Political Economy

China need not win the Fourth Industrial Revolution race

February 25, 2022

David P. Goldman

Washington Fellow

A call to restore the US public-private partnership model of the ’60s Apollo Program and ’80s Strategic Defense Initiative

We are currently in the midst of a Fourth Industrial Revolution, defined by metadata and artificial intelligence systems and applications. The Third Industrial Revolution, based on computation and communications, was driven by the United States.

China wants to lead the Fourth Industrial Revolution and thereby win the future. It may succeed in doing so. If it does, the consequences for the United States will be disastrous: We will become considerably poorer, our politics less stable, and our economy dominated by an adversary. Moreover, the military dimension of this revolution could make obsolete many, if not all, of our core weapons systems.

We live in a winner-takes-all world. America’s wealth, as well as its financial stability, depends extensively on technological leadership, which has created most of the new wealth in the United States during the past two decades. Chinese leadership in the Fourth Industrial Revolution would precipitate the unraveling of America’s global financial position and create a profound and systemic crisis.

The United States now imports almost US$600 billion a year of Chinese goods, 25% more than in January of 2018 when then-president Trump imposed punitive tariffs. That is equal to about a quarter of US manufacturing GDP. Far from decoupling from China, a widespread proposal during the Covid-19 pandemic, the United States has coupled itself to China more closely than ever.

That is the result of more than $5 trillion in fiscal stimulus – a boost to demand more than triple the fiscal support for the economy during the 2008–2009 Great Recession – without corresponding investment in US production capacity. The United States is now running a trillion-dollar current-account deficit, while the federal budget deficit stands at more than 10% of GDP, according to the Congressional Budget Office.

Chinese dominance in the next generation of manufacturing and logistics would erode America’s position as the provider of the world’s dominant reserve currency and ultimately lead to a funding crisis for America’s burgeoning internal and external debt.

American leadership of the Third Industrial Revolution in computation and communications made this country a magnet for the world’s capital. The United States was able to run a chronic deficit in goods and services because a world hungry for investments wanted our assets.

Substituting cheap imports for domestic manufacturing may have been a policy error, but it was an affordable policy error because of America’s leadership in the digital age.

To put this in perspective: the combined market capitalization of America’s mega-cap technology stocks (Facebook, Apple, Amazon, Microsoft, Netflix, and Google) rose to $9 trillion in 2021 from $1 trillion in 2013—that is, to 26% of the market capitalization of the S&P 500 from 8% in 2013.

Artificial intelligence applied to big data sets is the core technology of the Fourth Industrial Revolution. If computation is the engine, data comprise the fuel. While the control point of the twentieth-century economy was oil, the control point of the twenty-first century is data.

China has advanced considerably farther than America in implementing and accelerating the fruits of this new revolution. Great advantage will be reaped particularly in transportation and commercial efficiencies.

Mobile broadband is the enabling technology for Industry 4.0, just as railroads were the enabling technology for the First Industrial Revolution. With the advent of fifth-generation (5G) broadband and its capacity to transmit very large amounts of data quickly and with nearly instant response time, Industry 4.0 is already in full development. China had installed 800,000 5G base stations as of February 2021, with another 600,000 to 800,000 planned for 2022, covering all of China’s major cities.

The rubric “smart cities” encompasses a complex of 5G-enabled technologies that will drastically reduce freight and package delivery times, passenger waiting time, labor costs and energy utilization. With high-speed 5G available in almost all of China’s major urban centers now, China already has introduced autonomous vehicles for urban personal transport.

Moreover, in terms of commercial efficiency, China has made operational fully automated warehouses, pioneered by the Chinese internet retailers Alibaba and JD.com. It has integrated urban hubs with suburban spokes through high-speed trains. And it has used the internet of things and “smart” solar panels to reduce the energy cost of heating and cooling buildings.

According to Chinese industry sources, 5,000 private industrial 5G networks already are in place in China, with another 50,000 expected to be completed in the next year. These include the automated ports in Shanghai’s Yangshan Container Port, which is the world’s largest, as well as industrial robotics, autonomous vehicles, and other applications.

Comparable networks in the United States and Europe for the most part are experimental rather than operational. The Trump administration’s sanctions against sales of components including semiconductors made with US equipment or intellectual property appear to have slowed China’s 5G rollout only slightly.

China’s labor-saving advances will make it possible to eliminate many labor-intensive jobs. The job description that encompasses the most workers in the United States is “driver.” China’s newly constructed urban infrastructure and 5G buildout supports autonomous vehicles far better than the aging, often chaotic infrastructure of American cities.

China, moreover, is ahead of the United States in warehouse automation. E-commerce accounts for more than 50% of all retail sales in China, compared with 14% in the United States as of the first quarter of 2021.

Even more important are China’s inroads into the developing world. China’s Belt and Road Initiative, in combination with digital technology, aims to integrate billions of people in the developing world into China’s economic sphere. Cheap telecommunications make it possible to deliver financial services and world market access to people who previously were cut off from the global economy.

Meanwhile, America’s capacity to sustain a federal debt of $24 trillion (not to mention unfunded Social Security and Medicare liabilities of perhaps $100 trillion) will erode, along with the value of the US dollar.

The United States is able to run budget deficits now approaching 15% of gross domestic product, a level without precedent in peacetime, in part because of what economists call “seigneurage,” which is named after the premium that a monarch earned by coining precious metal into currency.

The United States accounts for about 8% of world exports, but more than 50% of international reserves and offshore-backed deposits. China already is the world’s biggest exporter with 12% of the total, and it will become the world’s largest economy in dollar terms before the end of this decade.

If China’s currency gains a global role commensurate with its economic standing, the dollar’s reserve role will fade like the pound sterling before it and the American capacity to borrow overseas will shrink considerably. That, in turn, implies a severe adjustment for a heavily geared US economy.

At current projections, the US Treasury now has to finance a federal deficit roughly equal to 10% of US GDP. During the past year, the Federal Reserve and US commercial banks have financed virtually all the issuance of US Treasury securities.

The decline of the dollar’s reserve-currency role means that foreign central banks would stop investing in US Treasury securities, and liquidate a considerable portion of the Treasury securities they presently own. That would force the Federal Reserve to buy even more Treasury securities (“monetize the debt” by creating currency with which to buy these securities), leading to aggravated inflation, or, as an alternative, to raise interest rates high enough to attract the world’s capital to US Treasury securities.

Americans no doubt will find remunerative things to do in a new Chinese Empire. The Chinese do not conquer and destroy. They assimilate. They are incurious about how barbarians manage their internal affairs, contemptuous of democracies that do not elevate their cleverest exam-scorers to Mandarin positions. America will persist even if it doesn’t prevail. We will still write smartphone apps. We will be the geeks in a new Roman Empire.

The United States has faced technological challenges in the past. To Russia’s launch of Sputnik in 1957 and Yuri Gagarin’s first manned space flight in 1961, the Eisenhower and Kennedy administrations responded t with the promise to land on the moon by the end of the 1960s.

To Russia’s military buildup in Europe and Russian advances in anti-aircraft rocketry, the Carter and Reagan administrations responded with decisive advances in military technologies and the promise of a missile shield under the Strategic Defense Initiative. The United States achieved a degree of technological superiority unprecedented in the history of modern warfare.

For the past 20 years, US corporations have shifted away from capital-intensive manufacturing industries toward “capital-light” software and services. At the same time, our Asian competitors have increased the capital intensity of their economies.

The capital intensity (the ratio of total assets to earnings before interest and taxes) of the S&P 500 Index stock index has changed little. During the same period, the capital intensity of the components of China’s Shanghai Composite Index has nearly tripled. South Korea’s KOSPI stock index shows a capital intensity roughly equal to China’s.

Industrial subsidies typically foster cronyism, corruption, and inefficiency. The United States fielded a successful industrial policy in the past for two reasons.

First, the federal government (above all the Department of Defense) set clear priorities dictated by military necessity. Superior weapons systems or predominance in space demand real breakthroughs at the frontiers of science.

Second, we drew a bright line between the responsibilities of the public sector and those of the private sector. The federal government paid for basic research by corporate laboratories, but the private sector shouldered the risk of commercialization.

The United States should directly invest in private industries only in the special case of products whose strategic importance is beyond question – in semiconductors, for example.

The right combination of R&D subsidies and tax incentives should be sufficient to persuade American corporations to revive the system of corporate laboratories that collaborated so well with the Defense Department during the 1970s and 1980s.

The United States still can lead the Fourth Industrial Revolution. But we do not have a lot of time to lose. China is close to attaining a critical mass of talent, skills, technological capacity and logistical depth with a population nearly five times that of the United States. At some point in the foreseeable future, the United States will not be able to catch up.

This essay was originally published by Asia Times on December 14, 2021.