SinoTech

Issuance of Export Licenses Reveals Strategic Limits on Economic Decoupling

By Brian Liu, Raquel Leslie
Thursday, October 28, 2021, 8:01 AM

As global supply chain disruptions continue amid the ongoing coronavirus pandemic, Congress released licensing data last week revealing that the U.S. Commerce Department issued more than $100 billion worth of export licenses for semiconductors and other equipment to suppliers of Huawei Technologies Co. and Semiconductor Manufacturing International Corp. (SMIC)—despite both companies being on a U.S. trade blacklist. The Commerce Department data, released on Oct. 21 by Republican Rep. Michael McCaul of Texas, shows that the department granted 113 export licenses worth approximately $61 billion for suppliers of telecom giant Huawei and 188 licenses valued at $42 billion for suppliers of SMIC, China’s largest chip maker, between Nov. 9, 2020, and April 20, 2021. Of those 113 licenses approved for Huawei, 80 were for nonsensitive goods, while 121 of 188 SMIC licenses were for nonsensitive goods. 

The disclosure comes as President Biden faces mounting pressure to maintain trade restrictions against Chinese companies that may pose risks to U.S. national security. The Commerce Department under the Trump administration placed Huawei on a trade blacklist in May 2019 over national security concerns, adding SMIC in December 2020 for the company’s alleged links to the Chinese military. U.S. companies that wish to export products and software to sanctioned entities on the list must obtain a license from the Commerce Department, which reviews such applications with a presumption of denial.

Despite his criticisms of Trump’s approach to foreign challenges, Biden appears to have continued much of Trump’s hardline approach to trade relations with China and Huawei in particular. In March 2021, the Biden administration imposed tighter conditions on Huawei for previously approved export licenses by prohibiting items for use in or with 5G devices. Following reports in August that the Commerce Department had approved an exemption to Huawei to procure American semiconductors for its automotive parts business, the U.S. government denied any loosening of its trade restrictions on the company. 

In response to the Oct. 21 data release, the Commerce Department stated that such an “arbitrary snapshot” of license approvals “risks politicizing the licensing process and misrepresenting the national security determinations” made by the government. The department also emphasized that a majority of the licenses granted during the relevant period authorized shipment of nonsensitive goods that required a license only because the recipient was blacklisted. Nevertheless, Rep. McCaul said in a statement that the granting of the licenses, along with recent reports about the Chinese government’s testing of a hypersonic weapons program, signals the need for “more transparency and stricter enforcement when it comes to export controls.” 

The U.S. government’s political and economic incentives do not necessarily align when it comes to trade restrictions on Huawei. The company’s deputy chairman, Eric Xu, said in April that U.S. sanctions have spurred panic buying and stockpiling of chips among Chinese corporations, in turn exacerbating global supply chain disruptions. The U.S. technology sector has also warned that more export controls could damage domestic industry, especially given that China remains the biggest market for semiconductors. 

The Commerce Department’s decision to issue licenses to blacklisted Chinese companies illustrates just how difficult it is for the world’s two largest economies to decouple. U.S. Trade Representative Katherine Tai announced on Oct. 4 that tariffs imposed on China under the Trump administration would remain in place under Biden, while the Senate passed a $250 billion bill earlier this year that would subsidize technological independence. Decoupling of the tech spheres is in motion in China as well, as evidenced by certain protectionist measures in the country’s new Personal Information Protection Law, including data localization requirements. 

But how far is this policy meant to reach? The economies of the two nations are so deeply intertwined as to make an absolute separation virtually impossible. Decoupling poses a particular threat to the tech sector, where the push to take advantage of scale economies and to drive down production costs has resulted in highly integrated global tech production. In light of these challenges and the ongoing global chip shortage, the temporary license approvals may reflect the Biden administration’s effort to take a more targeted approach to balancing national security and economic priorities when it comes to trade relations with China.

LinkedIn Shutting Down Social Media Service in China 

LinkedIn announced on Oct. 14 that it would shut down the localized version of its professional networking service in China later this year. Microsoft, LinkedIn’s parent company, cited “a significantly more challenging operating environment” and “greater compliance requirements” as motivations for the move. In its place, LinkedIn plans to launch a jobs-only version of its site that will not include a social media feed or the ability to share posts. Prior to this announcement, LinkedIn was the last major U.S. social network still operating in China. 

Since launching in China in 2014, LinkedIn has straddled the line between Chinese government demands for increased censorship and U.S. government demands for increased transparency. These demands have often led to LinkedIn running afoul of both American and Chinese government officials. In March, Chinese regulators rebuked LinkedIn for lax censorship of political content on its platform. In October, U.S. Sen. Rick Scott sent a letter to Microsoft questioning why the company was removing U.S. human rights journalists from Chinese search results. 

Despite investing significant resources and political capital to operate in China, LinkedIn never managed to win significant market share against local competitors. Zhaopin and 51job, two leading job board sites in China, have 205 million and 155 million registered users, respectively, versus LinkedIn’s 54 million. On the social media side, Maimai, a platform for Chinese workers to share office gossip, has more than twice the number of users on its platform compared to LinkedIn. Still, despite its relatively small market position, LinkedIn served as an important link between Chinese citizens and the rest of the world. The platform was particularly beneficial for some Chinese human rights activists, who used the platform to contact foreign journalists and conduct anonymous interviews from China. 

In addition to censorship concerns, commentators have attributed LinkedIn’s move to increased compliance costs with China’s new data security and privacy laws. China’s Data Security Law came into effect on Sept. 1, and the Personal Information Protection Law will come into effect on Nov. 1. Violations of these laws carry penalties of between 10 million RMB ($1.5 million) and 50 million RMB ($7.7 million), or up to 5 percent of annual revenue. While LinkedIn’s new jobs-only platform would still be subject to the data privacy framework, it would run a far lower risk of violating the “core data” provisions aimed at protecting data relevant to national security or the public interest. Business groups have criticized these provisions as being excessively vague and discretionary. 

LinkedIn’s pullout highlights the free speech dilemmas for U.S. technology companies seeking to establish a presence in China. Google’s two attempts to build a censored version of its search engine for China ended in failure, resulting in a Chinese government-sponsored hacking attempt in 2010 and U.S. congressional inquiries in 2018. By contrast, Microsoft’s Bing has operated a censored version in China since 2009, and Apple maintains a censored version of its App Store. While such measures have allowed some American tech companies to maintain a foothold in the world’s largest consumer market, it has also subjected them to greater criticism among an increasingly privacy-conscious American public. 

Other tech companies have sought to redefine their failures to break into the Chinese market in pro-privacy terms. From 2009 through 2018, CEO Mark Zuckerberg waged what observers have labeled a “charm offensive” in order to convince Chinese regulators to permit Facebook to operate in China. Facebook eventually gained permission to launch a subsidiary in Hangzhou in July 2018, only for regulators to revoke their authorization a day later. Shortly after, Facebook began openly criticizing China’s privacy practices in Congress, with COO Sheryl Sandberg stating that Facebook would not launch in China because Facebook’s values were not aligned with China’s. Zuckerberg began touting Facebook’s privacy practices as a favorable contrast to Chinese privacy practices, in what New York Times columnist Kara Swisher calls the “Xi or Me” argument. 

American companies that have struggled to succeed in China may follow LinkedIn and Facebook’s lead and recast their exits in an anti-censorship narrative. In a twist on Sen. George Aiken’s famous statement on the Vietnam War, American companies may find it prudent to simply “declare victory [for privacy] and get out.”  

Other News 

Chinese Netizens Uncover WeChat Privacy Violations With Apple’s New Privacy Tool 

In early October, public outcry erupted over disclosures that WeChat collected users’ photo album data without their knowledge. In a post on Weibo, a Chinese microblogging site, a blogger using the handle @Hackl0us revealed that he tracked WeChat’s data activity for seven days using Apple’s new Record App Activity feature. The function allows users to track when apps access certain kinds of user data like photos and contacts, or access sensitive device resources, like the camera or microphone. @Hackl0us found that three Chinese apps, including WeChat, read his photos multiple times throughout the day, with each read lasting up to 60 seconds. WeChat explained that the protocol was meant to allow users to share photos faster in chats but nevertheless promised that it would remove the photo-fetching protocol in its next update. 

The WeChat disclosures demonstrate the effect of Apple’s efforts to make privacy a centerpiece of its business strategy. Apple has sought to differentiate itself from other Silicon Valley giants by requiring iOS app developers to produce privacy “nutrition labels,” rolling out privacy-centered features on the iPhone, and calling privacy a “human right.” The Record App Activity feature, launched in September as part of iOS version 15, has also allowed Chinese users to uncover data tracking on social media app QQ, ecommerce platform Taobao and delivery app Meituan.  

The WeChat scandal also demonstrates the significance of “bottom-up” demands for privacy in shaping Chinese corporate behavior. While China’s “top-down” privacy laws have attracted considerable attention, Chinese companies are also responding to increasing consumer demands for protection against data leaks. One survey in 2016 conducted by the Internet Society of China found that 84 percent of respondents had suffered from some form of data leak, many resulting in loss of money. China’s Ministry of Public Security found that online scams cost Chinese victims $42 billion in 2020. The new privacy tools from Apple may enable privacy-conscious consumers to take privacy investigations into their own hands, exerting greater pressure on technology companies to reform their behavior. 

‘Walled Gardens’ of China’s Internet Continue to Crack

In its latest move to break down barriers in the internet space, China’s Ministry of Industry and Information Technology (MIIT) is debating whether to ask media companies like Tencent and ByteDance to allow rivals to access and display their content in search results. If the policy is implemented, hundreds of millions of articles on Tencent’s WeChat messaging app and short videos from ByteDance’s app Douyin—content that has thus far been protected by the companies’ respective ecosystems—would become available via search engines like Baidu. 
The MIIT has already warned tech companies to eradicate their so-called walled gardens through a regulatory order to unblock links to rival services. The crackdown on the anti-competitive practice is part of a six-month internet clean-up campaign by MIIT, which began in July 2021. It is unclear whether platforms like Tencent are entirely to blame or whether Baidu is also choosing to surface its own content to prioritize ad revenue and traffic within its own ecosystem of sites. 

In any event, the walls appear to be crumbling slowly. Tencent announced in September 2021 that it has allowed WeChat users to link to rivals’ content for the first time in years. Users can now access external services like Alibaba’s Taobao online mall and ByteDance’s Douyin in one-on-one messaging. The appearance of social media articles from WeChat on Google and Bing last week fueled speculation that Tencent had taken yet another step to heed Beijing’s call for a more open internet. However, Tencent quickly clarified that a loophole created by a recent tech upgrade was responsible for making some content on its enclosed WeChat ecosystem available on major search engines.

In the U.S., major tech companies have similarly come under fire for building barriers to competition online. Epic Games, maker of the popular video game Fortnite, sued Apple in August 2020 for stifling competition and setting up its own digital walled garden by forcing third-party apps like Fortnite to use Apple’s payment platform instead of their own. A district court judge ruled in favor of Apple in September on nine of 10 counts but said that Apple must allow developers to direct users to alternative payment systems within their apps.

Xi Calls for Balance Between Regulation and Promotion of Tech Sector; Urges Self-Reliance 

In a speech to the Politburo on Oct. 18, President Xi Jinping pledged support for development of key technologies while continuing to improve governance of the digital economy. Xinhua, a Chinese state-run publication, reported that Xi’s speech stressed the importance of developing “key and core technologies,” promoting fair market competition, and achieving a “high-level self-reliance.” Xi’s remarks echo China’s “Made in China 2025” initiative, which aims to increase the percentage of “core materials” produced domestically to 70 percent by 2025. 

Recent reports indicate that China’s quest for self-sufficiency has a long way to go, particularly in the development of semiconductors. Chips enable a wide range of commercial and military technologies, from televisions to electronic weapons systems. Although Alibaba announced on Oct. 18 that it had designed one of China’s most advanced server chips, overall domestic production of semiconductors remains at 16 percent, despite government efforts to boost production. 

A significant reason for the shortfall is China’s qualified labor shortage. The number of unfilled positions in China’s semiconductor industry doubled from 150,000 in 2015 to 300,000 in 2021, according to a report published by Peking University. Top universities like Tsinghua have only recently established semiconductor programs in their engineering departments. Chip and other hardware manufacturing firms have also had difficulty attracting top engineering talent, who have typically flocked to internet and software firms. 

China’s lack of self-sufficiency in semiconductor manufacturing was made readily apparent after the Taiwan Semiconductor Manufacturing Co. (TSMC) agreed to comply with U.S. sanctions against China. The world’s largest contract manufacturer of semiconductor chips, TSMC agreed in April to suspend shipments to Chinese supercomputing firms in response to U.S. demands. This past week, TSMC also agreed to comply with a U.S. government request for its supply chain information, raising concerns in China that TSMC’s data will be used to impose additional sanctions on Chinese technology firms. 

Commentary

Herb Lin of the Center for Strategic and International Studies and the Hoover Institution considers the impact of a hypothetical command vision statement for a fictional PLA cyber command. 

The Economist’s Schumpeter column proposes that Huawei break itself up into smaller ventures and “let a hundred smaller flowers bloom” in the face of American sanctions. 

Robert H. Bork Jr. of the Wall Street Journal cautions that both China and the U.S. stand to lose from self-sabotage of their most successful tech companies. 

Stewart Baker discusses a proposal for a ban on “self-preferencing” by platforms in Silicon Valley, the regulation of algorithms, the U.S.’s artificial intelligence race with China, and more in The Cyberlaw Podcast

Elliott Zaagman explains the rapidly shifting investor calculus on Chinese tech giants in the wake of regulatory crackdowns. 

Republicans on the House Foreign Affairs Committee urge the U.S. Commerce Department to fortify export controls and protect U.S. semiconductors, aviation and emerging technologies from China. 

Thomas L. Friedman reflects on the implications of President Xi’s hardline strategy regarding the tech industry and the confusion among Chinese and foreign entrepreneurs about what the rules of business are inside China. 

The Wall Street Journal explores the future of cyber warfare in light of China’s recent hypersonic missile test. 

Nina Xiang dissects Beijing’s execution of its Xin Chuang strategy to build a self-reliant domestic information technology industry. 

Dustin Carmack of the Heritage Foundation argues that Microsoft made the right move by withdrawing LinkedIn’s social media service from China.

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