Balancing economic opportunity and strategic risk in China

Feb. 1, 2005
China is increasingly the focus of U.S. trade and investment. It is also increasingly achieving the goal that its leaders have set for it — to become the manufacturing platform for the world.

China is increasingly the focus of U.S. trade and investment. It is also increasingly achieving the goal that its leaders have set for it — to become the manufacturing platform for the world.

In December, IBM announced that it was selling its PC business to Lenovo, China's largest personal computer maker. During 2004, Boeing announced that it would be manufacturing a large percentage of its new 787 "Dreamliner" in China, including sophisticated carbon-fiber components. Corning Glass, which already has seven plants in China, announced another $1 billion investment to make the components for flatpanel displays. General Motors announced its intention to invest $3 billion more in China over the next few years. And the list goes on.

With its low wages and increasingly skilled workforce, its tremendous 1.3 billion-person internal market, and its undervalued currency, China would seem to be a highly attractive investment opportunity. But there are many uncertainties as well.

First, there is the question of how long the Chinese currency, the yuan, will remain undervalued. When its inevitable revaluation comes, or the decision is made to float it against a basket of currencies, many of the current economic assumptions could change dramatically.

Another area of uncertainty is the impact of export-control restraints on China trade. As the technology transfer involved in prospective investment decisions becomes more sophisticated, it is not clear that the U.S. government will be eager to see such technology transferred to China. Consider just two examples. The PC has become a commodity. But in the age of ever more powerful microprocessors, U.S. export-control officials will ask what exactly is the upper limit of technology that IBM will be able to teach the Chinese to manufacture, and what is that level's relevance for even higher levels?

Both the international Wassenaar Arrangement and U.S. export-control regulations set a lower level for computer-manufacturing technical data than for the finished product. The U.S. government is bound to ask what would be the spillover to the military sphere in China from IBM's assistance?

China, with the potential to consume as much as 25% of Boeing's future sales, and with at least four sophisticated and integrated aircraft factories available, staffed by workers earning one-tenth of their counterparts in the U. S. or Europe, would seem to be an ideal place to manufacture major components and sub-sections of the new 787. Nevertheless, it is hard to imagine the U.S. Defense Department not raising major questions about the transfer of the carbon-fiber technology that is projected to constitute more that 50% of the weight of the new jet.

I wonder if Boeing (and IBM) have factored the technology-transfer debate into their business plans for China. Unfortunately for U.S. exporters and investors, the European Union countries see China much more as an attractive market and a low-cost alternative to their rigid and costly labor structure than as a strategic threat. The U.S. invariably views China from a strategic military as well as commercial point of view.

In addition to "Do the economic rewards justify the economic risks?" the government is likely to ask, "Do the economic benefits justify the strategic risks?"

My answer is yes. Yet, I am not sure the Bush Administration will come to the same conclusion in a reasonable timeframe. In the meantime, I fear the Europeans will take advantage of our indecision to gain still more market share.

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