Technological Decoupling: The Newest Phase of U.S.-China Competition?

The global economy currently faces the looming prospect of technological decoupling between its two leading economies. Under the Trump and Biden administrations, the U.S. has tightened export controls on sensitive technologies and increased investments in domestic research and development. In response, China has prioritized domestic markets and innovation to reduce its reliance on foreign suppliers of key inputs, such as semiconductors. To hedge against the uncertainties of the post-COVID 19 global economy and deteriorating bilateral relations, both sides have attempted to become more technologically self-sufficient as a risk prevention measure. Moving forward, multinational technology firms caught in the middle should prepare for the higher likelihood of politically motivated and retaliatory regulatory scrutiny both at home and abroad.

Washington Tightens Restrictions on Technology Flows

In 2006, China began appropriating technologies from multinational corporations on a wide scale through forced technology transfers, local-content requirements, and mandatory joint ventures. Many foreign companies willingly accepted these rules, sharing their technologies and forming joint ventures with local state-owned enterprises (SOEs), to access the lucrative Chinese market. These policies, which largely mirrored East Asia’s development model in the late 20th century, drew the ire of some Western firms and governments.

Soon after taking office in 2017, President Trump began applying tariffs on Chinese goods to reduce the bilateral trade deficit and address longstanding U.S. concerns over China’s forced technology transfers, intellectual property theft, and state subsidies. Under the Trump administration, the U.S. sought to restrict the flow of technology to China, redirect global supply chains, and invest in domestic emerging technologies. At this point, Washington had become alarmed by Beijing’s capacity to move up the value-added chain into high-tech sectors traditionally dominated by the United States. Concerned U.S. officials also pointed to China’s “military-civilian fusion,” a practice where private companies will bid for defense contracts and then transfer acquired foreign technology to the People’s Liberation Army (PLA). In March 2020, the U.S. Commerce Department implemented new rules requiring an export license for chips produced by U.S.-designed chip-making tools, which blocked the potential sale of Taiwan Semiconductor Manufacturing Co. (TSMC)’s chips to Huawei’s HiSilicon unit. Additional rules were introduced the following month, expanding the number of U.S.-made technologies that had to be reviewed and licensed by the Commerce Department before being shipped abroad.

The Biden administration has largely continued and expanded upon its predecessor’s technology policy towards China. In June 2021, the Senate passed a bill authorizing $190 billion towards strengthening U.S. technology research and approved a separate $54 billion for the production and research of semiconductors and telecommunications. In addition to boosting domestic innovation, the bill banned Chinese social media app TikTok from government devices and blocked purchases of drones manufactured and sold by companies linked to the Chinese government.

Beijing’s Response

In response to current U.S. policies, Beijing has raced to address vulnerabilities in its economy, shore up supply chains, and accelerate the development of core technologies. Among its core technologies, China’s leaders are especially concerned about microchips, an essential component in many electronics. Despite decades of government efforts to boost domestic production, China’s private sector imports most of its semiconductor chips. China’s reliance on foreign semiconductor providers is evident in that semiconductors currently represent the country’s largest import by value, ahead of even crude oil.

To fortify China’s economic resilience against potential high-tech supply chain disruptions, Xi Jinping introduced the Dual Circulation Theory at a Politburo meeting in May 2020. Devised largely by Vice Premier Liu He, one of China’s top economic officials, Dual Circulation Theory broadly “envisions a new balance away from global integration (the first circulation) and toward increased domestic reliance (the second circulation).” Although the theory promotes domestic consumption and innovation, policymakers in Beijing have also stressed that China’s economy isn’t pivoting away from global economic integration or reliance on external demand. Instead, Dual Circulation Theory should be conceptualized as a risk hedge by Beijing against the worst-case scenario of complete U.S.-China technological decoupling and, more generally, the uncertainties of global economic cycles.

In March 2021, the National People’s Congress (NPC) approved the 14th five-year plan, which outlined China’s economic and social policy priorities for 2021-2025. In a departure from previous programs, the 14th five-year plan elevated technological development to an issue of national security. The document announced that spending on research and development would increase by over seven percent annually for the next five years, an astonishing figure that surpasses the military budget’s 6.8 percent increase. The new plan also emphasized investment in critical, cutting-edge technologies, such as artificial intelligence, 5G, the Industrial Internet, quantum information, semiconductors, genetic research, biotechnology, and deep-space, deep-sea and polar exploration. In addition, the document also endorsed the Dual Circulation strategy.

Outlook for Multinational Technology Corporations

If bilateral relations continue to deteriorate, Beijing may retaliate against Washington by subjecting U.S. technology firms to similar treatments faced by Huawei in America. Apple, the closest American equivalent to Huawei, and Qualcomm, one of China’s leading suppliers of microchips, are two high-profile targets that some in the Chinese media and business community have already singled out for retaliation. Punishment from Beijing in the form of fines or bans would be devastating for these two companies. Apple made nearly $18 billion in China during the fourth quarter of 2017 alone, while Qualcomm has received half of its revenue from China in recent years.

Multinational technology corporations, especially those that supply technology to Chinese firms, also face domestic regulatory risks from Washington. The Commerce Department currently forbids domestic firms from exporting technology to Chinese companies on its entity list unless explicit permission is granted by the U.S. government. In recent months, hawkish lawmakers have lobbied Commerce Secretary Gina Raimondo to further tighten export controls and create new lists of emerging technologies designated for safeguarding, arguing that “these actions are critical to stemming the flow of technology into our foremost foreign adversary.”

The U.S. and China are currently on a trajectory towards partial or ‘soft’ technological decoupling. To hedge against the worst-case scenario of complete decoupling, both countries have implemented policies to promote domestic technological innovation and reduce their reliance on each other. Under the Trump and Biden administrations, the U.S. has tightened export controls, redirected supply chains, and boosted domestic innovation. China’s Dual Circulation Theory and 14th five-year plan shows that it has responded by focusing on domestic markets and funding for foreign-reliant key technologies, such as semiconductors. As this situation continues to unfold, multinational technology corporations should prepare for increased scrutiny from both sides by proactively maintaining close lines of communications with the U.S. Commerce Department, Chinese State Administration for Market Regulation (SAMR), and other relevant regulatory agencies.