Decoupling Supply Chains: A Harmful Approach?

The Inherent Risks of U.S.-China Decoupling

For the technology industry, which generally prioritizes expansion over geopolitical considerations, the movement toward U.S.-China “decoupling” represents a significant and unavoidable challenge. The imprecise definition of this concept only amplifies the potential dangers.

Historical Context of U.S.-China Relations

U.S. skepticism regarding China, especially within the technology sphere, isn't a recent development. Action was taken by Congress to restrict Huawei and ZTE from U.S. telecommunications networks nearly ten years ago, during the Obama administration.

However, both the George W. Bush and Barack Obama administrations actively pursued dialogue and sought common ground between the world’s two largest economies. As China rose as a major global economic force and became a crucial trading partner for the U.S. – increasing from 2.5% of U.S. imports in 1989 to a high of 21.6% in 2017 – efforts were made to integrate it into the U.S.-led global trading framework.

China's Integration into the Global Economy

In 2005, Deputy Secretary of State Robert Zoellick proposed the idea of China as a “Responsible Stakeholder,” based on the belief that incorporating China into the global trading system would encourage it to support the system’s continued operation.

The U.S. consented to China’s entry into the World Trade Organization in 2001. While considered a pivotal moment by some, it was more accurately a stepping stone. That same year, China already accounted for 9% of U.S. imports.

The growth in Chinese imports largely reflected a shift in Asian trade patterns, rather than a complete overhaul. From 1989 to 2017, Asia’s overall share of U.S. imports rose from 42.3% to 45.2%. China’s growth came at the expense of countries like Japan and Malaysia, indicating a restructuring within Asia.

Shift Towards Trade Barriers

Regardless of where production was officially designated, the reality was that a sophisticated Asian supply chain had integrated China as a key component. However, with increasing engagement and fundamentally different economic systems, areas of economic disagreement between the U.S. and China grew.

During the Trump administration, dialogue diminished as new trade barriers were implemented. The U.S. imposed tariffs on hundreds of billions of dollars worth of Chinese goods, and China retaliated with its own trade restrictions.

Although initially presented as temporary measures to achieve specific policy goals, some within the Trump administration viewed reduced interaction with China as beneficial. Matthew Pottinger, former Deputy National Security Adviser, argued that U.S. institutions were hampered by decades of “engagement” with China, prioritizing economic cooperation over all else.

Continued Policies and the Concept of "Decoupling"

Pottinger advocated for decisive action “to frustrate Beijing’s aspiration for leadership in … high-tech industries.” The Biden administration has maintained the Trump-era tariffs following a comprehensive review, and Congress is considering funding initiatives to promote technological independence. These efforts to reduce dependence, particularly in technology, are collectively referred to as “decoupling.”

The Ambiguity of "Decoupling"

Despite the growing support for U.S. decoupling from China, the term remains poorly defined. While the aforementioned tariffs have discouraged trade, the extent of this policy remains unclear.

Defining the Scope of Decoupling

Does decoupling entail the U.S. curtailing inbound and outbound foreign direct investment? What about portfolio investment, such as the acquisition of U.S. Treasury bonds? Should the U.S. refrain from importing finished goods manufactured by Chinese companies?

What about products made by European firms in China, or U.S. companies operating within China? Or even firms producing outside of China but utilizing Chinese components? Furthermore, what about companies selling into the Chinese market and potentially facing Chinese influence?

The Implausibility of a Complete Divide

The extensive economic ties between the two nations make a complete separation unrealistic. Instead, an attempt at exclusion would likely result in another restructuring of the supply chain, rather than China’s removal as a major player.

This is especially true given that other global economic powers, like the European Union, do not share the same decoupling objectives.

Impact on the Technology Sector

The vague nature of the decoupling push presents a particular risk to the technology sector. Decades of efforts to leverage economies of scale and reduce production costs have led to highly integrated global tech production networks.

Moreover, investments in emerging and sensitive subsectors, such as semiconductor manufacturing, require substantial capital and long lead times. This makes the sector particularly susceptible to rapidly changing regulations as policymakers attempt to clarify a problematic concept amidst ongoing supply chain disruptions.

While subsidies, as proposed in some Congressional bills, may seem appealing, their effectiveness diminishes when other nations, like Japan, respond with similar measures.

Potential Consequences of Extreme Decoupling

A scenario where the U.S. adopts an extreme approach to decoupling, completely separating itself from China, could cripple its own technological capabilities, limiting access to competitive global sourcing and benefiting competitors elsewhere.

A more moderate approach, involving compromise and ongoing negotiation, is likely to be unpredictable, with constantly evolving rules.

Ultimately, proponents of U.S.-China decoupling may find their efforts counterproductive, potentially undermining U.S. technology leadership rather than resolving strategic concerns.