How to Win Techno-Economic Competition with China

It is often said that the Chinese economy cannot innovate. This is a dangerous assumption. 

The most critical question for Western economies vis-à-vis China’s economic and technological challenge is whether and when China can become a real innovator. If China cannot meaningfully innovate, it poses less of a threat to U.S. and other Western advanced industries. However, suppose China developed new-to-the-world innovations ahead of or around the same time as Western nations. In that case, its potential to take market share from and even kill Western tech companies becomes much more likely.

The dominant narrative in Washington is that while China is a manufacturing powerhouse, the United States leads on innovation. Some argue that China cannot innovate because of weak intellectual property rights, excessive state interference in the economy, an educational culture that emphasizes rote learning, and low productivity. Others argue that Chinese economic management, coupled with its low birth rate, means that it is now a stagnant, if not declining, economy. A recent article in Foreign Affairs sums up the consensus view: “A Statist Economy Can’t Foster Creativity.”

This comforting view lets everyone off the hook. If it is true, there would be no need to significantly change the course of U.S. tech or trade policy or get tougher on Chinese “innovation mercantilist practices.” Most importantly, there would be no need for a mea culpa from those who called for deeper integration with China over the last two decades, believing that China will become like us and embrace the Ricardian comparative advantage.

But what if China can innovate? The outcome could be potentially catastrophic. If China can innovate and keep its cost advantage, the result will be a significant diminution of Western firms’ market share, including widespread and highly visible corporate bankruptcies. Imagine an America without Boeing, Intel, Micron, Google, Ford, GM, Merck, Lilly, Cisco, Caterpillar, Dupont, and Dow because Chinese firms put them out of business. We should not reject such a prospect out of hand. After all, America no longer has Lucent. GE and IBM are shells of their former selves, and there are few American solar panel producers left.

If China wins this war, the result will be that China will be much more self-sufficient in advanced industries. That would mean that U.S. trade sanctions, including export controls, would be less effective. China would have sanction power and possibly threaten to cut off supplies of needed goods if Western nations do not comply with its wishes. Given the growing linkage between commercial and defense technology, China’s military capabilities would increase even further. Its influence over other nations, especially in the developing world and regions like Europe, would increase even more.

The United States could see itself looking like the UK economy in several decades, with a dramatically hollowed-out technology production base. This direction would have severe consequences for U.S. military capabilities, compelling massive increases in military spending if the DOD has to buy most weapons systems from specialized rather than dual-use providers.

If China becomes the global innovation and production leader, geopolitics will change fundamentally. America would be an also-ran economy, and OECD nations would be subject to Beijing’s dictates.

So, how innovative is China? The Information Technology and Innovation Foundation recently completed a twenty-month study of Chinese company innovation. Overall, it found that, for the most part, Chinese firms and industries lag global leaders. However, they are catching up, in many cases, at an astoundingly rapid pace, and the scale of their efforts, backed by the Chinese Communist Party (CCP), is astounding. Of ten industries examined in depth, China is ahead or in the lead in commercial nuclear power and electric vehicles and batteries. It is near-pace in robotics, electronic displays, and artificial intelligence. It lags in chemicals, machine tools, biopharmaceuticals, and semiconductors. However, its pace of progress in eight of the ten industries is notably rapid, with semiconductors and quantum computing somewhat slower.

Therefore, policymakers need to move beyond the consensus that China cannot innovate. While an avowed Marxist-Leninist party rules, China is not the Soviet Union, and its firms have a considerable degree of freedom of action. The reality is that China is much more akin to the Asian Tigers (Hong Kong, Korea, Singapore, and Taiwan) twenty years ago. In this case, China is not a tiger; it is a fire-breathing dragon on government-provided steroids with a massive home market.

China’s main goal is advanced industry innovation. Chinese economic policy largely ignores consumer, worker, and even investor welfare. China sees economics, trade, and technology as a battlefield to achieve advanced industry dominance. As Xi Jinping states, “Technological innovation has become the main battleground of the global playing field, and competition for tech dominance will grow unprecedentedly fierce.”

Yes, China wastes money and might be in a business cycle slowdown. However, the Chinese innovation system is much stronger than most U.S. economists realize. Having a massive number of scientists and engineers enables Chinese companies to use low-cost talent to solve the problem of continuous improvement and innovation. China is already the leader in electric vehicle and drone production. This has given its firms the competitive advantage of being further up industry learning curves. Because China specializes so much in manufacturing, it enjoys rich and deep local production agglomerations, which in turn support innovation. China’s subsidies to advanced industries are notably generous, which gives them a cost advantage in global markets. Finally, China’s innovators face few barriers compared to their Western counterparts but are often encouraged and supported by the government to take these risks.

Chinese actions are guided by an evolving strategy that focuses governments and companies on one key direction. Unlike the United States, Chinese policymakers study science and technology policy and use those insights to craft policy. While the U.S. political system squabbles over questions of taxes, regulation, anti-trust, and free trade, China is unified in its goal of taking U.S. market share.

It is time for U.S. policymakers to recognize the nature of the challenge. Many deny China is a techno-economic challenger. Others see the problem through a single lens, such as dependency on rare earths. Still, others focus on limiting their military advancement. If the United States is to avoid becoming a second-rate technology economy, it is time to “break the glass” and craft an entirely new national innovation and economic policy system.

This change means rejecting not only neo-liberal free-market globalization on the right but green, redistributionist progressivism on the left. Instead, we need to copy some core elements of the Chinese innovation model and embrace “national power capitalism:” the idea that states compete in a zero-sum game for techno-economic power. Like defense policy, it is goal-oriented. America needs globally dominant biopharma, chip, aerospace, and AI industries. And therefore, the government needs to do what it must to ensure that outcome.

While such a strategy needs to be a whole-of-government one, Congress could start by tripling the research and experimentation tax credit, legislating a seven-year, 25 percent investment tax credit for capital equipment, creating industry-led research institutes, funding advanced industry R&D projects, and establishing a national industrial development bank.

For over one hundred years, America has never faced an adversary that could outproduce it. Now it does. Unless the United States embraces “national power capitalism,” it will soon be facing one that can out-innovate it. If the West loses the advanced industry race, Western power will wither, and China will rise. And that is a world no American should wish for their children.

Robert Atkinson is the founder and president of the Information Technology and Innovation Foundation and a leading technology advisor to Democratic and Republican administrations, including as a member of the U.S. Export-Import Bank’s Council on China Competition (Biden administration) in the G7 Global Partnership on Artificial Intelligence (Trump administration), and as co-chair of the White House Office of Science and Technology Policy’s China-U.S. Innovation Policy Experts Group (Obama). He has authored several books, including, most recently, Technology Fears and Scapegoats: 40 Myths About Privacy, AI, and Today’s Innovation Economy.

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