Mei Guanqun: Analysis of US Doubts about China’s Industrial Policies

Abstract: In recent years, the US has questioned China’s policies in relation to non-equivalent tariffs, exchange rates, industrial subsidies, state-owned enterprises, technology transfer, government procurement, overseas acquisitions, intellectual property rights and talent introduction because it believes that these policies have compromised “free market competition” and given Chinese enterprises an unfair advantage. Some views of the United States ignore the huge differences in the national conditions of China and the United States completely. Some statements are groundless, while others are double standard. In order to properly resolve the economic and trade differences between the two countries, China must on the one hand resolutely respond to the US false accusations during trade negotiations. On the other hand, China should further improve its market economic mechanism and push forward reform. At the same time, China should innovate the implementation of industrial policies, establish a fair competition review system before policies are introduced and promote better integration of China’s industrial policies with the socialist market economy.

Keywords: industrial policy, Sino-US relations, trade friction, economic and trade negotiations, market economy.

The United States has always questioned China’s industrial policies and the situation is getting worse in recent years due to two reasons. On the one hand, the narrowing gap in economic development between China and the United States has led to an intensified industrial competition. On the other hand, the United States believes that China did not push forward reforms exactly as the United States expected and considers China’s economy as “national capitalism”, not a western market economy. Recently, the US-China trade war has increased the strategic doubts of the US. The doubts about China’s industrial policies have become the theoretical basis and main arguments of the trade war. Therefore, it is very important and necessary to analyze US doubts about China’s industrial policy comprehensively and objectively.

I. Major doubts about China’s industrial policies.

Industrial policies can be defined broadly and narrowly. Broadly speaking, industrial policies refer to all policies that support a country’s industrial development, including infrastructure construction, human resource cultivation, intellectual property protection, business environment improvement, preferential fiscal and tax policies. Some of the policies are universal, quantitative and non-targeted, while others are preferential, structural and targeted policies. Narrowly speaking, industrial policies can be defined as preferential, structural and directional policies designed for certain specific industries and enterprises. In other words, economic factor resources will be directed to specific industries and enterprises, consequently, the free market competition will be affected to a certain extent. The US questions mainly China’s narrow industrial policies and thus, the narrow-defined industrial policies will be analyzed in this report.

Recently, some US agencies and departments have successively released a series of reports criticizing China’s industrial policies, such as “China’s Status as Non-Market Economy (October 2017)”, “the US National Security Strategy (December 2017)”, “Meeting the China Challenges (January 2018)”, “Findings of the Investigation into China’s Acts, Policies, and Practices Related to Technology Transfer, Intellectual Property, and Innovation under Section 301 of the Trade Act of 1974 (March 2018)” and so forth. All these reports share a common viewpoint: China uses non-reciprocal tariffs, trade barriers, industrial subsidies, market access, discriminatory government procurement, credit direction control and compulsory technology transfer to obtain an unfair competitive advantage when competing with the US. China is a “national capitalist”, government-led economy and non-market economy. The US questioning of China’s industrial policies is specifically reflected in the following areas.

(1) The US accuses China of using non-reciprocal trade policies to protect its domestic market. Although China has gradually reduced its tariff from 15.3% in 2001 to 9.8% in 2010, and further to the current 7.5% since China became a member of the WTO, the United States believes that China’s tariffs are still relatively high compared with the 3.4% of the United States. In particular, the tariffs of some Chinese products are significantly higher than that of the United States. For example, the tariff on automobiles is still 15% while the United States is only 2.5%. China’s duty-free goods account for only 1/7 of the United States. Of the 97 nominal large-scale products in the HS classification of the WTO, about 90 types of Chinese products have higher tariffs than the United States. Only for oilseeds, grains, tobacco, artificial fibers, knitted or crocheted fabrics, railroad tracks and train vehicle parts, China has lower tariffs than the United States. The United States believes that China has now become the world’s second-largest economy, some of its industries are even leading the world and hence it is no longer a developing country and should not be given preferential tariff policies. China uses higher tariffs and trade barriers to protect its own market and support Chinese enterprises, which has impeded the entry of American enterprises to the Chinese market. The trade policies of China and the United States are not equal.

(2) The US accuses China of obtaining export advantages through manipulation of exchange rates. The United States believes that the Chinese government manipulates the exchange rate to maintains the RMB exchange rate at a relatively low level so that its exports can gain a price advantage. It also claims that China’s marketization of the exchange rate is very slow and free conversion cannot be realized under the RMB capital account. The large exchange rate differences of RMB in the offshore and onshore markets reflects the Chinese government’s influence on the exchange rate.

(3) The US accuses China of distorting the market through industrial subsidies. The United States believes that certain industrial subsidy policies implemented by China’s central and local governments over recent years not just violate WTO principles and the spirit of trade liberalization, but also distort the market and harm the interests of American companies. On the one hand, China’s large subsidies on industries such as steel, aluminum, photovoltaics, papermaking and tire create excess capacity, lows global market prices and threaten the survival of US companies and the employment of American workers. On the other hand, the US assumes that China gives high-tech companies large subsidies and stimulates the development of the high-tech industry by adopting strategic plans such as “Made in China 2025”. The US also reckons that China’s central and local governments as well as various agencies formulate thousands of plans each year with the characteristics of the planned economy. If the direction of the plan can be achieved through the market, then China will emphasize the power of the market economy. If the result of the market is inconsistent with the planned goal, China will guide the market to achieve the goals through industrial subsidies and other policies. China uses either the government, or the market to achieve its industrial goals.

(4) The US accuses the Chinese government of controlling state-owned enterprises and implementing preferential policies. It believes that the key industries of the Chinese economy are controlled by state-owned enterprises, especially industries such as finance, energy, telecommunications, aviation, and automobiles. State-owned enterprises are the products of the planned economy and their operations are influenced by the Chinese government. It is believed that the main shareholder of state-owned enterprises is the Chinese government. The motivation of state-owned enterprises is not only to make money, but also to achieve government goals, especially national strategic goals. The personnel appointment of state-owned enterprises is controlled by the government, and senior management personnel often circulate between the government and state-owned enterprises. Therefore, the government can also participate in corporate governance through personnel appointment and removal.

The United States also believes that the Chinese government has given many state-owned enterprises preferential policies that foreign and private enterprises do not enjoy, such as low prices of land transfer, preferential financial and credit interest rates, soft constraints on state-owned enterprise loans, and protection from antitrust. The government’s industrial subsidies are mainly given to state-owned enterprises, and even some products produced by state-owned enterprises are also priced by the government. For example, the power industry is monopolized by state-owned enterprises, and the government sets higher electricity prices to ensure the high profitability of state-owned enterprises.

(5) The US accuses the Chinese government of promoting hidden forced technology transfer. The United States claims that Chinese government explicitly required foreign companies to transfer their technology before 2001. After China joined the WTO in 2001, forced technology transfer became implicit. China did not fulfill its commitments because the government links forced technology transfer with market access and uses joint venture requirements, restrictions on foreign shareholding ratios, and opaque administrative approval procedures to put pressure on foreign companies to transfer their technology. Investment negotiations between foreign companies and Chinese local governments are imbalanced and unequal. It is also believed that the Chinese government sometimes abuses anti-monopoly laws. Considering that foreign-funded enterprises might form a technology monopoly, they are required to transfer their technology or reduce the period of technology patents. This is the practice of “market-for-technology”. The United States believes that the purpose of China’s forced technology transfer is to obtain high-end technology at low cost and shorten their time spend on high-tech R&D. The ultimate goal is to enable Chinese companies to replace American companies in high-tech fields. The practices of “Absorption, digestion, and re-innovation” promoted by the Chinese government is used to achieve this strategic purpose.

(6) The US accuses Chinese government and SOEs of implementing discriminatory policies against foreign-funded enterprises in government procurement. The United States believes that the Chinese government procurement is unfair to foreign companies. The government’s purchase products and equipment produced by Chinese companies, followed by joint ventures. Unless there are no substitute products, otherwise foreign products will not be purchased. It is also believed that Chinese state-owned enterprises often take advantage of the large-scale procurement, or adopt joint procurement methods to enhance the bargaining power, lower the purchase price, or seek advantages in technology transfer.

(7) The US accuses the Chinese government of supporting Chinese companies to make strategic acquisitions overseas. According to US estimation, 90% of the overseas investment made by China in recent years are acquisitions and greenfield investment accounts for less than 10%. The United States believes that most of the acquisition have a government background. Some acquisitions are completed by Chinese state-owned enterprises and is guided by the government. Some acquisitions are completed by private enterprises, who receives financial support from the government. For example, a large number of acquisitions are made by China’s foreign exchange reserves, sovereign wealth funds, social security funds and policy banks. In other words, the government can influence the investment direction of private enterprises through a loan-oriented approach. The United States thinks that from 2006 to 2014, China’s overseas acquisitions were still dominated by the natural resources industry. However, China’s overseas investment has been mainly concentrated in high-tech industries since 2015, especially in artificial intelligence, enhanced virtual reality, robotics and fields related to the strategy of “Made in China 2025”. This change is determined by the adjustment of China’s “going global” strategy.

(8) The US accuses the Chinese government of exercising strong control over production factors. The United States believes that the Chinese government has strong control over production factors such as land, labor, capital and key raw materials. Thus, the government is able to support industrial development by determining the price or flow of these factors. For example, the Chinese government has the ownership and distribution rights of land and hence it can sell land to state-owned enterprises at low prices or even allow high-tech enterprises to use the land for free. It is believed that China does not have a western-style union and hence workers cannot negotiate wages with employers and their wages have been maintained at a low level. Furthermore, the government can exert influence on financial institutions and grant preferential loans to specific industries or enterprises. The US reckons that China controls the export of key raw materials such as rare earth, tungsten, and molybdenum through tariffs or quotas, which will have a major impact on the US steel, chemical, electric vehicle, semiconductor, engine, laser, aviation, and medical products industries.

(9) The US accuses China of stealing intellectual property and trade secrets. The United States believes that the Chinese government supports network intrusions and the acquisition of sensitive information such as trade secrets, technical data, negotiation positions, which can provide Chinese enterprises with a competitive advantage. The US National Security Strategy Report claims that China earns hundreds of billions of dollars every year by stealing intellectual property, saying that China’s “Cyber Security Law” has strengthened the review and control of data and restricted the cross-border flow of data. Large-scale data storage and processing are required to be localized, which may lead to the leakage of key data of foreign companies in China and the misappropriation of technical information.

(10) The US accuses China of promoting technology diffusion by introducing overseas talents. The United States believes that China uses the “Thousand Talents Program” and other policies to introduce high-end talents from overseas. Many of these talents are employed by US companies, master advanced US technology, or are cultivated by the United States and use US research funding for research. However, they are now entered the Chinese companies who are competitors of American companies, accelerating the spread of American technology to Chinese companies.

II: Analysis of US Doubts about China’s Industrial Policy

Among the above-mentioned doubts and criticisms, some of them ignore the huge differences in the national conditions of China and the United States completely, while others are either groundless, or double standard.

(1) There is no fixed model for the market economy and the differences between the Chinese and American systems cannot be simply defined as industrial policies.

The role of government and the market varies in different economies. The market economic models of developed countries such as Britain, the United States, Germany, France, Northern Europe, Japan, and South Korea are not the same, let alone the difference between China and the US. The US uses its market economy as the sole criterion to assess China and define China as a non-market economy. This is unreasonable. Without a clear definition of industrial policy, the US defines China’s economic management method as industrial policy, this is not right.

The United States is a developed country and has a relatively mature and complete market economy system. China is a developing country and has continuously transformed itself from a planned economy to a market economy. These two countries have a great difference in economic operation, management and national conditions. It is unreasonable for the United States to measure the rationality of other countries’ economic development by using its own economic system as the sole criterion. The US can not simply define it as a perfect market economy just because the economic system is consistent with the US system and vice versa. In fact, the differences in the economic systems of China and the United States have existed for many years but the US did not pay particular attention to it because the Chinese economy was not strong enough to compete with the US economy. As China grows into the world’s second-largest economy, these differences have been magnified and used by the US to attack China, defined China as “revisionism” and “national capitalism”.

Taking China’s state-owned enterprises (SOEs) as an example. China’s socialist market economy was transformed from a planned economy and as a result, a large number of state-owned enterprises remain in the national economy. Over the years, the Chinese government has actively promoted the reform of SOEs by establishing a modern enterprise system and encouraging fair competition among SOEs, private companies and foreign-funded companies. On the contrary, the US has hardly any SOEs and uses its own standards to judge China, saying that the reform of state-owned enterprises is unsuccessful because privatization is the only criteria it used for such kind of assessment. The US thinks that SOEs are the extension of the Chinese government’s function and will. This kind of view is very subjective.

About the land transfer system. China and the United States have completely different historical backgrounds and thus it is normal to have different economic systems. China’s land system can be defined as a socialist public ownership system that includes state and collective ownership, but most of the land in the United States is privately owned. We can not say which system is more superior? In China, the usage of land is mainly given through market transfer and government allocation. The land for public facilities is allocated by the government most of the time, while the land for business use is mainly transferred by means of bidding, auction and others. In the US, the land is sold through private transactions but government planning is also emphasized. For instance, land for public use is also allocated by the federal or state governments. Although the land ownership systems of China and the United States are quite different, the two countries are essentially similar in the planning and transactions of land use. Therefore, the US should not simply define different land systems as industrial policies.

(2) The US questioning of China’s industrial policies is groundless and double standard.

For a long time, the industrial division of labor between China and the United States is generally misaligned and complementary. China undertakes the low-end processing and manufacturing in the global industrial chain, while the United States assumes both ends of the “smile curve” of the global industrial chain, that is, the upstream with higher added value. However, as China is climbing up the upstream of the industrial chain and catching up with the US in some high-end industries such as aerospace, automobiles, large computers, machinery and equipment, the US begins to worry. The Sino-US Economic and trade friction is not a trade war triggered by a large trade deficit but a competition for the dominance of the global high-tech industry in the future. The United States attributes the rapid development of China’s high-tech industry to China’s industrial policies, which is a one-sided view.

The United States believes that China steals US intellectual property. In the research reports prepared by different US agencies, they keep saying that China steals US technology but none of them is able to provide any solid evidence. If an American company believes that a Chinese company has stolen its technology, it can take legal actions to solve the issue, but none of them did. It is absolutely irresponsible to accuse China of stealing technologies from US companies without giving any kind of evidences.

About the issue of talent introduction. The flow of talent is part of the market economy. High-end talent is a scarce resource and key production factor that countries and enterprises are vying for. All the countries are creating good conditions for attracting high-end talents, including higher salaries. As a matter of fact, the United States is the country that attracts the most overseas high-end talents and many of its scientific and technological innovation achievements are created by foreign talents and students. The cultivation of these talents is not all completed in the United States. The educational investment on most of these talents is completed in their countries of origin and thus, the United States has become the beneficiary by bringing them to the US. The US allows itself to bring in overseas talents but criticize the talent introduction policy of other countries, this is a typical mindset of double standard.

The United States imposed restrictions on the export of high-tech products to China in accordance with the Wassenaar Arrangement, which is a typical industrial policy disrupting the industrial division system between China and the United States. The purpose is to prevent China from obtaining high-end technology and equipment needed for its industrial upgrading. The restriction of the US on the export of high-tech products to China is a major reason for the large US deficit with China. At the same time, however, the United States has criticized China’s export control of rare earth and other materials, arguing that it is detrimental to the interests of the US industry. This is also a very obvious double standard.

The United States has criticized China’s data management policies and the Cybersecurity Law, arguing that China’s data management and localization requirements will cause the loss of information to American companies. In fact, the United States is the country with the most comprehensive data management in the world today. In 2001, the United States enacted the Patriot Act, which authorizes the US government to obtain almost unlimited access to any data in the name of national security. The scope of its data management involves not only the United States, but also other countries and their citizens, the eavesdropping of the US in some countries may only be the tip of the iceberg.

(3) The implementation of industrial policies is a common practice in various countries and the US also has various industrial policies.

The organization of economic activities is a process of interaction between the market and the government. In order to make up for market failures and ensure more efficient allocation of factors, many countries have adopted different industrial policies. Developed countries have also used or are using industrial policies to form their competitive advantages. For example, Japan’s Revival Strategy, Germany’s “2020 High-Tech Strategy (Industry 4.0)”, Britain’s “Industrial 2050 Strategy” and so on.

The United States is no exemption. In the “Manufacturing Report” submitted by Hamilton to the US Congress in 1791, measures such as tariff protection, import and export restrictions, tax incentives, industrial subsidies, and bans on the export of key raw materials were proposed to enhance the competitiveness of American companies. In 1933, the “US Purchase Act” stipulated that purchases from foreign countries could only be made if the price of American products was 25% higher than the price of foreign goods. All these protective policies are industrial policies. In recent decades, the United States has also introduced many industrial plans. In 1990, the United States began implementing the Advanced Technology Program (APT); the Information Superhighway Plan (NII) was proposed during the Clinton administration; the Advanced Manufacturing Partnership Program (AMP) and National Network for Manufacturing Innovation (NNMI) were released during the Obama administration. Recently, the Trump administration has announced the “America Builds the Future (2019)”, which considers artificial intelligence, advanced manufacturing, quantum information science, and fifth-generation mobile communications as the four major areas that determine the destiny of the US high-end industry. These industrial plans are also industrial policies.

Specifically, US industrial policies mainly include the following methods.

(1) Tariff policy. The US used tariffs to protect the development of its naive industries in the early days. The average tariff rate of the United States between 1820 and 1931 reached 35% -50%. In 1930, the Hoover Administration released the “Smoot-Hawley Tariff Act”, imposing extremely high tariffs on imported goods. After Trump took office, he once again launched a trade war against China, the European Union, Japan, South Korea, Canada, Mexico and other major trading partners, levying higher tariffs to protect domestic industries.

(2) Government procurement. Government procurement is one of the most important manifestations of US industrial policy. In particular, military procurement made by the Department of Defense has played a huge role in supporting the US high-tech industries. Take the semiconductor as an example. In the early stage of the development of the US semiconductor industry, government procurement accounted for 30% to 50% of the total domestic semiconductor sales and civilian demand only became the main buyer later.

(3) Industrial subsidies. According to the statistics of “Good Jobs First”, a subsidy monitoring organization in the US, the US federal government offered subsidies of at least $68 billion in grants or tax credits from 2000 to 2015. Especially in the field of agriculture, with annual subsidies exceeding 100 billion US dollars, including direct subsidies, marketing subsidies, input subsidies, price loss protection, export subsidies and agricultural insurance subsidies.

(4) Investment in basic R&D. Over the years, the United States has invested a lot of money in research and development through fiscal funds and the National Science Foundation. Furthermore, it passed the “Stevenson-Wydle Act” and other acts to ensure that enterprises and individuals can enjoy the intellectual property rights, which offer strong intellectual support to industrialization. According to the National Science Foundation, the US federal government’s spending on R&D reached a total of 427.9 billion dollars from 1953 to 2012, covering areas such as national defense, healthcare, resource and environment, agriculture and communication. This has played an important role in developing the US industry, especially the development of high-tech industries.

(5) Export control policies. During the Cold War, the United States formulated control policies for high-tech products export. After the Cold War, the “Wassenaar Arrangement” and other agreements were reached to prevent the flow of cutting-edge technologies and equipment from Western developed countries to emerging countries such as China. In addition, the United States has also established an export control system with the Industrial Security Agency (BIS) of the Department of Commerce to ensure that the US core technologies will not be acquired by other competitors so that America can maintain its industrial Advantage.

(6) Special financial funds. In order to implement the important industrial development strategies proposed by the United States, the United States often spends a certain amount of money to establish or participate in special funds supporting relevant enterprises, such as “the Advanced Technology Vehicles Manufacturing (ATVM) Loan Program”, “the National Network for Manufacturing Innovation (NNMI)” and so on.

(7) Review on Foreign investment. In order to prevent foreign companies from acquiring important US companies, the United States established the Committee on Foreign Investment in the United States. Apparently, the mechanism is used to review foreign investments that may affect US national security but in fact, its jurisdiction extends far beyond national security. The mechanism covers foreign acquisitions in highly competitive industries of the United States, especially high-tech industries. The purpose is to maintain the leading position in these industries. In 2018, the United States passed the Foreign Investment Risk Review Modernization Act of 2018 (FIRRMA), which expanded the CFIUS review authority and further upgraded the foreign investment review mechanism.

As can be seen, the United States has a double standard on China’s industrial policies. It criticizes China for adopting a variety of industrial policies, but many of these policies are also used by the United States itself. During the rise of the United States, industrial policies have played an important supporting role. Even today, various types of explicit or implicit industrial policies have been used to maintain the competitive advantage of American companies.

In response to America’s doubts about China’s industrial policies, the following four suggestions have been made.

First of all, China should resolutely respond to the false accusations made by the US on China’s industrial policies during trade negotiations.

The topics of the Sino-US economic and trade negotiations can be roughly divided into three parts. First, the issue of trade imbalance. The United States believes that China’s trade policy is unfair and unequal, and it is necessary to reduce the excessive trade deficit with China. The second issue is structure-related, such as entry to China’s market, industrial policy, intellectual property protection, state-owned enterprise reform, technology transfer and exchange rates. The third topic is the supervision and implementation mechanism. How to ensure that both parties can effectively and implement the agreement? The concerns raised by the United States about China’s industrial policies are basically covered in the topics of trade imbalances and structural issues. Recently, US government departments, enterprises and think tanks have criticized China’s industrial policies intensively because they want to add these issues to the Sino-US economic and trade negotiations. Therefore, we must resolutely respond to these false accusations made by the United States during the Sino-US economic and trade negotiations.

Secondly, to further improve China’s market economy system.

Although the criticism made by the United States on China’s industrial policies is irrational, it does not mean that China’s market economy is perfect. Indeed, China’s economic system needs further improvement. For example, intellectual property protection is not good enough; the excessive subsidies given by local governments caused excessive capacities in industries such as steel; and the entry to the service industry needs to be improved. China has taken a good variety of measures to deepen reform and opening up, promote expansion of foreign market access, reduce items on the negative lists, decrease tariffs, increase imports of goods and services, improve the business environment, simplify government approvals, deepen reform of state-owned enterprises, strengthen intellectual property protection and so on. China does not accept accusations that are unreasonable, groundless and double standard. However, China has the determination to face its problems and make further reforms, which will improve China’s socialist market economy, economic efficiency and development momentum.

Thirdly, to innovate the implementation of industrial policies.

At present, there are different opinions and arguments about whether industrial policies are necessary. The necessity of industrial policies depends on whether the policies are conducive to productivity. From the perspective of developing countries, industrial policies are necessary and the key is to integrate industrial policies with the market economy and make sure that the industrial policies obey the objective laws of the market economy. Moreover, the design of industrial policies must also conform to the basic principles of the WTO. From the General Agreement on Tariffs and Trade (GATT) to the World Trade Organization (WTO), one of the biggest changes is that non-tariff barriers, including many industrial policies, were abolished. Many direct-subsidy industrial policies are in violation of WTO rules and thus, the design of industrial policies must comply with WTO rules. In the past, our industrial policies often subsidized the low-end products of the industrial chain, which was criticized by developed countries. On the contrary, most of the industrial policies of developed countries are used to support basic and cutting-edge scientific research. The industrial policies are implemented through capital injection and government procurement of high-tech products, which has a strong driving force for downstream industries. As China gradually transforms itself from a production-oriented country to an innovation-based country, it should learn from the experience of developed countries, adjust the implementation of industrial policies, abolish or rectify subsidies for low-end products, and give policy support to areas such as science and technology research so as to form strong capacities in R&D and innovation.

Last but not least, to establish a review system for fair competition before the industrial policies are introduced.

It has been nearly 20 years since China became a member of the WTO. Numerous research on the WTO rules equipped the central government with extensive knowledge to implement national policies according to the requirements of the WTO rules. However, there are still some industrial policies issued by the local governments and industrial organizations which are vulnerable to the accusations of developed countries. We could establish a review system before industrial policies are introduced, evaluating whether they violate WTO rules and investment and trade agreements. The pre-evaluation of industrial policies will help us to make early preparation and avoid groundless accusations.