A Technology Trade War With China Could Be a Disaster

In a post last month, we raised concerns about the unforeseen and underappreciated costs of expanding export controls on U.S. technology. Either those concerns fell on deaf ears or the administration did its due diligence and determined that the expected benefits outweigh the expected costs because—earlier this week—the Commerce Department published new rules further restricting Huawei’s access to U.S. technology.

U.S. exports to Huawei have been tightly controlled since Huawei and its affiliates were placed on the Entity List in 2019 for national security reasons. However, because of the design of U.S. export regulations and the nature of technology supply chains, Huawei and its affiliates were still able to import semiconductors from foreign producers that use U.S. chipmaking equipment and software. The new rules are intended to close this loophole and completely cut off Huawei from U.S. technology.

Explaining the purpose of those new rules, Commerce Secretary Wilbur Ross—betraying naïve expectations that Huawei would have just thrown in the towel and shut down its operations after last year’s U.S. sanctions—offered:

Despite the Entity List actions the Department took last year, Huawei and its foreign affiliates have stepped‐​up efforts to undermine these national security‐​based restrictions through an indigenization effort. However, that effort is still dependent on U.S. technologies. This is not how a responsible global corporate citizen behaves. We must amend our rules exploited by Huawei and HiSilicon and prevent U.S. technologies from enabling malign activities contrary to U.S. national security and foreign policy interests.

Although we have been skeptical from the start that this is the right way to proceed with China, the die most definitely has been cast and the technology trade war is moving ahead at full speed. Of course, the U.S. government (many in the Trump administration and many in the Congress) has its reasons (some factual; some presumptive; some political) for this course of action. So, instead of rehashing concerns already raised, we offer (in convenient bullet point fashion) the most relevant facts and assumptions culminating in the current policy, as well as the expected benefits and likely costs of that policy. Unfortunately, the list of likely costs is long.

Facts

  • The U.S. government sees the Chinese government as a bad actor.
  • The U.S. government sees Huawei as an adjunct of the Chinese government.
  • The U.S. government sees Huawei as the leader in 5G technology.
  • The U.S. government sees Huawei’s leadership in 5G technology as a threat to U.S. national security.
  • The U.S. government sees a vulnerability to Huawei’s 5G leadership in Huawei’s dependence on U.S. semiconductors and semiconductor technology.
  • The U.S. government seeks to exploit that vulnerability by depriving Huawei of the technology it needs to continue to dominate 5G.

Assumptions

  • Targeting Huawei with export controls and entity list restrictions to deprive it of needed inputs will slow or stop Huawei’s progress.
  • U.S. sanctions on Huawei from the supply side will compliment U.S. efforts to compel other governments to forego purchasing Huawei gear on the demand side.
  • Slowing or stopping Huawei’s progress will enhance U.S. national security.
  • U.S. national security will be enhanced because U.S. or U.S.-backed 5G companies will emerge and fill the void as standard‐​setters and dominant suppliers of 5G network gear and consumer products.
  • Leadership in 5G begets leadership in the next generation of communications technology and other technologies; followership consigns to more followership.
  • The expected benefits of the U.S. government’s approach outweigh its expected costs.

Benefits (if the assumptions are accurate)

  • The Chinese government’s ability to control or have disproportionate influence over global information and communications networks (and whatever other currently unforeseen powers that control or influence would bestow upon Beijing) will be reduced.
  • Reducing Beijing’s power is—in this context and with certain caveats—akin to enhancing U.S. national security.
  • Impeding Huawei’s success (albeit, through compulsion of other governments and laws restricting private companies from engaging in commerce or research and development with Huawei) could buy time for U.S. companies or U.S.-backed companies to emerge and take leadership in 5G and 6G technology space, providing U.S. economic and security benefits that might not otherwise manifest.

Costs

  • Cutting off Huawei from U.S. semiconductors, semiconductor equipment, and software will expedite China’s development of indigenous semiconductor production capabilities and, ultimately, put the world’s largest market for semiconductors out of reach of U.S. producers within a few years.
  • Cutting off Huawei from semiconductors made with U.S equipment in third countries will compel chipmakers in those third countries to purchase non-U.S. equipment, ultimately drying up current U.S. export markets.
  • Cutting off Huawei will inject even more uncertainty into global information and communication technology (ICT) markets, which likelywill slow the process of standards setting, which likely will retard product development schedules, which likely will deter investment in new technologies, and which likely will be resolved only by bifurcation or even greater splintering of global technology standards.
  • Bifurcation or splintering of technology standards would significantly limit scope for economies of scale in production, as firms all along the ICT supply chain would be producing for fewer customers or producing in separate production runs for customers that follow different sets of standards.
  • U.S. supply chain warfare could prove contagious, encouraging Chinese restrictions on exports of rare earth minerals or other inputs and Chinese retaliation against U.S. technology companies, while opening the door to all countries to treat trade as a strategic weapon rather than as a tool of cooperation and economic betterment.
  • Technology decoupling will inspire a cold‐​war style competition between the United States and China to win the hearts and minds of third countries through the offering of carrots and the threats of sticks.

This article by Daniel J. Ikenson and Huan Zhu first appeared in CATO on May 21, 2020.

Image: Reuters.