American Narcissism and China

Dear PJ Media Readers:

I have a bone to pick with you.

I notice that my July 16 post, "President Trump is Magnificently Right -- This Time About Russia," drew over 650 comments. My July 19 post, "A Letter to Larry Kudlow: You Need a Different China Strategy," drew 9 comments. It ought to be the other way around. Russia has an economy the size of Italy; Putin has managed his slender resources cleverly and made himself something of a pain in the neck, but Russia's diminished position in the world makes any problem with Russia soluble in principle. China has four times our population and an economy that is already larger than ours on a purchasing power parity basis, and it represents a formidable challenge to American preeminence.

The U.S. elites didn't anticipate the rise of China because they couldn't believe that a country so different from ours with a repugnant political system could succeed. Gordon Chang first published his book The Coming Collapse of China in 2001 -- since when, China's economy has quintupled in size. China succeeded, and kept succeeding. Yet we continue to hear (for example from Steve Bannon on CNBC yesterday) that China's currency and economy will collapse if we give them a swift kick. Steve is a friend, but in this case he's catastrophically wrong.

President Trump clearly believes something of the same sort. China's "currency is dropping like a rock!," he declared this morning on CNBC. Not quite: China manages its currency against a basket of world currencies, and the exchange rate against the euro is exactly where it was in April. China, however, has responded to the U.S. tariff threat by easing monetary policy, to stimulate domestic demand in case foreign demand falls. Easier monetary policy means a weaker currency. There are no capital outflows out of China; this is a deliberate preemptive response by the Chinese authorities.

This is the same kind of narcissism that led us to waste $7 trillion in sand castles in the Middle East. We believed that our political system was a universal solution to all human problems, and if we imposed it on other people, they would act like us. In the case of China, we believe that a radically different culture and political system is ready to collapse.

That is a dangerous delusion.

When Ronald Reagan took office in 1981, Russia and its satellites had a population of 375 million, vs. 225 million for the United States. Although Russia's economy was rotten--as Reagan and his team insisted against the prevailing consensus--its military power threatened to make Western Europe a Soviet economic colony. Reagan beat Russia in the Cold War and broke up the Soviet empire. Russia now has 146 million people, less than half of America's 300 million. Game over. The problem at present is managing a rancorous spoiler rather than a competing superpower.

China is entirely different. Its per capita GDP has risen 45 times (that's 4,500%) since Deng Xiaoping began China's economic reforms in 1979. Although its growth rate has cooled from double digits to between 6% and 7% a year, China's economy still doubles roughly every ten years. China now graduates four times as many STEM bachelor's degrees and twice as many STEM doctorates as the U.S. During the past two years, moreover, Chinese applications to U.S. graduate schools (where foreign students comprise about 4/5 of all students) have dropped by about half, because Chinese universities are roughly on par with America's in math, physics and computer science. One out of 3 Chinese university students majors in engineering. The number in the U.S. is one out of 14 (and that counts Chinese foreign students at U.S. universities).

What worries me is NOT that China plays dirty. Yes, China steals all the technology it can. But what worries me, and should worry you, is that China now is inventing a lot of its own technology. China's second-largest telecom company, ZTE, was about to shut down when the Trump administration banned the sale of the Qualcomm chips that power its handsets (ZTE paid a huge fine and agreed to U.S. government supervision to settle U.S. charges that it had flouted the embargo of Iran and North Korea).

What the media didn't report is that the Chinese government offered China's telecom equipment makers an unlimited R&D budget to eliminate dependence on U.S. chips. Huawei already powers some of its high-end phones with the Kirin chipset, a Chinese design using Taiwanese chips. In a pinch China could eliminate its dependence on the U.S. in eighteen months. That's not what we want to happen.

Bloomberg reports today that Peter Thiel is starting a fund to invest in Chinese innovation.  The news service observes: "Thiel’s new interest in Chinese technology companies would represent an about face from a few years ago. In his book Zero to One, Thiel trashed the notion of innovation in China. 'The easiest way for China to grow is to relentlessly copy what has already worked in the West. And that’s exactly what it’s doing,' he wrote. Thiel is now seeing startups shift from duplicating Western companies to innovating on their own and he wants to own an early share of that, one of the people familiar said."

Be afraid. Be very afraid. Other venture capitalists have been pouring money into Chinese high-tech starts for years.

As I showed in my open letter to Larry Kudlow, China's exports to Asia are three times larger than its exports to the U.S., and have grown three times as much as exports to the U.S. during the past 10 years. China has a $1 trillion program to assert economic dominance over Asia called "One Belt, One Road," and its Asian business is booming.

China imports components from Taiwan, Japan and South Korea and assembles them into finished products for sale to the U.S. It has a labor shortage and has been reducing employment in this sort of assembly manufacturing for the past ten years, relocating plants to Asian countries where labor is cheaper. A high tariff or even a ban on Chinese imports into the U.S. certainly would cause dislocation in China, but it would only accelerate what the Chinese have been trying to do for the past ten years.

Tariffs won't fix the problem. Impeding the flow of U.S. technology to China is the right thing to do, but that's a time-buying measure.

Our problem is that we are still living off the basic innovations of the 1960s and 1970s -- fast and inexpensive integrated circuits, LEDs, semiconductor lasers, solid state sensors, flash memory, liquid crystal displays and solar panels. The big money made in U.S. tech has been in software (think of Google, Facebook, Netflix) or design (Apple), not in manufacturing. There's virtually no venture capital going into actual, physical production of goods. We are the geeks in a new Roman Empire. We're addicted to entertainment driven by powerful electronics provided by the Asians--China, Japan, South Korea and Taiwan. Our biggest import from China is smartphones. The second biggest is computers. Making Americans pay more for selfies and Grand Theft Auto won't solve our problem.

We won the Cold War because the innovations of the 1960s and 1970s became the weapons of the 1980s. That was the result of Eisenhower's response to Sputnik, including a crash program for tech education, the Kennedy moonshot, the tech investments at Harold Brown's Defense Department, and Ronald Reagan's Strategic Defense Initiative.

America remade the world. Wages and salaries rose in real terms by 20% between 1981 and 1998 as a result. But we have been coasting on these innovations, making incremental but not fundamental changes, and real wages haven't budged since 1998.

America has done it before, and we can do it again. We need a grand national strategy for technological supremacy. I've spelled it out in any number of publications, including this essay for the Journal of American Affairs. China has a grand strategy for technological supremacy. We're better at it this kind of thing than China. But China is the diligent tortoise and we're the sleeping hare.