[Susan Shirk] How to shield Silicon Valley

By Bloomberg
  • Published : Jul 11, 2018 - 17:40
  • Updated : Jul 11, 2018 - 17:40

President Donald Trump thankfully appears to have backed off his threat to block all Chinese investment in critical US technologies, looking instead to the US Congress to develop a more robust investment screening system. But the risk of this technological cold war spinning out of control, to the detriment of both countries, remains. Lawmakers must strike a balance between preserving economic openness and protecting national security, which means thinking both smaller and bigger than they seem to be doing thus far.

A bill making its way through the US Congress, the Foreign Investment Risk Review Modernization Act, is meant to enhance scrutiny of investments that could lead to potential foreign government control over key US technologies. An interagency body known as the Committee on Foreign Investment in the United States is tasked with deciding which investments look problematic, on a case-by-case basis.

Giving too much discretionary power to CFIUS is a mistake. A clearer standard is needed both to reduce uncertainty and, just as importantly, to limit the damage in this mutually destructive rivalry. The US doesn’t want to harm its own economy and make bilateral relations more hostile by excluding more Chinese investment than necessary.

To achieve that balance, legislators should adopt a “small yard, high fence” approach, to borrow a concept proposed some years ago by former Defense Secretary Robert Gates in reference to export controls. In a nutshell, the CFIUS should focus on a highly detailed list of technologies that could threaten US national security, narrowly defined -- the “small yard.” These might include military technologies such as advanced turbofan engines, long-range radars, high-powered lasers and solid propellant motors. Beyond this list, all foreign investors, Chinese or otherwise, should be allowed to invest in America’s technology sector.

To surround this “small yard,” Congress should erect a taller fence. It’s not enough to worry only about Chinese state-owned companies looking to invest in the US. For one thing, the Chinese government increasingly controls firms through capital investment rather than direct administrative oversight. An ostensibly private Chinese company, for instance, may have one of the myriad national or provincial innovation funds as a major shareholder. Or it may turn out to be a partial, many-times-removed subsidiary of a state-owned enterprise whose executives are appointees by the Communist Party.

With the proliferation of cross-investments, shell companies and special purpose vehicles in China, ownership has become very difficult to trace. Private companies that have trouble obtaining financing from the state-controlled banking system and stock exchanges often partner with government firms with better access to capital.

In recent years, too, the Communist Party has exerted more and more influence on corporate governance. Even companies that are under private ownership on all accounts are at the mercy of government whim. Alibaba Group Holding Chairman Jack Ma wasn’t being facetious when he said that if the state needed his e-payments company Alipay, Alipay would belong to the state.

To help evaluate these relationships, then, US regulators should keep in mind three things.

First, companies investing in technologies that could threaten national security should be required to self-report ownership stakes. Direct and indirect government ownership should both be considered. A threshold equity ownership, say 20 percent, could serve as a marker for substantial government control.

Second, CFIUS members should examine each company’s governance structure, regardless of ownership. Is the firm’s top executive a government appointee who holds a corresponding rank in the state hierarchy? Does the Party have a seat in the board of directors? Is the company required to submit regular business-related reports to government agencies, not just to shareholders?

Third, regulators should evaluate each firm’s commercial dependence on the state. If a company sells its products and services almost exclusively to the government, it may be deemed to be under state control even if it’s a bona fide privately owned company on all other counts.

These conditions should be spelled out as specifically as possible to prevent them from being politicized. If implemented strictly and transparently, such an approach would allow the US to ensure its security, while leaving most of its economy open as always for investment.

Susan Shirk
Susan Shirk is chair of the 21st Century China Center at the University of California at San Diego School of Global Policy and Strategy. -- Ed.