The Real Contest With China

As Beijing has become Washington’s overriding challenge of the twenty-first century, the Chinese leadership has made clear that it aims to displace the United States as the world’s technological and economic superpower. This form of competition has no historic precedent. China has a much larger and more technologically advanced economy than did the Soviet Union at its peak, and in contrast to its Soviet predecessor it is deeply integrated into the global economy. The rivalry between the two powers has significant diplomatic, military, and ideological aspects, but its most important dimensions are technological and economic.

China views dominance of advanced industries as a key to national security. It aims to increase its power by establishing global preeminence in a broad array of developing technologies. Many of these, such as biotechnology, artificial intelligence, and aerospace, are current U.S. strengths. As a result, it is likely that China will continue employing “innovation mercantilist” trade and economic policies—including outright intellectual property theft and forced technology transfer, along with massive subsidies of domestic industries—to achieve this goal. These tactics have already been successfully demonstrated in steel, shipbuilding, solar panels, high-speed rail, LCD displays, batteries, and advanced telecommunications.

Washington has yet to grapple with the full range of this threat. U.S. policies thus far have been focused on limiting intellectual property theft, countering unfair trade practices, constraining China’s semiconductor industry through export controls, and strengthening the U.S. military. The CHIPS and Science Act and the Inflation Reduction Act, passed by Congress last year, promise to support domestic semiconductor and clean technology production, but they fall short of offering a comprehensive approach to winning the technology race. Similarly, the Biden administration’s policy to “invest, align, and compete,” outlined by Secretary of State Antony Blinken in May 2022, does not support the funding, private-sector coordination, or competitive advantages at the scale that is required to retain the country’s supremacy in advanced technologies.

Instead, Washington must prepare for an all-out effort to win the competition with China. This means a multigenerational campaign that will involve large investments in science, technology development, and domestic manufacturing; an engaged private sector to build national capabilities; and sustained actions to make Chinese tactics unprofitable. To carry this out, the United States will need to identify the critical and emerging technologies of the coming century and develop coherent and detailed plans to nurture them.

Already, the Trump and Biden administrations have created similar lists of 19 critical and emerging technologies, including semiconductors, artificial intelligence, advanced computing, biotechnology, hypersonics, and space systems. But given that 17 of these 19 technologies are being led by the private sector and have both civilian and military uses, there is a pressing need to align the private sector with national leadership. Far too little has been done to coordinate government action and provide incentives to academia and the private sector to focus on these areas, and to create a defensive shield against Chinese technological predation aimed at U.S. firms and universities. Should Washington fail to develop and implement such a strategy and instead allow Beijing to succeed in its quest for technological dominance, the United States could become a shell of its former industrial self, dependent on China for key imports in many areas, including artificial intelligence, telecommunications, bioengineering, and quantum sciences.

THE NEXT INDUSTRIAL REVOLUTION

The United States has a long and successful history of large-scale industrial strategy. In 1791, Treasury Secretary Alexander Hamilton proposed the country’s first such policy to encourage growth in domestic manufacturing. As Hamilton understood, without such a base the nation would remain dependent on European imports. During World War II, U.S. policymakers recognized the importance of the coordinated development of future technologies. In June 1945, Vannevar Bush, who as chair of the National Defense Research Committee served as a science adviser to the U.S. government, proposed creating a system of federally funded research universities tightly linked with government agencies, industry, and the military. Its establishment led to significant advances and made the United States the science and engineering leader in the world. In the wake of the Soviet Union’s 1957 launch of the satellite Sputnik, the United States focused on developing the technologies required to win the space race, including rockets, satellites, semiconductors, numerically controlled machine tools, solar cells, early software prototypes, and many more advanced technologies.

Yet despite this impressive record, there is no current consensus on U.S. industrial policy or when and how it should be applied. That uncertainty is dangerous given what is now at stake in the global competition with China. Indeed, the country that has the ability to innovate faster and better, increase global market share in advanced industry production, and assimilate new technology across its economy will likely determine the outcome of great-power competition between China and the United States for decades to come. And to be effective, a new U.S. industrial strategy will require recognizing and supporting the large range of technologies now in play, as well as pushing for advancements and breakthroughs in new technologies.

For much of history, a single technology, such as making bronze or harnessing steam power, often defined an epoch. Today, by contrast, multiple technologies are being invented, adopted, and adapted at the same time, with the result that the country that can establish a dominant position in several areas at once stands to accrue the greatest advantage. Never before have there been so many new technologies used in combination, nor have the benefits of technological leadership for economic growth and military power been more dramatic.

Winning the technology race with China means, first and foremost, that the United States and its allies lead in the technologies—such as semiconductors, artificial intelligence, advanced materials, and biotechnology—that are likely to underpin entire industries. At the same time, the United States must work with its allies to defend the West’s economic dominance over China. At $17 trillion, China’s economy is the second largest in the world and approaching the United States’ $23 trillion. But the combined GDP of the United States and its allies and partners amounts to $50 trillion, compared with just $19 trillion for the combined GDPs of China, Russia, North Korea, and Iran. Other nations such as Brazil, Nigeria, Cambodia, Pakistan, and South Africa are not yet in China’s orbit, and strong advanced industry policies by the United States and its partners can help to keep them at least nonaligned. The United States will need to lead a coordinated push to support emerging advanced technologies and to limit China’s capabilities to maintain this edge. Finally, U.S. laws can prevent China from using the United States’ liberal, open society to strengthen its own technology base through stolen IP, cybertheft, industrial espionage, and mercantilist trading relationships. But such actions require both stronger laws and more active engagement and enforcement by allied nations’ intelligence and law enforcement organizations.

Although the U.S. government alone cannot bring an effective allied advanced industrial policy into being, it can do much to get it off the ground. Leadership in Washington will be needed to create an integrated strategy that synchronizes policy choices across government agencies and induces the private-sector and research institutions to align their work with national priorities. And this includes setting the conditions and goals for innovation, adoption, and production of specific new technologies over many decades.

A MARATHON, NOT A SPRINT

An effective long-term strategy for winning the technology race with China will require a multipronged approach. To start with, the government should communicate to the American people the importance of this competition, its long timeline, and the large-scale investments that will be required for a successful outcome. A cultural shift will be necessary to get Americans to engage in this race. Among the ways to accomplish this would be to call greater attention to American achievements in science and technology by recognizing and honoring those individuals and companies who are helping to win this race, just as the United States celebrated its astronauts during the space race with the Soviet Union.

Most important, however, is the need for a comprehensive policy framework for advanced industries. This will be essential to ensuring U.S. leadership in development, adoption, and scaling of emerging technologies. The United States can no longer expect a laissez-faire approach to be successful when competing with China’s top-down, well-articulated industrial strategy reinforced by consistent, large investments. Left on their own, the profit-making strategies of advanced technology companies are unlikely to align with U.S. national strategic interests and result in the desired range of dual-use technology development and domestic production. On the other hand, it would be counterproductive to adopt China’s approach of anointing companies as “national champions” or imposing direct government control. Instead, the United States should support advanced technology sectors, not specific companies, by using policies, such as tax incentives and direct investment in an array of technology programs (such as the Manufacturing USA program), that are aimed at ensuring U.S. global leadership in those areas. In other words, a company can become a market leader in an industry that the government has identified as critical not because the government designated it a winner but because it offers the best solution and it beat out the competition, while receiving some support as well as protection against Chinese techno-predation.

Such a policy framework could include several components. To ensure proper levels of investment, annual federal funding for science and engineering research should increase to two percent of GDP. That level would match the historic high point reached in the 1960s and would represent a dramatic increase from the current 0.66 percent of GDP. Notably, it would also amount to a ninefold increase over the spending authorized in the CHIPS and Science Act, or $460 billion per year.

For much of history, a single technology defined an epoch.

Such large-scale investment is necessary because the government is the only source of risk-seeking capital that can be sustained to pursue breakthrough technologies over the long term. Although some might expect the private sector to make these investments, company CEOs and venture capitalists are more focused on far shorter time horizons. Just as it has for the past seven decades, government support for research (both direct funding and tax investments) can stimulate the creation of new industries, which can result in companies such as Google and Microsoft that create global platforms and millions of high-paying jobs. But these efforts must go beyond research to include incentives for companies to scale innovations and manufacture domestically. Otherwise, other countries, including U.S. rivals, will gain from the development of new U.S. domestic technologies. That’s why, at minimum, Congress should restore first-year expensing for investments in machinery, equipment, and software, or even better, reestablish an investment tax credit.

An advanced industries policy must also spur training and education to ensure that the U.S. labor force can contribute to the country’s leadership in new technologies. Even with the planned incentives for U.S. semiconductor investment in the CHIPS and Science Act, there may not be enough trained workers in the United States to manufacture advanced chips. The country must train more scientists, researchers, engineers, and technicians to leverage increased investment in science and technology. In addition to expanding STEM education—particularly at the college and graduate level—the government needs to enact immigration reforms to encourage more global STEM talent to contribute to the U.S. economy.

At the same time, policies must be designed so that they mutually reinforce one another. Given the federal government’s size and complexity, it is far more difficult to achieve mutually reinforcing policies than it was during the Cold War. For example, whereas political and military tools are concentrated in the Departments of Defense and State, many economic tools are diffused across the federal government and state governments, as well as the private sector. Adding complexity, different congressional committees control the spending priorities of these various governmental departments. The broad nature of the technology race with China requires that policies are aligned across departments and all levels of government.

The Defense Department’s spending power also needs to be used to build an industrial base for markets in areas such as autonomous systems and space infrastructure. During the Cold War, the Defense Department was an early adopter of new technologies like semiconductors, a practice that allowed new industries to achieve scale, rapid declines in cost, and subsequent penetration of commercial markets. Today, there is an opportunity for the Defense Department to recover that tradition, creating a strong industrial base relative to China through early investment and the adoption of technologies in which the government remains the principal customer. These could range from satellite technology and space-based communications to unmanned underwater vessels and clean energy technologies such as advanced batteries.

ADVANCING, FAST AND SLOW

Alongside an overall advanced industries policy, U.S. strategy in the technology race should rest on several additional pillars. One will be to create more balanced incentives in U.S. capital markets for long-term investments in innovation and domestic production. These incentives will encourage companies to take on more risk over longer horizons and invest more domestically, steps that will be crucial to develop national capabilities in particular areas. Since the later decades of the twentieth century, two trends have reinforced short-termism within corporations. Globalization has allowed companies to achieve higher profitability (and lower prices) by producing offshore, including manufacturing to leverage lower labor rates as well as more generous tax rates and subsidies offered by foreign governments. And the shareholder revolution has caused short-term shareholder interests to be prioritized far above the interests of other stakeholders, including the nation as a whole. With the increase in institutional ownership of companies, current-period financial returns have become paramount; institutional investors now hold stocks for an average of less than one year, compared with eight years in the 1950s. Capital market actors, such as activist investors and private equity firms, also operate on much shorter investment time horizons and encourage CEOs to buy back stock with cash flow, a strategy that optimizes quarterly earnings per share (EPS) rather than investments in long-term competitiveness. As a result, corporate R & D labs—such as AT&T’s Bell Labs—have been eliminated, while companies have shed manufacturing, moved away from hardware products, and increasingly relied on overseas suppliers. Over time, this has resulted in a significant loss of design and production capability.

Combined with short-term incentives, globalization has led to dangerous dependence on supply chains from China, which uses economic power coercively. After the onset of the COVID-19 pandemic, for example, U.S. policymakers discovered that the country depended on China for 97 percent of its antibiotics, 80 percent of its pharmaceutical ingredients, and 85 percent of its rare-earth minerals processing, which is essential for a wide array of products, including semiconductors, magnets, and electronics. Until the United States is able to change capital market incentives to reward longer-term, domestic investment, there is an even stronger need for the government to invest in R & D and production to ensure national leadership in crucial advanced industries. Congress should at least double the R & D tax credit for companies, which now lags far behind China’s credit. It should reduce capital gains rates for long-term investments to encourage investment in critical and emerging technologies. And the Security and Exchange Commission, the Financial Accounting Standards Board, and the business community should also develop performance metrics and accounting standards that measure longer-term capability development and R & D productivity and that support measures that discourage corporate short-termism.

Globalization has led to dangerous dependence on supply chains from China.

A second pillar will be to slow down China’s exploitation of U.S. and allied technology to further its own advances. Under the Biden administration, in 2022 the Commerce Department introduced export controls on advanced semiconductors and equipment. Congress should also modify the United States International Trade Commission’s Section 337 statute to make it easier to exclude Chinese goods and services that benefit from unfair trade practices. Section 337 of the 1930 Tariff Act already gives government the power to do this, but the law needs updating, including eliminating the need to show economic harm before action can be taken. Among other steps Washington could take are preventing Chinese firms from listing on U.S. stock markets; imposing selective tariffs on designated categories of goods such as rare-earth minerals from China; limiting Chinese access to American research, including by increasing investigations, prosecutions, and penalties for intellectual property theft; ending most scientific and technology collaboration with China; relaxing the enforcement of antitrust rules when U.S. firms agree to avoid sharing technology with China; and banning the U.S. government from procuring Chinese goods and services.

As a third pillar, the United States should collaborate more closely with allies and partners to regulate investment and trade with China. Such steps should include more effective screening of Chinese outbound investment, shared export controls and limits on technology transfer, enhanced cooperation on commercial counterintelligence, and jointly enacted import limitations on Chinese goods that benefit from unfair practices. Washington should also lower trade barriers between its allies and partners. To increase the ability of Asian allies and partners to respond to China, the United States should formalize a pan-Pacific treaty alliance, building on the AUKUS security pact between Australia, the United Kingdom, and the United States, by adding additional countries such as Canada and Japan in a multipurpose arrangement that includes mutual defense, a stronger allied defense industrial base, and an enhanced trading bloc.

Policymakers have long recognized that the United States’ asymmetric advantage is its allies and partners. The scale of this network relative to China is the only practical way to influence China’s behavior economically, diplomatically, and militarily. Jointly, the U.S. and its partners can rebuild supply chains to eliminate Chinese-controlled chokepoints and develop alternatives to China for low-cost manufacturing, including by working more closely with India to help establish it as a manufacturing hub, especially in electronics. Finally, Washington and partner governments should collaborate to offer more generous project financing for developing countries that can serve as an alternative to the punitive debt loads that China has imposed through the Belt and Road Initiative. In the process, the United States will attract an even larger set of partners and come closer to making the late Japanese Prime Minister Shinzo Abe’s vision of a “free and open Indo-Pacific” a reality.

THE DECISIVE DECADE

China’s goal in the technology race is clear: in Chinese leader Xi Jinping’s own words, it is to “catch up and surpass” the United States. Washington should not underestimate the implications of that statement. If Xi achieves his aim, for the first time in more than 150 years the United States would not be the world’s economic and technology leader. If China succeeds in gaining technological dominance, it will be able to set global standards that favor authoritarian values and capture trillions of dollars in economic output. Furthermore, the United States and its allies will become dependent on China for a host of new technologies—such as quantum computing and cryptography, advanced computing, advanced telecommunications, and bioengineering—that are critical for both economic development and national security. China’s coercive power will grow, and the U.S. economy will suffer from a reduction in high-paying jobs linked to these new technologies. U.S. military leadership would also decline because of both technological disadvantages and lower affordability in a shrinking economy. Consequently, the United States would be forced to make large tradeoffs such as whether to maintain freedom of navigation operations in the Western Pacific, uphold treaty obligations, or defend Taiwan. Inevitably, the U.S. military would be increasingly forced to reduce its activities to the core task of defending the homeland.

If it maintains its current trajectory, U.S. industrial policy will amount to a series of slow, piecemeal, and parsimonious moves that lack a comprehensive vision. But the United States cannot afford to wait for China to gain even more in the race to improve its economic or military position. As the Biden administration’s 2022 National Security Strategy cautions, “The world is now at an inflection point. This decade will be decisive, in setting the terms of our competition with the [People's Republic of China].” The newly created House Select Committee on the Strategic Competition Between the United States and the Chinese Communist Party is a bipartisan body working on how to respond to this challenge. This body should help spur Congress as a whole, and the Biden administration, to enact a more comprehensive blueprint for an advanced industries strategy. Only by doing so will the United States be able to win the race with China and ensure economic prosperity and national security in the decades to come.