China gives up on compromise, what will happen to US firms here?
  • How much can individuals act as a bridge between competitors? I’ve been living and working in China since 2008. In that time, I’ve seen and experienced China’s evolution. China was the first country I ever visited outside of the US and on my first trip here, the main challenge was to reconcile my expectations with reality. My conclusion then, and now, is that a country’s government is not the same as a country’s people. While Trump and Xi duke it out, it is still real human people, living their “small” lives, that can influence the direction our future takes.

While simple to state, the task itself is gargantuan and requires hard work on both sides to recognize the commonalities we all share and reserve judgment of those elements that make us different. Is it reasonable to expect individuals on both sides to take this responsibility seriously?

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With additional research by David Cohen.