The Contest of the Century (41 page)

If China is having second thoughts about its close economic links with the U.S., then America is returning the compliment. The business community was once the most important supporter in the U.S. of strong ties with China, but over the last five years many companies have
become much more wary. “I am not sure that in the end they want any of us to win, or any of us to be successful,” Jeffrey Immelt, chief executive of General Electric, America’s biggest manufacturing company, complained in 2010 at a dinner in Rome.

The hacking revelations have only added to the impression that China is stacking the cards against Western multinationals, especially when it comes to actually doing business in China. The country may be the second-largest economy in the world and the biggest market for many industries, but many foreign businesses have had a bruising experience over the last few years, which makes them think that the opportunities available to them in China are gradually being squeezed. They point to a complex web of Chinese industrial policies that affect their ability to compete, including generous financial subsidies for important Chinese state-owned companies, new industrial standards that favor Chinese competitors, and predatory regulations that seek to get foreign companies to hand over important technologies in return for market access. Chinese regulators believe that, because the Chinese market is so large, they can drive a very hard bargain with foreign companies who want to do business in the country. The fear that the Chinese military and security services are helping foreign companies’ competitors steal their trade secrets has only added to the sense of disillusionment. “Many U.S. companies believe they are not competing with similar entities,” says John Veroneau, a former deputy U.S. trade representative. “They are used to competing with market players, but not against governments. Not only are they up against subsidies, but they are also up against China’s intelligence services.”

The lightning rod for a lot of these suspicions has been a Chinese company called Huawei, one of the world’s biggest makers of telecom equipment. Huawei has become a sort of Rorschach test for views on China: its supporters believe it is a shining example of Chinese innovation, whereas its critics argue it is a secretive, military-friendly corporation that could be a Trojan Horse for a future cyberwar. Along with Ericsson of Sweden and Cisco of the U.S., Huawei is one of the main companies making the essential infrastructure that goes into modern phone systems, including mobile networks. (Nortel used to be a leader in this market.) That is where the cyberwar fears come in. Security
experts say that such expertise means that Huawei could leave devices in American phone systems that might be used to listen into telephone conversations, or it could hide corrupted computer code that would allow China to disable a phone network during a conflict.

Huawei has become such a sensitive political issue in part because of its background. The company was founded by Ren Zhengfei in 1987, when he started selling telephone-exchange equipment imported from Hong Kong. For much of the 1970s, however, Ren had served in the People’s Liberation Army, latterly in its information-technology research unit. As a result of that PLA connection, Huawei has never been able to shake the impression that it cooperates with the military and China’s security services. The suspicion is enhanced by the opaque management structure of the company, which revolves around the mercurial Ren. He has now become chairman of the company, but his idea of stepping back from the business has been to appoint three people to act as chief executive on a rotating basis, a recipe for backseat control.

Every time it has tried to expand in the U.S., Huawei has found itself frustrated. In 2008, its $2.2-billion attempt to buy an American company called 3Com, which makes Internet routers and networking equipment, was blocked on national security grounds. It had the same experience in 2011, when it tried to buy some assets from 3Leaf, another American technology company. The Intelligence Committee of the U.S. House of Representatives effectively fingered Huawei as a threat to national security in 2012 in a report which recommended not only that it be blocked from all U.S. government business, but that American telecom companies should not buy any equipment made by Huawei. “We simply cannot trust such vital systems to companies with known ties to the Chinese state, a country that is the largest perpetrator of cyberespionage against the U.S.,” says Mike Rogers, chairman of the House Intelligence Committee. “You would have to be mad to let that company into our networks.”

Not every Western country is quite as hostile to Huawei as is the U.S. In order to do business in the U.K., Huawei, which has invested $2 billion in the country, has established a separate testing center which works closely with British government agencies to ensure that the equipment and software sold by Huawei are reliable. Governments can
never know for sure that the equipment they are buying is not compromised, but this British unit is as good a way as any of getting reassurance. There are also some members of the U.S. security establishment who are not opposed to Huawei. One former senior official at the U.S. National Security Agency says that if the Chinese wanted to set traps in U.S. communication networks or in its infrastructure, the last route they would use is equipment made by high-profile Chinese companies, because of the inevitable scrutiny: instead, they would look for ways to plant hidden code in the products of other suppliers. Yet the high-level political opposition to Huawei is so strong in Washington that it is hard to imagine a compromise emerging. One former senior Pentagon official says, “It is simply too dangerous to let a Chinese company near our phone networks, the potential problems are so great.”

Perhaps telecom equipment in the twenty-first century is destined to be like the defense industry, a tightly controlled domain that is open only to companies from that nation. But the U.S. also runs a great risk in rejecting companies like Huawei so aggressively. There is bound to be retaliation: China is as afraid of Cisco as the U.S. is of Huawei. Banning major Chinese companies can also easily become a slippery slope. The initial focus has been on telecom equipment, but the U.S. Congress has started introducing restrictions in some areas for all Chinese information-technology products, from computers to smartphones. This sort of action raises the prospect that a core industry in the modern economy will end up being divided into two distinct camps, a group of companies that America politically approves of, and another group of companies that Washington does not trust, mostly from China. Such techno-nationalism can easily become the gateway to a broader outbreak of protectionism. The financial crisis and the great recession that followed did not lead to the flood of protectionist measures that many expected, but the panic over cybertheft of trade secrets might just do so.

——

Of all the China challenges facing Washington in the coming years, in many ways this is perhaps the most complex: how to prevent the political and protectionist pressures that are building up in both countries from splintering the rules and understandings at the heart of the global economy.

The postwar, liberal economic order that America promoted has survived so long because it has been attractive to enough countries that a decisive challenge never emerged. China has been one of the biggest beneficiaries of the existing system, but the clash between its model of state capitalism and America’s free-market creed could easily tear it apart. While some in China want to tilt the system more to China’s advantage, many in America think Beijing is defying the rules.

Over time, China’s economic model will gradually change. Former premier Wen Jiabao described the Chinese economy as “unbalanced, uncoordinated, and unsustainable”—and he liked the phrase so much, he repeated it on several occasions. Among senior Chinese officials, there is a broad consensus on the direction of change toward an economy that depends less on heavy industry and investment and relies more on services and individual consumption. These reforms will inevitably reduce the power and importance in the economy of state-owned companies and banks, softening some of the edges of the system that have aggravated foreign businesses. But such changes will be fiercely resisted and will take a long time to implement, which means the tensions will remain. In the meantime, Washington needs to find new ways to build support for ideas for an open global economy and to steer China away from a major rupture with the system.

One way to do that is to try and establish more areas of common ground with China over the major issues of international economic governance. The last few years have served to demonstrate the big difference in their approaches to financing the developing world, as the China Development Bank has started to challenge the enormous political and economic influence of the World Bank. Yet, over time, this could be an area where the two sides end up with a more similar viewpoint.

For the Washington-based institutions, the obvious first step would be to abandon the charade of awarding the top jobs only to Westerners—the Americans currently get the leadership of the World Bank, while the Europeans have a hold on the post of managing director of the IMF. In order to remain relevant, the Bank and the Fund need to find ways to engage not just China but the other large developing countries, many of whom are deeply ambivalent about them. Opening up the leadership-selection process would be one obvious step. Competition from China will also likely lead to a gradual shift in philosophy. The World Bank
and IMF have already been forced over the last decade into a thorough re-examination of some of the more rigid orthodoxies from the 1990s that were so heavily criticized after the Asia crisis. Whereas once they pushed for rapid budget cuts in the event of economic problems, the World Bank has become more sensitive to the importance of maintaining health care and other public goods. But there is still something to be learned from the Chinese emphasis on providing finance for the kinds of projects, including infrastructure, that the borrowing countries actually want to do.

China, too, is likely to find that its approach shifts. In a short space of time, China has issued a large volume of loans, mostly to countries with which it has quite shallow relations and only modest understanding. This lending boom has also taken place during one of the biggest bull markets in commodities the world has ever seen. Many of the Chinese loans are backed by oil, copper, or some other natural resource, which gives the Chinese banks the impression of complete security. But if commodity prices ever start to fall sharply and these economies suffer serious financial difficulties, there is a good chance that China will begin to suffer some defaults on its loans. Chinese bankers will learn the harsh lesson about all those difficult conditions that the World Bank and IMF attach to their loans: these conditions may force governments to adopt the sorts of free-market policies that Washington likes, but they are also partly designed to ensure the banks actually get repaid. If China is hit with a wave of defaults, its banks are likely to start paying a lot more attention to the way their clients are actually governed. The most likely candidate for a showdown could well be Venezuela, a country with incredibly opaque finances and looming economic problems, which is by far China Development Bank’s biggest client. Even before the death of Hugo Chávez, CDB had realized it needed to be more hands-on in its approach to Caracas. The former CDB boss Chen Yuan at one stage presented Chávez with
a six-hundred-page book of recommendations for how to run its economy. With Chávez no longer around, there is considerable uncertainty about the country’s political future. It is possible that a revived opposition in Venezuela could seek to make the loans now owed to China into a political issue, just as the World Bank and IMF have often become political targets in the past in Latin America.

Even the recent explosion in dam building could become a source of compromise. After initially despairing at the way Chinese money had completely neutered the campaign against dams, Peter Bosshard at International Rivers is now trying to find a middle ground between the Chinese and Western approaches. Before the Chinese became so influential, his usual tactic would have been to put pressure on the financial backers of a dam-building project, but neither China Eximbank nor China Development Bank needs to go to international capital markets to get their funds, which meant there were no investors or partner banks he could lean on. With his leverage gone, he decided to engage. Bosshard started to visit China and talk with local NGOs, who he thought could become useful allies. He also tried to meet some of the companies involved in the industry. On his second trip to China, in 2006, he got a call out of the blue from China Eximbank, which was then bankrolling much of China’s overseas dam building, asking him to come and meet its chairman, Li Ruogu. It was almost certainly the first-ever meeting between a Western, campaigning NGO and the head of a large state-owned bank.

Li Ruogu, a former deputy governor of the central bank and one of China’s leading financial officials, has a reputation as something of a bully. But on the day when Bosshard was due to meet him, Li was suffering from a bad cold and had partly lost his voice, so he opened the meeting by asking Bosshard to outline his concerns. Then Li started to talk. Bosshard assumed he was about to hear the sort of evasions he used to get from Western banks in the 1980s and 1990s, to the effect that environmental and human-rights concerns were not really the responsibility of a bank. Instead, he received a lecture on how China had developed its economy using precisely these types of projects. “Li said that the bank had some responsibility for the social and environmental aspects of the projects it took on, but he also told me that China had needed to first grow out of poverty before it could start to worry about the environment,” Bosshard says. “He said that China would not stand in the way of other developing countries that were trying to do the same thing. China was not just lending them money—it was exporting its development experience.” At the end of the meeting, Li proposed a sort of informal collaboration. He said he would send a team to investigate problems at
the Merowe Dam in Sudan and other cases brought up by Bosshard. But he asked that Bosshard talk to him before making any more public criticisms. Although he was aware that he risked being muzzled, Bosshard agreed. “If we believe that people are listening to us, that is not really a problem,” he says, in justification of his acceptance of the deal.