Nota Bene Podcast Ep. 158
The U.S.-China Trade War: How It Started and Where It’s Headed with Reid Whitten
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Listen to the original podcast released February 1, 2023 here:
https://www.sheppard.com/notabene-447
In this episode, Reid Whitten, Managing Partner of Sheppard Mullin's London office and a frequent Nota Bene guest, joins host Scott Maberry to discuss the U.S. China-trade war, including its origins, where the conflict could be headed in the future, and the potential implications for trading partners, multinationals, and individuals.
Guests:
About Reid Whitten
As Managing Partner of Sheppard Mullin’s London office and leader of the firm’s CFIUS Team, Reid Whitten’s practice centers on international trade regulations and investigations. He works with clients around the world to plan, prepare, and succeed in global transactions. He focuses on his clients’ cross-border investments, particularly in the technology and aerospace sectors, helping clients navigate the international trade regulations that could disrupt their deals.
Reid is a member of Chatham House, the UK's Royal Institute of International Affair. In addition to lecturing at the New College of the Humanities in London, at the Université Catholique de Lille in France, and Wake Forest University in the U.S, he also conducts seminars on regulatory updates for industry groups in the U.S., France, Belgium, Spain and the UK.
A thought leader on cross-border business regulation, Reid is frequently called upon to provide commentary and analysis for television news channels, international newspapers, and trade publications. He is also the lead author and editor of The CFIUS Book.
About Scott Maberry
As an international trade partner in Governmental Practice, J. Scott Maberry counsels clients on global risk, international trade, and regulation. He is also a past co-chair of the Diversity and Inclusion Working Group for the Washington D.C. office, serves as its representative on the firm's pro bono committee, and is a founding member of the Sheppard Mullin Organizational Integrity Group.
Scott's practice includes representing clients before the U.S. Department of Treasury Office of Foreign Assets Control (OFAC), the Department of Commerce Bureau of Industry & Security (BIS), the Department of Commerce Import Administration, the Department of Homeland Security (DHS), the Department of State Directorate of Defense Trade Controls (DDTC), the U.S. Department of Justice (DOJ), the International Trade Commission (ITC), the Committee on Foreign Investment in the U.S. (CFIUS), He also represents clients in federal court and grand jury proceedings, as well as those pursuing negotiations and dispute resolution under the World Trade Organization (WTO), North American Free Trade Agreement (NAFTA) and other multilateral and bilateral agreements.
A member of the World Economic Forum Expert Network, Scott also advises the WEF community in the areas of global risk, international trade, artificial intelligence and values.
Transcript:
Scott Maberry:
Welcome to episode 158 of the Nota Bene Podcast. In this episode we talk about the trade war with China. How did it start, who's winning, and where is it going? Nota Bene is the podcast that provides C-suite executives of multinational businesses with actionable insights on international law and policy. Our guest this week is my old friend Reid Whitten, an international lawyer based in London, and an adjunct professor of international business law.
We're going to talk about the US China trade war. How did it start, and where is it going? My guest is Reid Whitten. He's the managing partner of the London Office of Sheppard, Mullin, Richter & Hampton. He practices in international trade regulations and investigations. He's an expert in sanctions, export, and defense controls, anti-corruption, tariffs, foreign investment. He's also a professor of law of international business at the New College of Humanities in London and at the Catholic University in Lille, and at Wake Forest University in the United States. Reid, welcome.
Reid Whitten:
Hey, thank you so much for having me, Scott.
Scott Maberry:
So China and the United States are the world's number one and two economies. Depending on how you count them, they're either number one and two or number two and one. They're also major trading partners of each other. I believe right now the United States is China's second largest trading partner after the EU. Maybe ASEAN beats both of them if you count ASEAN together. But can you give us a little history and context of the trade war? I know that in the 1980s and '90s, US direct investment in China was huge. It was driven by cheap labor, an educated workforce, lax regulation, but there were some seeds of our current dilemma there. Can you take us back a little bit?
Reid Whitten:
I'd be glad to, Scott. And maybe as part of the introduction, we should also note that I have worked for and with you since literally my first day as a lawyer. So this is definitely not the first time that you and I have talked international trade or China. And so a lot of these points I'm really excited to go over with you because I enjoy our discussions. It's nice to argue in front of an audience.
Scott Maberry:
It's really great to have you on the podcast.
Reid Whitten:
I'm glad to be on. I'm really excited to see how you do this. It's going to be a really cool adventure I think. So let's get back to China. So right, you're talking about how the outsourcing of US industry to China, so in exchange for the manufacture of cheaper goods, making the goods more cheaply in a huge scale, US companies would put up with a certain amount of forced technology sharing and sometimes outright IP theft. So there was a lot that was being chipped away at, siphoned off by the Chinese at the time.
And that allowed, well, that and a number of other factors, investment allowed the Chinese economy to become more complex and robust. And in the 2000s, China started pushing for its own technology to be produced in its own country. So China then starts to not just be a bed for US manufacturing, it starts to go out on its own and make its own technological products.
Scott Maberry:
And then fast-forward to 2018 in the Trump administration's US national defense strategy, the United States took the position that the struggle for world dominance in technology is a zero sum game with the United States. We're in a global competition for technological dominance. It's the first time that a US national defense strategy named China as an adversary. And thereafter the US government developed what it conceives as a whole of society, whole of society response to that threat, given that the US government is taking the position that the China technological threat is a whole of society threat. Now we're seeing then all of the actions that the Trump administration took on after that. And by the way, there hasn't been much change in direction from the Biden administration, right?
Reid Whitten:
That's right. And politically, I don't see any reason that they would change, but we'll talk a little bit about where that heads in a minute. But first just look at the list and it continues from 2018 during the Trump administration right through to 2023. The United States is taking all kinds of these swipes at the Chinese government, at the Chinese economy, at Chinese technological development. I mean, the tariffs that everyone would know about because between 10 and 25% was added to the cost of nearly every good imported from China. And so that tariff made a lot of news at the time. It was a big part of our work at the time. Then there were additional powers for the Committee on Foreign Investment in the United States, CFIUS. They were given powers to review foreign direct investment, and that was very heavily focused on China.
There were a list of military companies that were put out that were prohibited for US investment. There was a separate list of what they call military end users and they were prohibited from receiving exports. There was this wildly extra-territorial foreign direct product rule that was initially aimed at Huawei and then became a template for some later restrictions. But basically it said foreign products made outside the United States, if they are the direct product of US origin technology, might be controlled for exports. So you have controls on items that aren't even made in the United States, that aren't even made of US components, that are just based on US technology, and they are going to be controlled for an export from some foreign country.
Scott Maberry:
Just a second on that foreign direct product rule. That deserves kind of its own program a little bit. But maybe you could just describe for people who haven't dealt with it, what was new and different about that rule? What made it so aggressive?
Reid Whitten:
So it used to be that if you had some very special national security control technology and you sent that technology to Malaysia to produce some item from that, then the item you produced in Malaysia would be controlled for export. And the idea was that you didn't have some really highly controlled technology that you went and had produced somewhere else without the US government knowing. And that was a little stretch of jurisdiction. It was at least consistent with national security policy and kind of concomitant to the threat.
What happened with the foreign direct product rule that was first aimed at Huawei and then later others was, basically anything you made anywhere, if it was the direct product of certain US origin technology, would be controlled by the US for its export onto Huawei. So we had clients in China designing chips in China, manufacturing those chips in China, selling those chips in China to Huawei. But because they had used US origin software to design those chips, the US claimed jurisdiction over the export and required that they get a license from a US authority, which is a wild stretch of jurisdiction, if you think about it.
Scott Maberry:
And that's the wildest stretch I remember. But one, I guess, the way to think about it if you're not just a Chinese company, is that a huge number, greater number of companies in Europe and Asia elsewhere were finding that their products were subject to US export controls even though the only connection to the United States was possibly like the testing equipment that they used or the design software.
Reid Whitten:
And the testing equipment that was maybe made in Germany but was based on a US design, you used to test a product that you made in the Netherlands and then suddenly that's controlled for export. I mean, it's a really, really long reach for that jurisdiction.
Scott Maberry:
Also, inside the United States, you have these big efforts to invest in US domestic supply because the idea is we need to wrest back control of US control of manufacturing of some of these products. Semiconductors is a good example because it kind of is a through line for all of this. But for example, the CHIPS Act, which was passed as part of the big anti-inflation bill last year, has money for US manufacturing of semiconductors. Those cost a lot of money, so they're not really sustainable in the long term. And in fact, even though there's a lot of money in that bill, if you add up all the chip manufacturing money in there, you couldn't buy more than one or two fabrication facilities. So that's not really enough to make the kind of moonshot steps that people were thinking about to try to reconsolidate US manufacturing of anything, especially something as huge as semiconductor technology.
Reid Whitten:
On the other side, China still has some swipes to take that kind of rolled out a bunch of different similar kind of countermeasures. They have an unreliable entity list, which is list of companies that China may not do business with if they are designated. They are preparing a new export control regime, though they haven't gotten the details of it out yet. They have a blocking statute, which is kind of the anti-US sanction statute that would protect companies in China from complying with, and maybe prohibit US companies acting in China from complying with US law. They have their own CFIUS, their own national security review for foreign investment. But a lot of these haven't really been put into practice. So it seems like they're kind of holding back, they're ready to take these actions, and that there may be some counter punches from China on their side. And they are certainly doing the domestic investment in technology as well.
Scott Maberry:
They sure are. And they can afford to do much more domestic technology investment than we can for all kinds of reasons. That's a strategic national priority for them, much more than it is here. They have a government that's not responsive by and large to individual firms and companies saying, "No, that's the wrong spending for the country." So they've got a lot of tools that we don't, at least for internal development of technology.
Reid Whitten:
Demand economy is a lot easier to run in some ways.
Scott Maberry:
Yeah, it is. And all of those actions you described, you described them as countermeasures by China. What's odd to me is that they're all very aggressive, they're all kind of mirror images of what the United States would do, and none of them have been implemented yet. What's going on there? Because it seems like they're kind of keeping their powder dry, making noises about putting more restrictions on, but they haven't pulled the trigger.
Reid Whitten:
So right now it's a tough position for China. They have these tools or weapons in their toolbox or arsenal, and they probably would like to implement them and push back at the United States, swing back at the United States. But at the same time, right now, domestically, especially coming out of their COVID zero time, they're a position of economic weakness. The growth hasn't been as strong as they would. They've seen a lot of downtimes in their economy. You look at charts of Chinese economics, whether it's housing prices or domestic production, and they're all sort of sloping down into the right. And it's not the direction that a government wants to see, even a government that doesn't necessarily have to stand for election every four years. So they have their own concerns and maybe cutting off the influx of US investment or US production and US collaboration is something that they might do to try and injure the US economy, but they have to be concerned about the blowbacks to the Chinese economy in those cases.
Scott Maberry:
So that kind of takes us up to where we are now. And to summarize, I think you're saying that the United States has declared China a strategic adversary in technological competition in semiconductors and many, many other areas. We should remind listeners that it's not just about chips, it's about every aspect of what you might call the new economy. And the United States has taken very aggressive internal and external measures to both bolster its own technological capabilities and to try to limit China's access to high technology items. And China has got very strong abilities inside China to do domestic actions to raise their own technological capability, and they're just full steam ahead with that. And they've got all of these countermeasures that you've described kind of sitting on the shelf waiting to be deployed against the United States. And that's where we are. So where are we headed? That's the next question.
And I'd say we had a post-World War II global economic order that created all kinds of forces in favor of globalization. And globalization would be how you'd describe in a single word the world economy from World War II up until, I don't know, 2018 I would say. I mean, there's been ups and downs, but it was on the whole coming together as a world economic order. And by the way, the United States dominated that world economic order for most of that time because the United States, by and large, created that order.
But now we have this phenomenon of fragmentation. So you've got major economic alliances fraying, you've got all kinds of big international trade agreements coming apart. You've got the US-China trade war and other things kind of giving me a feeling of a worldwide phenomenon of fragmentation. So much so that I've kind of described it as it's possible in my mind that the post-World War II globalization era will be a blip on the screen, and that's the exception. And the rule is worldwide fragmentation, and that's where we're headed. So that's the question we've got here, I think for us, specific for our purposes today of the US-China relationship, is that going to fragment further or is it going to get better?
Reid Whitten:
Yeah, it's a really good question. I think we've talked about this in a number of different contexts and iterations, and I loved your theory that globalization was actually the aberration, and we're going to go back to separation, but I'm not quite there yet. I think the falcon can still hear the falconer and the center can hold. So I think that the interdependence of these economies are a stronger force than the nationalism and other forces that are. I think their interdependence holds them together for the near term.
It's possible that the centrifugal forces, which everyone's pushed away, are stronger. I think it's going to hold, and I think the arc, the overall arc continues towards globalization. Even if we do have some short-term separation, fracturing, in regionalism, I think that as technology brings all persons closer together, there will be frictions, but the economics will just make more sense to have more people in more places doing different things. And the efficiencies of the economics of the global system will outweigh the sort of state-based objections to that.
Scott Maberry:
Right. So yeah, my theory to extend your reference leads us to think maybe the US-China relationship would end with not a bang but a whimper. But you're saying that we're going to get back together because we need each other so much.
Reid Whitten:
Well, so you challenged me on this a couple months ago and said, "In what scenario do you see a rapprochement" I actually struggled and I was like, "Maybe I don't. Maybe it was just too tense." But when you hear a little negative economic news coming out of China and you hear a little bit about economic headwinds in the United States, it becomes clear that neither side is invincible and there's where you can see each one's need for the other. And so the success of both is actually better for both sides.
Now, there's probably some game theory to be done about whether or not you'd want the other to fail and you to dominate, but dominate at some cost to yourself. And I think that if both sides work not necessarily in peace and harmony, I mean, they can still be in aggressive competition, but just not necessarily adversarial posture, then you get to the advancement of all sides. Whether or not that's possible, I'm not certain, but I do think that the forces pushing them together are stronger currently than those pushing them apart, and I think they'll remain stronger. I think that you have some doubts about that.
Scott Maberry:
Yeah, I think that the forces of fragmentation are very powerful, and I think we've seen it domestically in the United States in US politics and elsewhere. So I do have some skepticism about the forces that might keep these relationships together being stronger than those that pushes apart. Because I think, as I say, I think the fragmentation force tends to be a little bit more robust, kind of like in physics. It's the third law of thermodynamics can be summarized as everything kind of gets farther apart and lower to the ground. So that's kind of how I'm looking at it.
Now, one thing that occurred to me as you were talking about the two sides is that of course there are many other sides too. We mentioned ASEAN, we mentioned Europe. If you take those groupings together, those are the biggest trading partners of China. And one question for the game theorists out there is what happens if the two big economies that are really adversaries, United States and China, are fighting a trade war? What happens to Europe, for example?
Reid Whitten:
I now see them as actually being in more of a position of power, particularly if there are economic headwinds for China or the US. China has to go courting the EU. And the German chancellor visited China in December, the Italian prime minister and Macron, the French prime minister, planned to visit in January. I think China's going to be making a charm offensive now to the EU. And of course, their diplomatic position's going to be to try and put space between the US and the EU, which all sides should expect. But I think the EU is, in some ways, an advantageous position because they can see what they can get out of both sides, see if they can find enough common ground, enough of a small space in the Venn diagram of those two big circles for the EU to stand on and profit. That said, there's going to be sharp elbows and everyone's going to take swipes at each other, both diplomatically and economically. But I think that overall there's a narrow path through.
Scott Maberry:
But if you're a European company that has business with both the United States and with China, there are certainly some very serious risks in trying to play both sides. But there may be also some strong rewards in playing both sides, as you've just said.
Reid Whitten:
Yeah, agreed. And let me just make it clear, it's not legal advice for any of our European clients to go try and play both sides. We're talking much more on a philosophical geopolitical level. And I'm thinking here about the countries and their trade arrangements. And the reason I think it's China reaching out a hand to Europe is because of the political position of Xi Jinping at the moment. It's not threatened because he has pretty absolute control of the country, but they've got sub 5% growth. They've got things trending down economically, and they need their biggest trading partner to be buying their goods. They need to have Europe being open to working with China.
Scott Maberry:
No doubt.
Reid Whitten:
And the same with the United States. The same reason I think that they're keeping their powder dry on some of those countermeasures is because maybe right now you can accept some of the US national security concerns, play the long game, see what happens politically in the United States in a few years, because that wheel can turn, as we've seen, in all sorts of different ways. So now just look for ways to get your economic recovery, your growth back on track if you're in China's position.
Scott Maberry:
Yeah. Well, in a recent article I saw you used the term technological containment, kind of bringing back a Cold War theme in a contemporary context. What did you mean by technological containment and what does that mean for the future?
Reid Whitten:
Yeah, I think that, you think about the old containment theory, which is US Cold War theory, where if we had democratic countries all surrounding the USSR at the time, then it would be contained, that communism wouldn't spread and that we would have the hegemonic dominance of the world. I use the term because the US, as we listed out at the top, has made all of these regulatory attacks or forays on China, trying to limit its technological and economic growth. Now it's trying to get other nations to line up with it.
And recently we saw news out of the Netherlands and Japan that they had agreed in principle to impose some similar export controls to what the US has done on semiconductors. That's one of the main battlefields here. So that's one of the key concerns for the US Department of Commerce at the moment and their regulations. I think that the Netherlands and Japan agreeing to that and the sort of rumblings that we hear out of Washington that more countries might be signing on and that they intend to have fully implemented these controls in other countries by the end of this year, end of 2023, really says a lot about how they want to get everyone lined up on keeping the highest end technology out of Chinese hands.
Scott Maberry:
So we're not just trying to surround China with certain types of economies, but really it's more of a metaphor for surrounding them with allies imposing the same kinds of technology controls that we have. And how successful do you think that's going to be?
Reid Whitten:
Moderately. I think there'll be gaps. I think that some technology will leak out, but it's much easier, particularly in hardware terms and the technology for that hardware, it's easier to draw bright lines and say, "Okay, if your chips are capable of processing at this speed or have these sort of designs, we think that the technology for that should not be shared with XYZ countries or certain companies," or whatever it is. You draw those bright lines, you get the other countries to agree to the same or similar lines. And by doing so, as those countries develop their technologies, again, particularly for hardware, this becomes harder when you get to things that are still conceptual. How do you regulate AI? It's hard to draw bright lines there. Quantum computing saying, "Hey, look, we all value this. This has national security value to all of us, this technology. Let's not share it with people that we agree are not our allies." And ends up being China.
Scott Maberry:
And I think if there's one piece of this that we're both pretty certain of, that is that there are going to be more export controls on more areas of technology, particularly in advanced areas of robotics, semiconductors, autonomous vehicles, aerospace, defense applications. Those are kind of the areas and probably many others where the United States and Europe will start to align more and more on more controls.
Reid Whitten:
And don't forget, in the Pacific, probably South Korea, Japan, Australia, New Zealand, a lot of the US allies around the world, we say Europe mostly because I'm sitting in or near Europe, depending on who you ask here in the UK. But it's a proxy for US allies that are advanced economies.
Scott Maberry:
What about, to wrap it up today, who's impacted by all of this and what should they do?
Reid Whitten:
Well, I mean, obviously US Chinese businesses are impacted, but I think that the ones that are not the immediate ones that you see are the ones we talked about, the third countries. So our friends in Europe who are either being pulled apart between two sides or in the catbird seat in a way, trying to play the diplomatic go-between. They are very heavily affected because there is a certain amount of unpredictability with so many pieces in motion that it's hard for them to do any business planning because you don't know if one side or the other is going to move in some way that affects you. The US might implement export controls that affect your manufacturing in the EU, or China might just say, "Hey, look, if you comply with US sanctions, you can't do business here in China," which throws a huge wrench and kind of pushes you towards that do we have to pick a side? So the third country companies in the EU, and then again, and also throughout Asia-Pac, South Korea, Japan, New Zealand, Australia, they are all affected by this.
Scott Maberry:
Indo-Pacific is kind of the new term in the US national strategy, at least.
Reid Whitten:
Yeah. Well, and so anyone who bridges the Pacific in that way. And one of the interesting cases we've heard about recently is US persons who work for Chinese companies. So you have, say, a Chinese national person who came to the US and studied and got his degree and citizenship or Green Card and then founded the company or rose up high in a Chinese company.
Suddenly there are controls on their activity because they're doing research for China, and some of them are being pushed, especially with the new regulations, the semiconductor regulations we mentioned earlier, are being pushed to choose between their career or their citizenship. And they either have to stop doing all of the business that they've invested their lives in or maybe uproot their life and family in the United States and go elsewhere and give up their passport. Which is really, I mean, talk about being caught between the two and ground up by these huge forces outside of your control, there's a real empathy for people who are in that position who are kind of on both sides in some ways. And as those two are taking more adversarial posture are kind of caught between them.
Scott Maberry:
Well, that's amazing. That kind of brings the whole discussion from the global down to the purely personal. It's just crazy to think. And we're talking about a regulation that says that US persons are prohibited from facilitating the development of certain Chinese technologies. And that could mean a US citizen or permanent resident anywhere located with whatever background they have, wherever they came from. There are things that they may be doing right now that as of the date of that regulation, they can no longer do.
Reid Whitten:
That's right. Yeah. Maybe their whole job.
Scott Maberry:
That is a great demonstration of the breadth of the US response to what it considers to be this whole of society technological threat. That is a piece of the whole of society response to that threat.
Reid Whitten:
Yeah, agreed.
Scott Maberry:
Well, it's been great talking with you about this. I think this is a good place to end it. Reid, thank you very much for being with me today.
Reid Whitten:
Scott, it was my pleasure. I'm so glad to see you behind that mic. I think you'll really have a great time with this podcast.
Scott Maberry:
Great. And we'll have you back from time to time to talk about some of these issues or other really fascinating issues. Thank you very much.
Reid Whitten:
Looking forward to it. Thanks, Scott.
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Resources:
Foreign Direct Investment Controls - A Global Perspective
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