Written by: Regina Chi, CFA® | AGF
When Joe Biden won the U.S. presidency last year, expectations ran high for a kinder, gentler American presence on the world stage. And certainly, over the course of the past six months, Biden’s commitment to consensus-building stands in stark contrast to Donald Trump’s antipathy towards multilateralism and enthusiasm for bilateral trade wars, even at the cost of damaging relations with allies. Yet there is one issue upon which the President and his divisive predecessor are perhaps more alike than different: to varying degrees, they largely view China and its surging economic and global ambitions as something of an existential peril to America’s prosperity, security and pre-eminent position in the world.
The difference-maker is how that view is expressed in policy. In Washington these days, anti-China sentiment is still running high. The new administration has not shied away from tough talk, as when it recently warned U.S. businesses about risks to their operations in Hong Kong after China imposed a new national security law there last year. Importantly, Trump’s punitive tariff regime remains in place, enjoying bipartisan support as a bargaining chip to pressure China into structural change. But Biden is not putting all his eggs in the tariff basket. His administration has already begun making good on its promise to leverage global alliances to force China to mend its ways. Earlier this week, for example, the U.S. joined with its allies in NATO, the European Union, Australia, New Zealand and Japan to accuse China of mounting a global cyber attack on Microsoft Exchange email servers earlier this year. And in June, the G7 agreed to an initiative ambitiously (if not altogether grammatically) called “Build Back Better World” – a clear challenge to the Belt and Road infrastructure development strategy China introduced in 2013. Meanwhile, the U.S. is pledging billions of dollars to the development of its domestic semiconductor industry, which is something of a shot across the bow to President Xi Jinping’s Made in China 2025 initiative.
It is important to note that this battle of economic initiatives is being waged in the context of a secular trend towards deglobalization, which the Trump administration accelerated. The trend has been further exacerbated by the pandemic, which led to a global supply shortage that has forced countries around the world to seek self-sufficiency in key technologies. Yet the U.S. and its allies now find themselves in the unfamiliar and perhaps uncomfortable position of lagging their clearest competitor, China.
Under the Build Back Better World initiative (or B3W), the G7 rich democracies have pledged “hundreds of billions of dollars” to help developing countries address an estimated US$40-trillion infrastructure gap, with a focus on mobilizing private sector capital and development finance. Clearly, the G7 sees such a program as a preferred alternative to the so-called “debt trap diplomacy” embodied by China’s Belt and Road strategy, which is now almost eight years into its mandate. Indeed, many developing countries remain deeply in debt to China: as of the end of 2019, China accounted for 63% of debt (US$112 billion) owed by 68 low-income countries to G20 members, according to the World Bank. Yet the impact of Belt and Road goes far beyond that. From its launch by Xi in 2013 to the end of 2020, the initiative has supported more than 2,100 projects with a total value of at least US$2.5 trillion, according to market data provider Refinitiv. Compared to the scale of China’s investment, the B3W pledge seems both small and nebulous, and the program faces key hurdles. The most significant is perhaps the degree of coordination – and concurrent red tape – needed to raise funds and select projects among seven countries. China, with its top-down decision-making and unified approach, faces no such challenges.
Another way to gauge the U.S. response is in light of Made in China 2025 (or MIC 2025), a state-led industrial policy China introduced more than five years ago. MIC 2025’s goal – to create globally competitive companies – is supported along three lines of action: fostering value-added manufacturing, “leapfrogging” over legacy systems into emerging technologies, and making production less reliant on foreign firms. In response, the U.S. has sought to constrain China’s ability to move up the technological value chain. Under the Trump administration in 2018, it imposed tariffs on MIC 2025 products and other imports, while cracking down on technology transfer to China. This had at least one perhaps unforeseen consequence: China, which is the world’s largest consumer and importer of semiconductors, began stockpiling them. Along with the pandemic and the demands of more chip-equipped products, that hording contributed to today’s global shortage in semiconductors, which in turn has forced the U.S. to target semiconductor self-sufficiency as a policy goal. In early June, the Senate passed the U.S. Innovation and Competition Act, earmarking US$52 billion for research, design and manufacturing in the domestic semiconductor industry, which today accounts for only 12% of global chip-making capacity, down from 37% 30 years ago.
Yet the U.S. measures to restrict China’s access to chips and chipmaking equipment have only encouraged China to develop alternatives to dependency on U.S. (and other) companies. Semiconductor self-sufficiency is one of the goals of MIC 2025, too, and China has committed a total of US$150 billion over 10 years to achieve it – about three times the U.S. planned investment. According to the Semiconductor Industry Association, the United States would need to make an upfront investment of US$350 billion to US$420 billion to achieve self-sufficiency, while China would require a much more modest US$175 billion to US$250 billion upfront, with as little as US$10 billion in annual operating costs. It will no doubt take years for China to fully develop its domestic semiconductor industry, but if – or when – it succeeds, it could lead to a significant reduction in revenue for leading U.S. semiconductor companies. More than that, it would also deal a major blow to U.S. efforts to restrain China’s technological advancement. And let us not forget that China still claims Taiwan – home to the world’s largest semiconductor foundry – as its territory.
In the face of China’s increasingly muscular posture on the global economic stage, the United States and its allies clearly have reason to be concerned. Yet effectively addressing those concerns will take more than grand mission statements, pledges of co-operation and investments that fail to match – or exceed – those being made by their economic rival. As it stands, China’s top-down innovation policies and long-term vision will almost certainly drive its economy to surpass the U.S. and become the largest in the world by 2030 – if not even earlier.
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The commentaries contained herein are provided as a general source of information based on information available as of July 13, 2021 and should not be considered as investment advice or an offer or solicitations to buy and/or sell securities. Every effort has been made to ensure accuracy in these commentaries at the time of publication, however, accuracy cannot be guaranteed. Market conditions may change investment decisions arising from the use or reliance on the information contained herein. Investors are expected to obtain professional investment advice.
The views expressed in this blog are those of the author and do not necessarily represent the opinions of AGF, its subsidiaries or any of its affiliated companies, funds or investment strategies.
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