The Art of the New Cold War Newsletter

#4

Welcome to the 4th edition of The Art of the New Cold War Newsletter.

In this edition, we explore topics including US Deputy Secretary of State Wendy Sherman’s meeting in China, the return of US Industrial policy, and the breakup between Wall Street and China.

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And as always, for more, please check out my book: The Art of The New Cold War

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Topic 1: Sherman’s chilly meeting in China

As highlighted in The Art of the New Cold War Newsletter #3, this week’s meeting in the Chinese city of Tianjin between US Deputy Secretary of State Wendy Sherman and her Chinese counterparts was expected to be a testy affair, especially as it was preceded by Chinese sanctions on seven US individuals and entities. It did not disappoint.

This was the second face-to-face meeting between senior US and Chinese officials since President Biden took office. The first occurring in Alaska in March between US Secretary of State Antony Blinken and his Chinese counterparts that descended into a very public sparring match in front of the cameras, with Yang Jiechi haranguing and lecturing Secretary Blinken—and by extension America—in a manner not seen before, at least not publicly anyway.

Far from toning down the harsh rhetoric, however, U.S. Deputy Secretary of State Sherman was met with more of the same from Chinese officials. This even included being presented with a list of grievances that America must immediately correct, and another list of areas that are heretofore off limits.

As reported by The Diplomat:

“Xie presented Sherman with two lists: the ‘List of U.S. Wrongdoings that Must Stop’ and the ‘List of Key Individual Cases that China Has Concerns With.’ The full lists were not made available publicly, but Xinhua provided a summary:

In the List of U.S. Wrongdoings that Must Stop, China urged the United States to unconditionally revoke the visa restrictions over Communist Party of China (CPC) members and their families, revoke sanctions on Chinese leaders, officials and government agencies, and remove visa restrictions on Chinese students.

China also urged the United States to stop suppressing Chinese enterprises, stop harassing Chinese students, stop suppressing the Confucius Institutes, revoke the registration of Chinese media outlets as “foreign agents” or “foreign missions”, and revoke the extradition request for Meng Wanzhou [the CFO of Huawei, who was detained in Vancouver, Canada in December 2018].

Per China Politico Correspondent Stuart Lau, Sherman was also presented with four areas that America must stop acting in relation to China:

Stuart Lau @StuartKLau

China lays down “four stops” for visiting Dep Sec of State Wendy Sherman: 1 Stop interfering in internal affairs 2 Stop jeopardising China’s interests 3 Stop crossing red lines and playing with fire (ref to Taiwan) 4 Stop building bloc confrontation in the name of values

Unsurprisingly, China made its list of demands without admitting any fault of its own, nor did it offer anything in return. Other than perhaps vaguely alluding to the fact that once the U.S. does everything China wants then perhaps it will consider working with the U.S again.

China also dispelled any notions that attempts by the U.S. to separate climate change cooperation from other contentious areas would work. This is something we highlighted in The Art of the New Cold War Newsletter #2, where we noted that: “China will dangle false promises of cooperation on climate change to attempt to get America to disarm against China on other fronts (economic, trade, human rights, foreign policy, tech, etc.), while China just keeps on ruthlessly advancing and pursing its interests. To believe otherwise is naïve and foolish.”

This meeting, and the previous one in Alaska, make clear China’s belief that it is inexorably ascendant and that its rise to the top of the global food chain cannot be stopped, while America—and the West—are in terminal decline. This mentality now infuses and informs all of China's words and actions. China sees itself increasingly negotiating from a position of strength relative to America (and the world), and believes it can now dictate terms to America. Something that only a few years ago would have been unthinkable.

Expect more chilly meetings like this one as the New Cold War heats up.

Topic 2: What is old is new again. The return of US industrial policy.

Republicans and Democrats alike are embracing the need for a robust US industrial policy to challenge and out compete China, with a number of bills worth billions and even trillions of dollars currently working their way through the US Congress to do just that, by boosting American research and development and rebuilding the nation’s infrastructure.

But like Voldemort from Harry Potter, some are still reluctant to openly use the term. As noted in an excellent piece by Alex Lo in the South China Morning Post, entitled: Industrial Policy: The economic practice that dare not speak its name in America.

Mr. Lo points out that for years the term “industrial policy” has been considered taboo in Washington as economic neoliberalism and market fundamentalism reigned supreme. Mr. Lo defines industrial policy as “concerted government efforts to promote specific industries identified as being critical to national security and/or economic competitiveness.”

But as Mr. Lo argues (and I do as well in my book the Art of the New Cold War), while Americans have been made to believe in the inherent magic of private enterprise and free market and government free capitalism, they don’t actually know, or understand, their own economic history. Not only was America developed and built through a robust industrial policy powered by strong government support and protection, but practically invented the entire concept of industrial policy. Subsequently copied by numerous developing nations, including most notably China, to great success.

Indeed, many of America’s founding fathers and greatest leaders were ardent proponents of industrial policy. This list includes such luminaries as Alexander Hamilton, Benjamin Franklin, Abraham Lincoln, Franklin Roosevelt, and even that greatest of government skeptics Ronald Reagan, who advocated for a US industrial policy to combat and out compete Japan and the Soviet Union.

Former US Trade Representative under the Trump Administration Robert Lighthizer made similar points this week in an essay for the NY Times entitled: America shouldn't compete against China with one arm tied behind its back. On the need for a robust US industrial policy to compete and defeat China, Mr. Lighthizer wrote:

“[W]e need a multifaceted long-term strategy. China certainly has one. Our strategy must include a tax and regulatory regime that encourages innovation, job creation and manufacturing in America; an industrial policy that includes subsidies to foster the development of the most advanced science and technology; a modern, highly trained and focused military; full engagement from our intelligence and diplomatic communities; and a robust plan to combat China’s unfair trade practices.”

To that end, Mr. Lighthizer argues that the US Senate’s recently passed bill intended to bolster America’s technological and industrial capacity called the U.S. Innovation and Competition Act, started off as a great bipartisan effort to combat China, and still contains important provisions, such as “$200 billion to bolster scientific and technological innovation, $52 billion to rebuild our capacity to make semiconductors, and a supply-chain resiliency program to bring manufacturing of personal protective equipment, medicines and other key products back to this country,” but at the last minute the bill was significantly watered down.

Mr. Lightizer refers specifically to an amendment titled the Trade Act of 2021, which limits and hamstrings America’s ability to use tariffs on China and other countries, and even cuts them on broad product categories.

Like industrial policy, tariffs remain to many a negative term in Washington. But again like industrial policy, tariffs have played a significant role in America’s economic history and success. As Lighthizer writes:

“The notion that all tariffs are bad is foolish and counterproductive. They have been an effective tool of economic policy since the beginning of the Republic. They can offset unfair subsidies by foreign governments and industrial policy; break reliance on foreign suppliers; and raise import costs, thus encouraging companies to bring jobs back to this country. To the extent that tariffs might raise consumer prices (which is itself debatable), that is a small price to pay to achieve a strong manufacturing base and secure access to critical supplies.”

As Lo and Lighthizer both advocate in their articles, and as I do in my own book, to defeat China, America must remember its history and return to its economic roots, and the very foundations that made it a great economic power in the first place. This includes getting serious again about a robust industrial policy to support and enhance strategically important industries and technologies, coupled with smart, effective, targeted tariffs to protect them and balance the trade scales.

The old ways are often the best ones.

Topic 3: Wall Street and China’s nasty break up

The CCP continued its crackdown on some of its most profitable and innovative companies (a growing list that includes Ant Group, Meituan, and Didi, among others), causing investors in China and abroad to once again take significant financial hits. This week it was the $100bn education and tutoring industry in China that was in Beijing’s crosshairs.

But even more impactful and concerning for investors was an accompanying potential ban on Chinese companies using a structure known as variable interest entity (VIE), which is how many foreign investors, including Wall Street firms, invest in Chinese companies. As Joseph Sternberg at the Wall Street Journal explains in his piece this week How China Played American Investors:

“Beijing has in mind something called the variable-interest entity, or VIE. Many big-name Chinese companies that have sold shares in foreign markets (including Hong Kong) over the past two decades have done so only quasi-legally at best. Beijing prohibits foreign ownership of large sections of the Chinese economy, and especially the most profitable parts involving digital technology and data. The workaround was to create an offshore holding company or VIE. The Chinese operating company would bind itself contractually to remit its profits to the offshore entity, which could then sell shares to foreign investors.”

The potential ban on VIEs has already wiped billions from the market value of Chinese companies listed on the NY Stock Exchange with the risks to investing in Chinese companies rising dramatically. This also represents a major break in the long love affair between China and Wall Street. Perhaps even a permeant change in the nature of relationship with Wall Street no longer serving Beijing’s interests. Sternberg continues:

“Giving credit where it’s due, Beijing has played foreign investors like a fiddle. It induced them to finance the expansion of the riskiest parts of its economy while distracting them from asking why China couldn’t use its enormous financial resources to back unicorn tech companies itself. This funded national champions to compete with the Western giants, while insulating domestic middle-class investors—a politically sensitive cohort if ever there was one—from the risks. For whatever inscrutable reason, Beijing now appears to be deciding its interests lie elsewhere.”

Even the most ardent of China’s Wall Street lovers are starting to take serious note of the changing nature of the relationship and its implications. US economist and former Morgan Stanley Asia chairman Stephen Roach now believes the actions are signaling the early stages of a cold war:

“I am a congenital optimist when it comes to China. But I find these actions really quite disturbing,” Roach told CNBC’s “Trading Nation”. “China is going after the core of its new entrepreneurial driven economy, and it’s going after their business models.”

For many years, Wall Street looked the other way on China’s lies and cheating and the many risks of the relationship for the sake of profits. But now that those profits are jeopardized they are forced to see what was always staring them straight in the face: China is an abusive lover indeed.

What I’m reading:

I am currently reading The Long Game by Rush Doshi. Highly recommend it. Mr. Doshi, who currently serves as the Director for China on the Biden Administration's National Security Council (NSC), details through meticulous research of internal Chinese Communist Party (CCP) documents, sources, and words China’s grand strategy to overtake America and establish a new world order.