China puts supply chain security at forefront to avoid being ‘strangled’ by sanctions, analysts say

Frank Tang
·6-min read

On multiple occasions, President Xi Jinping has used the phrase qia bozi, which translates to being strangled by an adversary, in describing China’s risks in the realm of technological competition.

That is because China’s inability to produce vital hi-tech components – from computer chips in mobile phones to aeroplane engines – puts the country at the mercy of strategic rivals. Washington’s targeting of tech powerhouse Huawei and telecoms giant ZTE with sanctions, for example, shows that reliance risks are too real to ignore.

This is the logic behind Beijing’s self-sufficiency drive – commonly referred to as dual circulation – and this thinking is a key philosophy underpinning the country’s 14th five-year plan for 2021-25 and its 2035 vision, according to analysts.

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“China is determined to reduce the vulnerabilities that the US has exploited, and that means reducing its dependence on US technology,” Andrew Batson, an analyst with research firm Gavekal, wrote in a recent note about China’s 2035 strategy.

China is recognising that the United States has enormous leverage over China, Batson said, adding that the “US was willing to deploy that leverage for geopolitical goals, despite economic costs and industry opposition”.

This disparity is perhaps best exemplified in the development of semiconductors – a sector in which Beijing is going all-in.

China has poured hundreds of billions of yuan into research and development, and local authorities have been showering support on integrated chip makers and software enterprises, with inevitable consequences including overcapacity and excessive waste.

While the National Development and Reform Commission has acknowledged that some companies “with insufficient knowledge of integrated circuit development” have “blindly entered into projects”, the government has encouraged the development “chaos” to a large degree. This reflects Beijing’s willingness to pay a high price to ensure that a few projects succeed, even if most fail, in helping the country reduce its reliance on imported chips.

A recently published speech by Xi, which he made at a closed-door meeting in April, shed some light on the Chinese leadership’s thoughts on the issue.

“To ensure our industrial safety and national security, we must build up an indigenous, controllable, safe and reliable supply chain with more than one source for every important product and supply channel,” Xi said, as reported by the official Xinhua news agency last week.

China to curb ‘chaos’ in semiconductor industry and hold bosses accountable for risky, loss-making projects

Xi said China must develop a domestic production and supply system in critical areas so that “we can have circulation on our own at critical moments, and to ensure normal economic operations in extreme circumstances”, without elaborating on what sort of extreme circumstances he was referring to.

In addition to fixing weak links, Xi said China has to develop technologies and products that the world will rely on China for. Xi said the potential areas include high-speed railways, power equipment, new energy advancements and telecoms equipment.

“We will enhance the global value chain’s dependence on China and develop powerful retaliation and deterrence capabilities against supply cut-offs by foreign parties,” Xi said.

In China’s new five-year plan, the ruling Communist Party said that the country will adopt a “new type of whole-country system” under its socialist market economy to “fight key battles over core technologies” in areas such as artificial intelligence, quantum information and integrated circuits.

That whole-country approach means that all available resources will be mobilised and concentrated into a few projects perceived to be of vital importance to the nation’s future. China also did this in its development of nuclear weapons in the 1960s, when the country was poor and very much isolated from the world.

Marshal Chen Yi, one of the founding fathers of the People’s Republic, said in 1963 that China would sell its trousers to raise money for its nuclear bomb programme.

A key supporter of a whole-country system is Kong Dan, former chairman of Citic Group, Beijing’s key financing arm. He said in a speech last month that China must mobilise all of the nation’s resources in its competition with the US.

“What’s the end game in the China-US rivalry? Is the US trying to get money from us, or is it trying to take our life? If it wants money, it’s an issue of development; but if it wants our life, it’s an issue of security,” according to the transcript of Kong’s speech. Kong is regarded as one of China’s “princelings”, or children of prominent and influential veteran communists, with powerful connections in Beijing.

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Even though China is the world’s second-biggest economy and the world’s factory, the lack of core technologies has become a thorn in Beijing’s side.

Wang Yiming, former deputy head of the Research Development Centre, a State Council think tank, said at a seminar hosted by the China Centre for International Economic Exchanges on Thursday that China must do more to develop its own technologies.

“China still relies heavily on foreign high-end chips, industrial software and other products, and the US cut-off has had a huge impact,” Wang said.

China’s pursuit of technological autonomy looks to be an important factor to shape international supply chains, according to some analysts.

The price of greater self-reliance will, almost surely, be slower economic growth

Shaun Roache, S&P Global Ratings

Alicia Garcia-Herrero, chief economist for the Asia-Pacific region at Natixis, pointed to China’s dominance in manufacturing exports, and said any disruptions to its production will spill over to the rest of the world via the global supply chain. Yet, she also noted that the US dominance in technologies, coupled with geopolitical tensions, have put China in a difficult situation.

And Shaun Roache, chief economist for the Asia-Pacific region at S&P Global Ratings, said Beijing’s self-reliance approach is likely to mitigate certain risks for China, by insulating it from abrupt changes in the supply of vital inputs.

“China’s vow to achieve technological self-reliance could mean that large parts of the digital economy will remain protected from foreign competition,” Roache wrote.

But a caveat to that, he said, is that “the price of greater self-reliance will, almost surely, be slower economic growth”.

Additional reporting by Zhou Xin

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